Global Macroeconomic & Market Outlook Volatility Strikes Back! - - PowerPoint PPT Presentation

Crown Agents Macroeconomic & Market Outlook Private & Confidential

May 2018

Global Macroeconomic & Market Outlook

Volatility Strikes Back!

Neil Michael Chief Investment Strategist

Crown Agents Macroeconomic & Market Outlook Private & Confidential 1

Table of Contents

Volatility Strikes Back 3 Inflation Risk 5 Recession Risk 12 End of QE Risk 17 Global Trade War Risk 22 Brexit Risk 25 Political & Policy Risk 29 Global Debt Risk 31 Market Outlook 34

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Macro Outlook

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S&P 500 Equity Volatility Index & UST 10 Year Bond Volatility Index

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Volatility Strikes Back

Source: Bloomberg. Data from Jan 2003 to 25 Apr 2018.

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Main Risks to the Global Economy

• 1. Inflation Risk
• 2. Recession Risk
• 3. End of QE Risk
• 4. Global Trade War Risk
• 5. Brexit Risk
• 6. Political Risk
• 7. Global Debt Risk

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Inflation Risk

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US Unemployment, Average Hourly Earnings & Core Inflation

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The Phillips Curve is Dead – Long Live the Phillips Curve

Source: Bloomberg. Data from May 2007 to Mar 2018.

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US Business & Consumer Confidence

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US Business & Consumer Confidence is Still Buoyant

Source: Bloomberg. Data from Apr 2015 to Mar 2018. PMIs: Above 50 = Economic Expansion; Below 50 = Economic Contraction.

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Growth Effect of US Fiscal Stimulus - GDP Growth &YoY

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Economic Boost from US Fiscal Stimulus

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GDP Weighted Ave DM Inflation Rate vs Oil Price %YoY

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Rising Oil Price is Inflationary

Source: Bloomberg. Data from Dec 2000 to Feb/Mar 2018.

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US Labour Force Participation Rate %

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Marginalised Workers Could Return to the Labour Market

Source: Bloomberg. Data from Mar 1948 to Feb 2018.

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Global Unemployment Rates %

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Global Inflationary Pressures Mixed But Rising

Source: Bloomberg. Data from Sep 2002 to Feb/Mar 2018.

Global Output Gaps %

Source: Bloomberg. IMF.

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Recession Risk

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DM & EM Composite PMIs

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Signs of Global Economic Moderation – Pause For Breath?

Source: Bloomberg. Data from Apr 2015 to Mar 2018. Source: Charles Schwab, Bloomberg data as of 3/30/2018.

Eurozone Manufacturing Supplier Delivery Times

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US Retail Sales & Savings

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Signs of Economic Moderation in the US

Source: Bloomberg. Data from Dec 2000 to Feb 2018.

US Total Bank Credit & Fed Funds Rate

Source: Bloomberg. Federal Reserve. Data from Jun 1994 to Feb/Mar 2018.

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Federal Reserve Dot Plot

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Federal Reserve Has Steepened the Path of Expected Interest Rates

Source: Bloomberg. Federal Reserve.

Senior Loan Officers – Net % Tightening Lending Standards vs US Libor Spread

Source: Bloomberg. Federal Reserve. Data from Dec 2001 to Feb/Mar 2018.

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US Yield Curve & Output Gap, & the Oil Price

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Yield Curve is a Good Predictor of Recessions & Volatility

Source: Bloomberg. Data from Dec 1990 to Apr/Dec 2018 (Est).

US Yield Curve & S&P 500 VIX Volatility Index

Source: Bloomberg. Data from Jan 1990 to Mar 2018/Dec 2018 (Est).

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End of QE Risk

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US, Eurozone & Japan Central Bank Balance Sheets % GDP

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Central Bank Balance Sheets Have Supported Risk Assets

Source: Bloomberg. Data from Jan 1999 to Feb 2018.

G4 Central Bank Balance Sheets % GDP vs MSCI World Equity Index

Source: Bloomberg. Data from Dec 1992 to Mar 2018.

