Outlook As good as it gets. Structural concerns remain . CFA - - PowerPoint PPT Presentation

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Nov 17, 2023 486 likes •712 views

Capital Markets Outlook As good as it gets. Structural concerns remain . CFA Forecast Dinner, San Diego CEO, Andreas Utermann Table of Contents Macro Outlook 1 How should assets be allocated 2 Special Topics 3 Concluding Remarks 4

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Capital Markets Outlook

„As good as it gets. Structural concerns remain.“

CFA Forecast Dinner, San Diego CEO, Andreas Utermann

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How should assets be allocated 2 Special Topics 3 Concluding Remarks 4 Macro Outlook 1

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At the turn of the year, the global economy enjoyed its strongest cyclical conditions in many years. Framing the current economic landscape of financial markets1

Macroeconomic environment at a glance

Unchanged Deteriorating Improving Change (3 months)

Macro data flow Economic surprises Consensus forecasts 1 2 3

December 2017

1Macro data flow as measured by our proprietary Macro Breadth Indices, which track the direction of important economic data (global economy: 226, developed countries: 135, EM: 88, US: 50,

Eurozone: 61, Japan: 39, UK: 38, China: 40) on a monthly basis. Source: Allianz Global Investors Global Economics & Strategy, Bloomberg, Datastream, UBS, Consensus Economics Global Developed Emerging US Eurozone Japan UK China Growth Inflation Growth Inflation GDP CPI 3

Macro Outlook 1

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102 95 57 40 19 12 61 48 86 34 64 35 20 40 60 80 100 120 US UK Eurozone Japan Russia Brazil Months Current cycle Historical average

Less matured

After running for more than eight years, the global business cycle appears to be quite matured. While we deem the probability of a recession in 2018 as subdued, medium-term risks continue to build in the current “fragile goldilocks” environment of diminished potential growth and increasing resource utilization.

Source: Allianz Global Investors Global Economics & Strategy, Bloomberg.

US recovery already the 3rd longest post-WWII Ill-timed fiscal stimulus may extend recovery, but raises risk of boom/bost scenario

2018 economic outlook: “Late cycle extension with risks attached”

Already matured global business cycle may enjoy some extra time

Length of current vs. historical business cycles

Maturity of economic expansion varies by country

Economic expansion

More matured

12 24 36 39 58 73 92 102 106 120 50 100 150 7/80-7/81 4/58-4/60 11/70-11/73 8/54-8/57 3/75-1/80 11/01-12/07 11/82-7/90 since 7/09 2/61-12/69 3/91-3/00 months

Macro Outlook 1

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Peak liquidity will constitute a major turning point for global monetary policy in 2018.

Source: Allianz Global Investors Global Economics & Strategy, Bloomberg, Datastream.

Unconventional policy normalization will lead...

Major central banks heading towards gradual normalization

...to a climax in central bank liquidity in 2018

5 10 15 20 25 2006 2008 2010 2012 2014 2016 2018 2020 Monetary base (% of nominal world GDP) US Eurozone Japan UK China projection

Macro Outlook 1

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Resynchronisation of global growth has lately been driven by pickup in global business fixed investment.

1Based on 86 global, regional and country macroeconomic sentiment indicators (GDP weighted) 2Global business fixed investment ex China/India. Model = f(global business sentiment, corporate profits, corporate credit costs)

Source: Allianz Global Investors Global Economics & Strategy, IMF, CPB, Bloomberg, Datastream

Global business and consumer sentiment1 at cycle high

Global cyclical economic snapshot: (Almost) as good as it gets

Global unemployment rate at multi-decade low Global business fixed investment2 finally picking up Revival of world trade and global industrial production

5 6 7 8 9 1999 2002 2005 2008 2011 2014 2017 % Global unemployment rate

1 2 1999 2002 2005 2008 2011 2014 2017 standard deviation Business sentiment Consumer sentiment

5 10 1999 2002 2005 2008 2011 2014 2017 yoy % Global business fixed investment Model

4 8 12

6 12 18 2001 2003 2005 2007 2009 2011 2013 2015 2017 yoy % World trade volume Global industrial production (rs) 6

Macro Outlook 1

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Global output gaps have closed, notably in advanced economies. Core inflation is therefore likely to gradually edge higher.

