Stratégie d’investissement, novembre : un contexte macroéconomique trop positif pour être vrai ?
- We are currently enjoying a macroeconomic sweet spot buoyed by strong global growth, low inflation and accommodative monetary policy. Peak global growth may even be ahead, rather than behind us.
- Even though the flow of central banks’ asset purchases has been decreasing, the peak of global quantitative easing (QE) is still ahead of us. Post-2008, financial regulation is reinforcing the “chase for yield” and diversification, as the example of European insurers shows.
- We believe that risks are limited in the short term, with investors focused on the US Federal Reserve, the US fiscal package and how European politics will play out in December. Despite some market consolidation in the past few weeks, which we mostly interpret as profit taking, (not unusual at this time of the year), we remain confident being overweight growth-sensitive assets.
Macroeconomic backdrop in a sweet spot
Financial markets and economies have hit a sweet spot, with strong growth continuing and no sign of stagflation in sight. While growth does remain disappointing, at least compared to the 2000s Goldilocks period, GDP expansion has been significantly higher than our potential growth estimates for a couple of years in most regions and we expect this positivity to continue. The backdrop of low inflation has allowed most central banks to keep their accommodative stance with a progressive tightening. The exception is the UK where the cost of living has climbed to 3% and worries of a supply slowdown are rising1. Global GDP should accelerate further in 2018 with peak global growth reaching 3.8% (after 3.7% in 2017), reflecting a robust US expansion and improvement in several emerging markets, especially Brazil and India.
The peak of sequential growth may even be ahead and not behind us. Positive business and consumer sentiment are presently at 10-year highs in both the US and the Eurozone, consistent with the faster pace of expansion. In addition, while the easing of financial conditions is fading, the usual drivers of the economic cycle are gaining momentum. The revival of global trade, first, may prove to be an offsetting favourable factor. Moreover, the stronger endogenous engine is at work; the past improvement of labour markets directly feeds households’ purchasing power and indirectly boosts consumption thanks to renewed confidence and a reduced need for precautionary savings.
Looking into the details, our optimism is also supported by the US as a result of the progress being made towards tax reform with a corporate tax rate cut to 20% (from 39%), household tax cuts and a dollar repatriation scheme. It will remain a limited fiscal stimulus (about 0.25pp of GDP) but the economic momentum is strong, with GDP growth of around 3% annualised in the previous and current quarters - much higher than a year ago. In addition, loose financial conditions and subdued inflation underpin a firmer tone and, as a result, we have revised our 2017 growth forecast up to 2.3% from 2.1% and expect 2.5% next year (with the consensus respectively at 2.2% and 2.4%). Of course, a key variable will be US wage acceleration, which we expect to materialise considering how tight the labour market now is. But we expect the improvement to be only gradual. Altogether, our inflation forecast (also taking into account rising corporate pricing power and our expectation of a cyclical upturn in inflation expectations2) is in line with the US Federal Reserve (Fed)’s and with the Federal Open Market Committee’s progressive renewal, we expect the US central bank to deliver three hikes next year, after its upcoming December rise.
Meanwhile in the Eurozone, growth keeps surprising on the upside. Even though we have regularly been at the upper end of the consensus, the flow of data means we also have had to upgrade our expectations. With business surveys holding up at a 10-year high in most member states, as well as unemployment continuing to fall sharply (from 12% at its mid-2013 peak, to below 9% today and with hopefully further to go) we expect the on-going cyclical expansion to be self-fulfilling and long-lived. We forecast that GDP growth will be stable at 2.3% in 2018 (0.4pp above consensus). Eurozone inflation, which has disappointed lately (core inflation fell back to 0.9% in October), will only gradually rise3 because 1) the labour market slack is still ample and much wider than the unemployment rate indicates 2) the Phillips curve slope is low (but not zero) and 3) inflation expectations of economic agents (companies and consumers) have decreased with actual inflation, which is likely to still weigh on core reflation in the coming quarters. The European Central Bank’s (ECB) October meeting provided ample visibility, with QE extended until September 2018 at least. Thereafter, it should switch to its rate forward guidance, with stable rates until mid-2019 at least, notwithstanding some on-going dissensions appearing from the ECB.