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Eurozone, Headline & Core Inflation, & Wage Growth

19 Source: Bloomberg. Data from Mar 2007 to Feb/Mar 2018.

Eurozone Manufacturing & Non-Manufacturing PMIs, & Consumer Confidence

Source: Bloomberg. Data from Apr 2015 to Mar 2018.

ECB Could Stop QE By The End of 2018

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Japan Headline & Core Inflation, & Wage Growth

20 Source: Bloomberg. Data from Mar 2007 to Feb 2018.

Japan Manufacturing & Non-Manufacturing PMIs, & Consumer Confidence

Source: Bloomberg. Data from Apr 2015 to Mar 2018.

BoJ Likely to Continue QE to 2019

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Global QE Until 2019

Central Bank Net Asset (USB Bln, 3M MA)

Source: Bloomberg. Data from Dec 2001 to Dec 2019 (Est).

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Global Trade War Risk

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World Trade & Global Manufacturing PMI

Rising Trade Has Helped Global Economic Growth, Leaving Many Economies Vulnerable to Protectionism

Source: Bloomberg. Data from Apr 2015 to Mar 2018.

Exports to the US & Trade Balance with the US (% of GDP, 2011)

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Tariffs Unlikely to Rise to 1930s Levels But Potential Impact Non-Negligible

US Average Tariff Rates (1821 – 2016) Effect of an Increase in Global Trade Costs

Source: Bloomberg. Based on US raising import costs by 10% or 20% and the rest of the world retaliates by the same amount.

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Brexit Risk

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UK Consumer Hurting

UK Wages & Inflation UK Retail Sales & Consumer Confidence

Source: Bloomberg. Data from Mar 2007 to Feb 2018. Source: Bloomberg. Data from Dec 2000 to Feb/Mar 2018.

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London House Price Affordability

House Prices are Vulnerable

Source: Bloomberg, Nationwide. Data from 1983Q1 to 2018Q1.

% of New Loans on Fixed Rates

Source: Bank of England.

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Global Impact of Hard Brexit

Brexit Likely to Be Negative for UK But Very Modest For Global GDP

Source: Bloomberg. Global impact over three years of a hard Brexit, based on cost of imports between the UK and the rest

• f the EU rises by about 5%.

Effect on UK GDP over 15 Years of Different Brexit Scenarios

Source: House of Commons Exiting the European Union Committee. EEA = European Economic Area, FTA = Free Trade Agreement, WTO = World Trade Organisation. Effect on GDP over 15 years of different Brexit scenarios.

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Political Risk

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➢Middle East – E.g. Saudi Arabia vs Iran in Yemen (Shia Houthis) & Syria - Oil Price Spike. ➢North Korea – Nuclear Escalation. ➢Russia – Sanctions/Diplomatic Expulsions/Syria. ➢Eurozone – E.g. Italy, Germany. ➢Excessive Regulation of Large Technology Companies.

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Political/Policy Risks Have the Potential to Increase Volatility

Geo-Political Risk Index

Source: “Measuring Geopolitical Risk”, Dario Caldara & Matteo Lacoviello. Based on the monthly number of articles related to geo-political tensions. Data from Jan 1985 to Apr 2018.

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Global Debt Risk

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Global Debt Load Has Ballooned

Global Total Public & Private Debt (Trillion USD)

Source: IMF.

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China Total Debt Has Grown Enormously Leaving Borrowers Vulnerable

China Debt Levels % GDP

Source: Bloomberg. Data from Dec 2004 to Dec 2017.

China House Price Growth

Source: Bloomberg. Data from Dec 2007 to Dec 2017.

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Debt is Sustainable As Long As Growth & Profits/Wages Are Strong

China Economic Growth China Industrial Profits Growth

Source: Bloomberg. Data from Mar 2008 to Feb 2018. Source: Bloomberg. Data from Dec 2011 to Dec 2017.

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Market Outlook

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Market Performance % Year-to-Date Market Performance %

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Market Performance

Source: Bloomberg. Data to 24 Apr 2018.