Source: Allianz Global Investors Global Economics & Strategy, OECD, Datastream, latest estimate for 2018.

Global output gap points at gradually rising core inflation

Macro Outlook 1

Global output gaps as % of GDP

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We expect the persistent narrowing of output gaps to put incremental upward pressure on core inflation in 2018.

Source: Allianz Global Investors Global Economics & Strategy, Bloomberg, Datastream. Underlying inflation gauge as calculated by the Federal Reserve Bank of New York.

Global consumer inflation still well behaved

Inflation pickup should become more visible in 2018

Underlying inflation pressure in the US on the rise

CPI dip in 2017 mainly caused by transitory factors Muted response to the erosion of economic slack so far

1 2 3 4 5 6 1996 2000 2004 2008 2012 2016 yoy % World CPI World CPI core

1 2 3 4 5 6 1995 1998 2001 2004 2007 2010 2013 2016 yoy % CPI (headline) Underlying inflation gauge (all data)

Macro Outlook 1

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How should assets be allocated 2 Special Topics 3 Concluding Remarks 4 Macro Outlook 1

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US Treasuries: On the expensive side

Fundamental interest rate model: US Treasuries

*) Model [US Treasury 10y yield = f(T-Bill 3m, ISM manufacturing, FED international custody holdings, term premium 3m1y, consensus expectations CPI, GER/ITA10y spread)]. Source: Allianz Global Investors Global Economics & Strategy, Bloomberg. Past performance is not a reliable indicator of future results.

US Treasury 10-year bonds are still expensive from a fundamental valuation perspective. Moreover, unsustainably negative term premia pose a serious risk for a medium-term setback.

1 2 3 4 5 6 7 1997 2000 2003 2006 2009 2012 2015 % US Treasury 10y yield Model*

0.0 0.4 0.8 1.2 1.6 1993 1997 2001 2005 2009 2013 2017 % U.S. term premium (10y swap) Average

Term premium still at depressed (negative) levels

Asset Allocation 2

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Source: AllianzGI, Datastream, *numbers for regional indices without inflation adjustment. Latest available data used (December 1st 2017)

Overview of Global equity markets cyclically adjusted P/E (S&P 500, otherwise MSCI indices in local currency)

Equity valuation overview: US expensive, most Emerging Markets attractive, Europe around fair

US valuations point to below-average long-term real returns in the coming decade, while European and EM offer the best long-term upside from a valuation perspective.

2 4 6 8 10 12 14 16 18 20 22 24 26 28 30 32

130+-year US historical average

Asset Allocation 2

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US earnings revisions very positive, while dispersion of earnings estimates is picking up. A warning signal ?

IBES revisions momentum (#positive/ #negative revisions) S&P 500 vs coefficient of variation of 12-month forward IBES estimates The sharp increase in US earnings revisions reflects the recent US tax cuts. In 2000 and 2007, the combination of high earnings revisions momentum and low, but rising dispersion of earnings estimates was a warning signal for the S&P 500.

Source: Allianz Global Investors Global Economics & Strategy, IBES 12

Asset Allocation 2

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US macro data have underperformed rest of the world since mid-20162 Dollar is significantly overvalued from a long-term fundamental perspective1

US dollar: medium-term downtrend prevails

Interest rate (monetary policy) differentials have not boosted the dollar3

1 Fundamental valuation model based on proprietary behavioral equilibrium exchange rate approach, 2 Macro data flow measured by proprietary Macro Breadth Indices 3 Interest rate differentials based on nominal 3m1y forward rates, Source: Allianz Global Investors Global Economics & Strategy, Bloomberg, Datastream

Speculators maintain their moderate underweight in the dollar

Medium-term headwinds from still ambitious long-term valuations and a synchronized global economic upswing continue to weigh on the US dollar.