Even Japan could announce the end of deflation. Indeed, headline inflation reached +0.6% this year (though some of this uptick might be short-lived) and even core inflation is rising, albeit very slowly. Similarly to other advanced economies, Japan is in this “reverse stagflation” stage i.e. low inflation but with less risk of outright deflation, buoyant growth (by Japanese standards, i.e. GDP growth above 1%) and a record-low unemployment rate, at 2.8%, a level not seen since 1993. This macroeconomic sweet spot, combined with the limited rise of global long-term rates, should reinforce the Bank of Japan (BoJ) in its “stealth tapering”. In Japan, as in the US or the Eurozone, a better macroeconomic backdrop (and outlook) does warrant a reduction in monetary action (higher rates for the Fed, less QE for the ECB, less quantitative and qualitative easing for the BoJ) to leave the monetary stance unchanged (and clearly accommodative in all three instances).
Search for yield to continue
Ultimately while the Fed will continue its gradual tightening, it means global quantitative easing should only peak in 2018, with asset purchases from the BoJ and ECB offsetting the Fed’s balance sheet unwinding. This should put a lid on long-term interest rates, at least until mid-2018 in our view. The global QE lid will be weighed down by regulation, a key driver of asset allocation for European insurers since the global financial crisis (which we examine in more detail in our theme of the month). Key avenues of diversification have been increasing the credit risk premium through allocations to non-European fixed income, mostly in the US credit market, and to illiquid risk premia mostly through private and/or illiquid asset classes, such as real estate, infrastructure debt and loans. We note that emerging market investment may be a notch over-rated, owing to capital charges imposed by regulatory requirements but that illiquid investments are definitely on a rising trend - we expect these regulatory changes and their impact on institutional investors to be largely here to stay. Bottom line: the chase for yield is still on.
What could derail this rosy picture?
In terms of potential threats to the current backdrop - there are a number of factors to consider. First, thanks to the plurality of its member states, European politics never sleeps. In Germany, for example, the coalition negotiations towards a “Jamaica” government collapsed. Looking ahead, we foresee three potential scenarios, with the most likely one being a Grand coalition with the centre-left SPD4, followed by new elections and a minority government. All cases look rather favourable for European issues, as the Chancellor Angela Merkel could rely on SPD whenever the European agenda is in the Bundestag.
December will also see regional elections in Catalonia, which could re-ignite worries, if not tensions. And finally the 14-15 December European Union (EU) Summit will be a milestone for Brexit negotiations - without clear progress, an acceleration of investments away from the UK towards the EU seems likely. Even with a last-minute breakthrough, the longer-term UK outlook remains unresolved and a fragile British government could provide new surprises.
More fundamentally, this upbeat backdrop could be derailed by inflation surprising on the upside, currently a key client concern, or if growth disappoints - for instance the maturing US economic could suffer a significant knock if the tax reforms or North American Free Trade Agreement (NAFTA) negotiations become overly-politicised again. Additionally, the high levels of corporate leverage in the US (in the late cycle) and China (in a structural slowdown) are also legitimate worries.
Some profit taking, we stay the course
In terms of tactical asset allocation, the above leaves us confident near-term and we are staying the course of being overweight in growth-sensitive assets. After a strong run, risky assets experienced a small correction this month but we have generally viewed this as some healthy year-end profit taking. For now, our core convictions remain unchanged: overweight non-US equities, European high-yield and long the US dollar. Recent ratings upgrades in Italy and Portugal and the ECB’s recent announcement reinforces the peripheral's positive sentiment and supports the risk taking channel.
1 Page D., “Bank of England to hike due to weak supply outlook”, AXA IM R&IS Insights, 26 October 2017
2 Page D., “Leaving subdued US inflation behind”, AXA IM Research, 13 October 2017.
3 Clavel L. and Baltora J., “Eurozone inflation: Attractive with patience”, AXA IM Research, 6 October 2017.
4 The Social Democratic Party of Germany
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