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Weighted Ave 2Yr Govt Bond Yield & PMIs Weighted Ave 2Yr Govt Bond Yield & Inflation

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Government Bonds - Inflation & Growth Affecting Bond Yields

Source: Bloomberg. Oct 2014 to Mar 2018. Note: Ave = GDP weighted Average of US, UK, Eurozone, Japan & Canada

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Bond Yields & Inflation/PMIs – US & Canada Bond Yields Have Adjusted the Most to Economic Reality

Source: Bloomberg, Data to Feb/Mar 18.

2Yr Government Bond Yield vs. Headline Inflation & Composite PMIs

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2Yr Govt Bond Yield Diff & PMI Diff 2Yr Govt Bond Yield Diff & Inflation Diff

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US-CAN Yield Differential vs PMI & Inflation Differentials

Source: Bloomberg. Jun 14 to Mar 18.

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Government Bond Yields 2Yr % Government Bond Yields 10Yr %

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Government Bonds – US Offers the Best Carry & Compensation for Inflation

Source: Bloomberg, Data from 12 Jan 2001 to 20 Apr 2018.

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UST 2 Year Yield To Creep Upwards With Fed Funds Rate

US 2 Year Treasury Yield, 1Yr1Yr Forward & Fed Funds Rate

Source: Bloomberg, Federal Reserve. Jan 1990 to 26 Apr 18 & Dec 2020.

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Interest Rate Normalisation Not Global

Developed Economies Expected Central Bank Rates

Source: Bloomberg. Consensus of Economists Surveyed.

Emerging Economies Expected Central Bank Rates

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US 5Yr Gov Bond Yield Econometric Model Performance of Duration Management Strategy vs 3-5Yr Gov Bond Index

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Duration Management Strategy – Positive Alpha Over Time

Source: Bloomberg. Data from Dec 1998 to Apr 2018. Note: Based on regression (line of best fit) of 5Yr Govt Bond Yield on Equity Index, IG Bond Index, HY Bond Index, EM Bond Index, 2Yr Govt Bond Yield, Oil Price, Currency and PMI. Strategy: If spread below 1SD then 1-3Yr; if spread above 1SD then 5-7Yr; otherwise 3-5Yr Index.

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Number of Standard Deviations Above/Below Equilibrium Yield

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Econometric Model of 2 Year Government Bond Yields – UK & Canada Relatively Under-Valued

Source: Bloomberg. Dec 1998 to Mar 2018. Note: Based on regression (line of best fit) of 2Yr Govt Bond Yield on Equity Index, IG Bond Index, HY Bond Index, EM Bond Index, 10Yr Govt Bond Yield, Oil Price, Currency and PMI

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US TIPS Yield vs US UK IL Yield

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Index Linked Bonds

Source: Bloomberg. Data from 2 Feb 2001 to 20 Apr 2018.

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EM 10 Yr Gov Bond Yield vs US 10 Yr Gov Bond Yield

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EM Bonds – Slightly Wider Spreads But Policy Rates Could Fall Further

Source: Bloomberg. Data from Jan 2001 to Mar 2018. Source: Bloomberg. Data from Jan 2012 to Mar 2018.

Ave EM 2 Yr Bond Yield & Inflation Rates

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US IG Corp Spread UK IG Corp Spread

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2Yr IG Corporate Bonds –Yields Rising in Sympathy With Government Bond Yields

Source: Bloomberg, Bank of America Merrill Lynch. Data from 12 Jan 2001 to 520 Apr 2018

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US IG Corp Spread UK IG Corp Spread

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10Yr IG Corporate Bond – Spreads Slightly Wider

Source: Bloomberg, Bank of America Merrill Lynch. Data from 12 Jan 2001 to 20 Apr 2018

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US IG Corp Leverage US IG Corp Credit Quality

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IG Corporate Bond – Leverage is Higher & Quality Lower

Source: JP Morgan. Source: HSBC.

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US HY Corp Spread UK HY Corp Spread

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High Yield Corporate Bond - Tight Spreads

Source: Bloomberg, Bank of America Merrill Lynch. Data from 12 Jan 2001 to 20 Apr 2018

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US HY Corp Default Rate US HY Corp Leverage

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HY Corporate Bond – Default Rates Low & Leverage Lower Than Before Crisis

Source: JP Morgan.

