Kimmo Koivurinne: The second coronavirus year favoured equity investments

The growth of earnings-related pension assets in 2021 is particularly good news now that the whole world is following the situation in Ukraine. It is difficult at this stage to assess the duration of the crisis and its ultimate economic impact. The assets secure the funding of current and future pensions.

Helicopter money accelerated the economy

All in all, last year started in a hopeful mood. The start of the distribution of coronavirus vaccinations boosted strong recovery on the investment market, which had begun during the first year of the pandemic. Apart from the central bank stimulus in the United States, the economy was accelerated by so-called helicopter money, a subsidy distributed to households, which partly compensates for shortcomings in the social security system. The progress of vaccination coverage in the West and the economic recovery were reflected in sharply rising stock valuation levels.

However, no similar positive momentum occurred on the fixed-income market. Instead, loan rates in the United States and Germany, the main issuers, rose during the first half of the year. In the United States, in particular, interest rates rose sharply in February, and the first quarter was one of the worst for fixed-income investments since the early 1980s. Fixed-interest papers issued by public issuers showed mainly negative yields and only corporate bonds with higher risks provided returns.

In the second quarter, the upward trend that began in the first months of the year continued as the economy recovered globally. As in the previous quarter, the increase was supported by a sharp rise in coronavirus vaccination coverage. As the summer approached, however, the economic revival in the United States was already starting to slow down slightly, but the key stock indices were still able to reach new all-time highs. In addition to stabilization of the infection curves, the rapid economic recovery and the distribution of helicopter money to households accelerated inflation in the United States to around five per cent. Owing to unusually brisk inflation, the tightening of monetary policy and the cutting of support measures began to be considered more or less necessary. However, the criticism did not affect the operations of the U.S. Federal Reserve; instead, the central bank kept monitoring the economy. At the time, the Fed considered inflation to be temporary.

In Europe, too, the expansion of vaccine coverage also led to strong recovery of the economy in the euro area. Companies’ positive financial reports boosted stock values, and once pent-up consumer demand eased, euro area inflation also made headlines as it rose to around two per cent in June.

Real estate and inflation menaces

In the third quarter of the year, as a result of the steady rise lasting more than a year, the world’s major stock indices were near their all-time highs and the rise in market prices seemed to be slowing down. Although vaccine coverage in the West had increased at a good pace throughout the first half of the year, and confidence in the future had returned as restrictions were lifted, the key stock indices rose only slightly above zero.

At the same time, the slight handicap that had affected shares on emerging markets for the whole year increased further. The gap between emerging and developed markets was widened, above all, by Asia, where Chinese stock returns were well in the red in the third quarter. The backdrop was the high indebtedness of the Chinese real estate market. It was feared that this would lead to credit losses and would spread further to the rest of the world. The fear of credit losses was not unfounded, as China’s real estate market – centred on residential real estate – accounts roughly for one-fifth of the world’s real estate market.

In the United States, in particular, consumer prices rose almost every month of the year. Inflation was driven mainly by rising energy and commodity prices. Apart from these factors, background factors impacted inflation as the pandemic eased up and the economy started warming again. The same phenomenon was also visible – although slightly less pronounced – in the euro area, where inflation in the third quarter reached its highest level in ten years.

With the exception of Asia and emerging markets, global stock indices were close to their all-time highs in the last quarter of the year. Despite the uncertainty that had prevailed throughout the year, capital markets were also active off-exchange. In the United States, the annual volume of corporate transactions increased from the previous year by almost sixty per cent. Aside from the waning of the pandemic, a contributing factor here was that monetary policy was relaxed further by the coronavirus crisis. This did not change even when inflation kept rising from month to month and new virus variants named after the Greek alphabet were recognized. Only in December did the Fed announce future interest rate hikes for 2022.

An unusually good investment year offered hefty returns on listed stock and especially over-the-counter private equity investments. Good stock returns also strengthened the average solvency of our private-sector pension providers to a record high level. Seen from the traditionally safe viewpoint of fixed-income investors, the past year was challenging as the rising inflation neutralized real returns. This emphasizes the importance of diversification in the investment of pension assets. It is important that investments are sufficiently diversified across different asset categories and also geographically.