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Expect a late-cycle relief rally as industrial production rebounds. Watch for investors to shift back towards cyclicals and yield curves to steepen. This is still not normal. To sustain a flagging US economy, it has shelved attempts to raise interest rates to its estimate of neutral and shrink a balance sheet inflated by quantitative easing. Meanwhile, European and Japanese interest rates remain negative.
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Expect a late-cycle relief rally as industrial production rebounds. Watch for investors to shift back towards cyclicals and yield curves to steepen.
This is still not normal. To sustain a flagging US economy, it has shelved attempts to raise interest rates to its estimate of neutral and shrink a balance sheet inflated by quantitative easing. Meanwhile, European and Japanese interest rates remain negative. Central banks are understandably concerned about the global economic outlook. Having held up inthe US economy capitulated in to the broad trend of slowing growth, leading to a dramatic flattening of yield curves and heightened recession fears.
However, the global consumer remains resilient, offsetting weakness in the manufacturing sector. This should pave the way for a rebound in industrial production as the global inventory cycle swings back into positive territory, causing recession risks to recede.
In part, robust consumption reflects a lagged response to the increasingly synchronised looser monetary and fiscal conditions introduced to counter economic weakness, the supportive impact of which should grow steadily over It is noteworthy that developing economies have not followed the normal pattern of raising rates in response to slowing growth and interest rate cuts in the developed world, in contrast to similar episodes in the past.
In general, they have been able to cut interest rates and implement pro-growth policies. On the other side of the table, China will welcome a respite from tariff-induced economic weakness as it continues to transition to a domestically-led growth model.
At the time of writing, a Trump vs. Warren contest looks the most likely pairing for the main event. A win for the Democratic candidate would usher in a significant shift away from pro-business Trumpian Republicanism and towards a redistributionist, environmentally friendly, anti-big business stance. In the key battleground of technology, US moves against China are fuelling a drive for greater technological self-reliance.
That should spur the European economy, at least temporarily. Longer term, high debt and unfavourable demographics remain big challenges for the EU. With global growth likely to revive and central banks on course to keep short-term interest rates low, yield curves look set to steepen once. This implies that economies will be allowed to run hot, potentially setting the scene for the last phase of this elongated cycle. Should this be the case, the inflation expectations embedded in fixed income valuations look too low.
Government bond issuance is also rising, which could put further upward pressure on real interest rates. The fact that the greenback failed to climb materially higher in against other currencies, even though US growth was outstripping that of the rest of the world and US rates were rising in relative terms, suggests that the US dollar bull market has run its course — at least zabeel investments 2020. That should relieve pressure on emerging market currencies.
After a good year, credit should deliver reasonable, albeit lower, performance in a low-yield world. Fundamentally, companies remain in decent shape. If the global economy holds up, as we believe it will, default rates should remain low and consequently credit quality should remain solidly underpinned. But as the need for yield accelerates, investors might feel inclined to search in the latter area once more, particularly if macroeconomic tail risks are clearly seen to be moderating.
However, credit spreads are already generally tight — especially in Europe, where the ECB is using credit markets not in the pursuit of investment return but as a monetary policy tool and the cycle is mature, making the performance of these securities very dependent on continued economic stability. Selectivity remains key in a late cycle environment Credit valuations over a 15 year period.
Despite the headline noise from a few bad apples like Argentina and Turkey, under the surface most emerging markets will continue to consolidate the gains they have made in terms of macroeconomic stability over the last few years.
Aggregate current-account balances will remain in surplus, while inflation across a number of major emerging markets — including Brazil, Russia and India — will consolidate at low levels never seen in history.
Growth has been disappointing, but this has been a global phenomenon. A moderate weakening in the broad US dollar will further ease financial conditions in emerging markets, which should ensure higher emerging market growth in than In turn, this could lead to unloved and underperforming local currency debt outperforming credit markets inreversing the trend of recent years.
Countries to watch include Brazil, Russia, Indonesia, Egypt and Ukraine, which will go from strength to strength in implementing bold economic reform agendas. Chastened by the last two years, weaker emerging markets such as Turkey, South Africa and Argentina should at least go from bad to better, offering tactical opportunities for investors.
