Global Economic Performance: Who is in the Driver’s Seat?
April 10, 2017 | The 2016 U.S. presidential election was preceded by a breakout in equities and watershed rise in interest rates. Trump’s win only accelerated a trade already in progress: the reflationary global industrial repricing.
As the charts below indicate, the risk rally, led by emerging markets (EM), gained significant traction in mid-2016 as global PMIs accelerated. This process took months to unfold, with China in the economic driver’s seat, absorbing the world’s industrial excess capacity. Beijing policy makers structured an economic recovery through increased lending, fiscal spending and currency devaluation.
So as we look ahead, what should investors be focusing on to evaluate the health of the global economy?
In the U.S., despite our expectations of weak first-quarter growth, the economy should rebound moderately. This recovery is by no means of its own doing: we calculate that it will be primarily driven by exports.
U.S. capital expenditure and consumer spending remain challenged. First, household income growth is low, and consumer lending is moderating. This dynamic should create a stagnant consumer environment for 2017. The steep slide in corporate lending is the headliner, but ultimately we expect business spending will recover in latter 2017.
We have high conviction that a fiscal package will pass, but this will impact growth in 2018, and there is uncertainty about the size, timing, and the fiscal multiplier. Nevertheless, the reflationary global growth rebound should drive Treasury yields higher.
We see spread product as fundamentally attractive against the backdrop of accelerating corporate profits, improving high yield default trends, and rising inflation. And as we recently communicated, from a short-term tactical perspective, we viewed the spread tightening in the first quarter of 2017 as an opportunity to reduce risk and provide flexibility to take advantage of potential market volatility. From a longer-term strategic perspective, as long as our investment theses for healthy economic growth and low default rates remain in place, we see any credit market weakness as a buying opportunity for investors who are underexposed to credit risk.
In addition, emerging markets, such as Brazil and Russia, are compelling investments because they benefit directly from better terms of trade and rising global export volumes, as well as extremely constructive credit dynamics creating trapped domestic demand.
Heading forward, China’s economic pulse must be closely monitored. The recovery was human-engineered, and a rebalancing from stimulus should lead to stresses once again in global growth and financial stability.
However, once every five years, China’s government selects its most powerful decision making body: the politburo standing committee. This selection will take place in the Fall, and President Xi will seek to consolidate power. Such an event indicates that policy makers in China will seek to create a stable economic environment throughout 2017, which should provide a tailwind for the global economy.
Global Equity Breakout in July 2016
Interest Rates: Tracked Recovery in Global PMI
Past performance does not guarantee future results.
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