US macro data outperform US macro data underperform speculative long USD speculative short USD

0.0 0.5 1.0 1.5 1999 2002 2005 2008 2011 2014 2017 rolling 12-month correlation US dollar vs. short-term interest rate differential (average G-10 FX)

rising rate differential = stronger USD rising rate differential = weaker USD

0% 10% 20% 30% 2000 2002 2004 2006 2008 2010 2012 2014 2016 long-term fundamental valuation vs. USD G-10 industrialized FX Emerging Markets FX

USD undervalued USD overvalued

210 230 250 270 290 310 330 350

5 10 2004 2006 2008 2010 2012 2014 2016 Macro data flow: US vs. world (ex US) US dollar (nominal effective, rs)

20 40 60 80

5 10 15 20 2010 2011 2012 2013 2014 2015 2016 2017 2018 bn USD % US dollar (trade weighted, 6m change) Net speculative positions (CFTC, rs)

Asset Allocation 2

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Behavioral equilibrium exchange rate model: Over-/undervaluation According to our long-term behavioral equilibrium exchange rate model, the fundamental mispricing of many currencies (in particular in Emerging Markets) against the US dollar is still significant.

Currencies: Long-term fundamental valuation

14 Source: Allianz Global Investors Global Economics & Strategy, Bloomberg, Datastream, IMF Note: The analysis is based on real exchange rates. Nominal fair value FX rates are calculated through inflation adjustment. Euro crosses (apart from EUR/USD) are derived from bilateral USD rates. Over-/undervaluation relates to the second currency quoted (GBP/USD at +21.4% means that the dollar is overvalued).

0% 10% 20% 30% USD/TRY USD/MXN USD/RON USD/PLN USD/SEK USD/PEN USD/NOK USD/COP USD/HUF USD/IDR USD/JPY USD/CNY USD/PHP EUR/PLN EUR/SEK USD/CLP USD/RUB EUR/NOK USD/TWD USD/ZAR USD/CAD USD/THB USD/CHF USD/INR USD/KRW USD/CZK EUR/HUF EUR/JPY USD/ILS EUR/GBP USD/SGD AUD/USD EUR/CHF USD/BRL EUR/CZK NZD/USD EUR/USD GBP/USD

ver-/undervaluation

05.01.18 31.12.16

vervalued

undervalued Asset Allocation 2

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How should assets be allocated 2 Concluding Remarks 4 Macro Outlook 1 Special Topics 3

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Criterion

Perception of a structural change/ perception of “new era” Strong international capital inflows Ample liquidity/ expansionary monetary policy Financial deregulation New financial instruments Increase in leverage Overtrading Asset prices deviate substantially from fair value in one asset class Overvaluation also in a second asset classes Swindles

Observation

no instrinsic value; price increase exceeds price momentum in other historical bubble periods S&P 500, VIX, real estate in several markets (eg CAN, AUS, HOK, CHI, SWE, NOR) BTC: unregulated market "a new currency", perception of 4th Industrial Revolution BTC used to circumvent capital controls easy monetary policy globally BTC derivates at BTC exchanges; BTC futures at Cboe, CME ; ICO; Bitcoin CFD rising global leverage; leveraged investing in Bitcoin according to bitFlyer (3rd largest Bitcoin exchange) avg.daily volume > 9m up from 2 mn in 2012 (BIS data) BTC used by criminals

Bitcoin: a textbooklike bubble

Historical (asset price) bubbles

Source: Allianz Global Investors Global Economics & Strategy, Datastream, Peter Garber, Rob Shiller, data as at 1/24/2018

BTC: bubble evidence

         

1 10 100 1000

1 2 3 4 5 Prive in real terms years around bubble peak

Bitcoin (2012 - Today) Tulip Mania (1636-1637) Mississippi Bubble (1719-1720) South Sea Bubble (1719-1722) Great Depression Real Estate (1920-1930) US Stocks (1924-1932) Gold (1975-1982) Oil (1975-1985) Japan Real Estate (1984-1994) Japanese Stocks (1985-1995) Tech Bubble (1995-2005) US Real Estate (2000-2010) Chinese Stocks (2005-2012) US Stocks (2013 - Today)

Special Topics 3

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Will the 4th I.R. lead to even more support for populists and political polarisation ?