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Equities – Earnings & Sales Growth Robust But Moderating

Source: Bloomberg. Data from Dec 2011 to Mar 2018..

Company Earnings Growth, Year on Year % Company Sales Growth, Year on Year %

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Global Price to Book Ratios Global Price to Earnings Ratios

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Equities –Valuations - US Expensive, Europe & Japan Cheap(ish)

a Source: Bloomberg. Data from Jan 01 to Mar 18.

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Equities – Relative to Bonds - US Expensive, Europe Cheap

Equity Dividend versus Bond Yields

Source: Bloomberg. Data as at Mar 2018.

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Number of Standard Deviations Above/Below Equilibrium Value Econometric Model of S&P 500 Index

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Econometric Model of Equity Markets – US Expensive, Europe Cheap

Source: Bloomberg. Dec 1998 to Mar 2018. Note: Based on a multiple regression (line of best fit) of Equity Market Index on 10 Yr Government Bond Index, IG Corp Bond Index, HY Corp Bond Index, EM Bond Index, 2 Yr Government Bond Index, Oil Price, Currency and OECD Composite Leading Indicator

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US Sector Price to Book Ratios US Sector Price to Earnings Ratios

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Equities – IT, Cons Disc & Industrial Are Most Expensive Sectors

a Source: Bloomberg. Data from Jan 01 to Mar 18.

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Equities – Japan Most Affected By Its Currency

Source: Bloomberg. Data from Dec 2010 to 20 Apr 2018.

T

• pix vs Yen

FTSE 100 vs GBP EuroStoxx vs Euro

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EM Equities – Supported By Dollar & Commodities

Source: Bloomberg. Data from Jan 2001 to 20 Apr 2018.

EM/DM Equity Ratio & Dollar EM/DM Equity Ratio & Commodities

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Equities – Switz, Canada, Taiwan, Korea & Mexico are Most Exposed to a Trade War

Source: Citi.

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Equities – Froth Has Been Blown Off the Market

Source: Bloomberg. Data from 3 Feb 2006 to 20 Apr 2018.

T echnical Indicators

Source: Bloomberg. Data from Jan 2003 to 23 Apr2018.

VIX & US High Yield Bond Spread

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US vs UK 2 Year Yield US vs Eurozone 2 Year Yield

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US vs Jap 2 Year Yield

Currencies – Interest Rate Differentials Support the Dollar

Source: Bloomberg. Weekly data from Jan 2006 to 20 Apr 2018.

Crown Agents Macroeconomic & Market Outlook Private & Confidential 62

Currencies – Growth Catch-Up Outside the US is a Dollar Headwind But Current PMI Differentials is Short Term Supportive

Source: Bloomberg. Data from Dec 1991 to Dec 17/18

US-EZ Comp PMI & USD/EUR Exchange Rate US-EZ Output Gap & USD/EUR Exchange Rate

Source: Bloomberg. Data from Dec 14 to Mar 18.

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Currencies – US Twin Deficits Bearing Down on the Dollar

US Budget Plus Current Account Balance (% GDP) vs Trade-Weighted Dollar

Source: Bloomberg. Data from Dec 1987 to Mar 18

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Commodity Market – Oil Prices Supported By Soft Dollar, But Moderating PMI is a Short Term Drag

Source: Bloomberg. Data from Jan 2015 to Mar 18.

Brent Oil Price & Trade-Weighted Dollar Global Composite PMI & Oil Price

Source: Bloomberg. Data from Jan 2000 to Mar 3018.

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Summary of Outlook

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Summary of Macro Outlook

Source: CAIM

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Summary of Government Fixed Income Market Outlook

Source: CAIM

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Summary of Other Fixed Income Market Outlook

Source: CAIM

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Summary of Equity Outlook

Source: CAIM

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• ther conditions and should not be taken as statements of policy or intent.

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Disclaimer

Neil Michael Chief Investment Strategist neil.michael@caiml.com Robin Woodall Senior Equities Fund Manager robin.woodall@caiml.com Charles Thomson Senior Fixed Income Fund Manager charles.thomson@caiml.com

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