Erin Browne, Head of Asset Allocation, Investment Solutions
While synchronized global demand growth was a defining feature of 2017, the short-term growth impulse has been more discordant – with the strength of the US contrasting sharply with softening in other major economies. Overall, the rate of acceleration in global economic growth has moderated, but the residual rate of growth remains strong and above-trend.
We do not see US economic strength wavering significantly in the short-term. While the current growth cycle in the US is already long by historical standards, recent tax reform is likely to spur a reacceleration in demand growth later in the year. Rising capital expenditure also gives us confidence in longer-term productivity growth and in the sustainability of this cycle.
Elsewhere, Chinese demand growth rates continue to moderate as policies aimed at rebalancing the economy and reducing debt kick in. Short-term macro-economic data from the Eurozone and Japan have been disappointing but we do not ascribe a high probability to a more meaningful or sustained downturn in either economy given how loose monetary policy remains. Meanwhile, growth rates across emerging markets vary significantly, but we see economies and corporates across the region in good financial health to weather the twin threats of a stronger USD and higher USD funding rates.
On the inflation front our view is that consumer prices are likely to tick higher in the US as the output gap closes, high input costs feed through and as wage rises accelerate – and even more slowly in other major economies. Against this backdrop monetary policy outside of the US is likely to stay looser for longer. We do not believe that the Federal Reserve will deviate from its gradual path of normalization unless confronted by a sustained acceleration in inflation data or other evidence that the US economy is overheating.
Overall we retain a positive view of global equity markets and do not see rising nominal bond yields as a de facto negative for equities given the strong support from earnings growth, M&A activity and from share buy backs. Equities globally remain attractively valued against both government bonds and corporate bonds. In fixed income, our view on global duration remains negative. In particular, Swiss and German bonds continue to look very overvalued and, in our view, have an increasingly asymmetric risk profile.
Within credit, current default rates in high yield are still very low by historical standards. We do not expect any material pick-up in US corporate debt defaults in the near-term, but do not view the risk/reward as attractive. Elsewhere, we see continued strong demand for EM hard currency debt's attractive real yield.
We identify higher-than-expected US inflation, geopolitics and a China hard landing as the three principal risks to global risk assets. Of these, geopolitics in general and rising protectionism in particular are perhaps the most immediate threat.
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