Europe: inequality and support for populist parties USA: inequality and political polarisation

Source: Allianz Global Investors, voteview.org, H. Rosenthal, Keith Poole, University of Texas. Polarisation data as at 2017; the most recent data point is an estimate based on the Philadelphia Fed Partisan Conflict Index, as at January 2018; Gini coefficient as at 2015 The higher the score, the more polarized the Senate and House are. The score measures legislators’ liberal-conservative positions using their roll call voting records.

 Average European Gini coefficient Vote share of populists parties  US Gini coefficient   US polarisation score

Source: Timbro, University of Texas, Allianz GI, Gini coefficient : simple average of DEU, FRA, GBR, ITA, NDL, GBR and SWE Gini coefficients; Gini coefficient as at 2013, vote share data as at 2017

Rising inequality is a key factor in explaining the increasing support for populists. More to come?

30 35 40 45 50 0.25 0.5 0.75 1 1.25

1880 1900 1920 1940 1960 1980 2000 2018e

8 10 12 14 16 18 20 25 27 29 31 33

1980 1985 1990 1995 2000 2005 2010 2015

Special Topics 3

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The “impossible trinity” (Dani Rodrik) You can’t have all three simultaneously and in full

Populism: Rising risk of deglobalisation

Source: Allianz GI, Dani Rodrik

Globalisation/ deep economic integration Strong nation states Democracy

Global governance Golden straitjacket Bretton Woods compromise

Consequences of populism/ deglobalisation

Less (productivity) growth
Higher inflation, notably wage inflation
Need to change growth models away from export

dependency

Potentially higher real rates in DM

Populists push for deglobalisation. Deglobalisation is inflationary and a drag on growth, all else equal.

Special Topics 3

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VIX

Market volatility is at historically low levels

Rising volatility- once it happens – will offer opportunities for active investors. Ongoing monetary policy normalization may ultimately trigger higher volatility.

19 Source: Allianz Global Investors Global Economics & Strategy, Datastream. Own calculations.

Special Topics 3

0.19 0.18 0.06 0.09 0.13 0.25 0.16 0.23 0.08 0.12 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017

Volatility (cross-asset average)

21.8 16.4 13.9 13.2 9.9 7.5 8.1 11.6 10.1 4.5

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Five Reasons for a comeback of active asset management

Special Topics 3

Cyclical element: Under the assumption interest rate cycle will turn, we expect volatility to increase and current high degree of correlation between all asset classes to decrease at some point - active asset management products will become much more attractive in that environment Structural element: Active asset management industry will become more competitive with only the better players surviving Structural element: Active asset management will start diversifying and getting into new business areas e.g. Securities Lending - efficiency of active asset management products would further increase Lower fees going forward improve ability of active managers to outperform on margin – attractive and trend-setting pricing variants make active asset management products appealing Market delivering lower returns necessitates active asset management and product innovation in the actively managed fund space, e.g. Alternatives, might draw more assets to active management

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How should assets be allocated 2 Macro Outlook 1 Special Topics 3 Concluding Remarks 4

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1. Late-cycle extension In a maturing business cycle, we expect the global economy to continue growing above potential in 2018. 2. Fragile Goldilocks Weak supply side dynamics (productivity, demographics) restrain medium-term growth potential. 3. Gradual reflationing Rising core inflation driven by progressive absorption of spare capacity and still accommodative monetary policy. 4. Monetary policy normalization Peak central bank liquidity forthcoming. Apart from the Federal Reserve, only glacial pace of rate normalization with no hikes expected by the ECB/Bank of Japan in 2018. 5. Risks Increasing signs of complacency, abrupt central bank and financial market repricing, China slowdown, oil price spike, late-cycle imbalances (e. g. high global indebtedness, asset valuations), US fiscal sugar high, (geo-) politics. 1. Holding on to a long position in risky assets as long as cyclical data are strong. Prepare to trim exposure of risky assets, notably the most expensive ones, once cyclical data start to lose momentum. 2. Increasingly ambitious valuations in almost all asset classes pose serious risks once the cyclical tailwand abates. They also point to sub-par medium-term returns in a historical comparison.