In equity markets, index returns in belied the widely diverging performance within the asset class, driven by a crunching rotation out of cyclical stocks and into defensive and select growth stocks.
That shift was fuelled by growth fears. But with macro uncertainty set to moderate in the year ahead, we could see some powerful reversals of the trends that have characterised equity markets since As yet, the earnings dynamics of cyclical stocks remain weak, but markets may move well ahead of any actual improvement.
Generally unloved by investors, equity markets outside the US offer risk premia that look attractive on both an absolute and relative basis. Meanwhile, Japanese equities continue to benefit from a structural trend of improving quality and an end to deleveraging. With a longer-term perspective, we have been using stock-market weakness in and to build strategic equity exposure to Asia, especially China. The difference in valuations between relatively cheap Asia equities and extremely expensive US equities is at a level that has historically been associated with protracted periods of outperformance for more moderately valued stocks.
Asian equity markets represent a prodigious and growing opportunity set, creating a great hunting ground for active investors. But in a growth-starved world, the structural trend of the growing power of the Asian consumer is set to remain one of the dominant investment themes of our times. The principal risk to our central case is a US, and hence global, recession. This could arise from a shock, or because manufacturing weakness has already infected the more important consumer sector in the US and other key economies.
It may also turn out that policy loosening has come too late to undo earlier tightening in both China and the US. That would likely cause another wave of uncertainty and deepen the manufacturing recession. With bonds likely to offer poor defensive properties — and perhaps even compound losses in the risk asset classes they are supposed to counterbalance — investors must seek other ways to diversify their portfolios. Gold is a strong contender to fulfil this role.
Reaching a six-year high inthe yellow metal has clearly benefited from heightened uncertainty, negative investor positioning and a reversal of the trend towards higher interest rates. Supporting gold demand, central banks in many countries are showing a renewed interest in accumulating gold reserves instead of US Treasuries. Gold stocks may prove to be an interesting complement to physical gold exposure in investor portfolios. After years of restructuring and balance-sheet improvement, a good number of gold producers are in robust financial health and well-placed to generate sustainable returns at prices well below current levels.
This content is for informational purposes only and should not be construed as an offer, or solicitation of an offer, to buy or sell securities.
All of the views expressed about the markets, securities or companies reflect the personal views of the individual fund manager or team named. While opinions stated are honestly held, they are not guarantees and should not be relied on. Investec Asset Management in the normal course of its activities as an international investment manager may already hold or intend to purchase or sell the stocks mentioned on behalf of its clients.
The information or opinions provided should not be taken as specific advice on the merits of any investment decision. This content may contains statements about expected or anticipated future events and financial results that are forward-looking in nature and, as a result, are subject to certain risks and uncertainties, such as general economic, market and business conditions, new legislation and regulatory actions, competitive and general economic factors and conditions and the occurrence of unexpected events.
Actual outcomes may differ materially from those stated. All rights reserved. Issued by Investec Asset Management, issued November Select your location and role to view strategy and fund content. Which role best describes you? Select role Select role. Investment Views Key Takeaways Macro: We expect a late-cycle relief rally in as industrial production rebounds and recession risks recede. Fixed income: With global growth likely to revive and central banks on course to keep short-term interest rates low, yield curves should steepen.
Currencies: The US dollar may correct from the position of strength it has sustained for several years, relieving pressure on emerging market currencies. Emerging markets: Despite the headline noise, most emerging markets will continue to consolidate the macroeconomic stability gains they have made over the last few years.
Equities: As macro uncertainty moderates, trends in equity markets could reverse, with investors shifting back towards cyclical stocks. Equity portfolio strategy: Divergent valuations between expensive US stocks and relatively cheap Asian stocks are offering an opportunity to build strategic equity exposure to Asia.
Alternatives: Gold could be a valuable diversifier next year, as bonds are likely to offer poor defensive properties. Global Multi-Asset Income — prepare for binary outcomes Ineither, as equity markets hope, we will avoid sliding into a recession or, as bond markets fear, we will enter one.
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Global Multi-Asset Income — prepare for binary outcomes
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