(Bloomberg) -- Forget the goods supply-chain crisis threatening global risk assets: the real test comes next year when a service-sector boom drives labor costs higher and pressures central banks to tighten policy more decisively.
That’s the view of Paul O’Connor, head of multi-asset with Janus Henderson Investors, who argues that as economies open up in 2022, consumer demand for services will stretch already tight labor markets in the U.S. and elsewhere. That means any respite for markets from an easing in the current inflationary goods bottlenecks will be short-lived.
“The goods bottlenecks we’ve seen this year are just the dress rehearsal for the big story next year which will be the service-sector boom and all the related pricing and policy pressures that come with that,” said O’Connor, who helps manage several funds for the $426 billion asset manager. “That could provide more headaches for the central banks.”
As a result, O’Connor is staying underweight government bonds and investment grade debt in his portfolios. He is neutral on equities, as even with strong growth expectations in 2022 there may be “collateral damage” to stocks if interest rates reprice driven by the service sector, he said in an interview.
The threat of ongoing inflation remains a hot topic for investors, with everyone from Cathie Wood and Elon Musk to Larry Summers weighing in on the topic this week. While some believe the Federal Reserve line that price rises will be transitory, longer-term inflation expectations are climbing and traders are bringing forward bets on rate hikes.
Bonds are taking a hit, with the Bloomberg Global Aggregate Total Return Index down over 4% this year, though equities are holding up for now with the MSCI AC World Index just off an all-time high.
The risk is at some point inflationary pressures become so pronounced that they force central banks onto a path of tightening more decisively, and that’s more problematic for risk assets, O’Connor said.
“The repricing of interest rates globally is incomplete,” he said. “The bottlenecks here have nudged the central banks onto the first phase of monetary tightening but there could be more pressure in the same direction next year as the service sector picks up.”
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