An Unsynchronized World: Tiring, but More Sustainable
I don’t know about you, but to me it feels like these past 6-plus years were a particularly challenging (and often tiring) global cycle. The S&P500 is back within a few points of a new cycle high, but it is hard to feel good about the world. I guess we can blame a rolling series of debt-related problems along the way, morphing from the eurozone crisis almost seamlessly into an EM bear market that gathered ferocity this past six months. Or perhaps this is what all bull markets are supposed to feel like: a wall of worry. At some level, however, it is the lack of synchronization that has kept the global cycle intact. Our economics team has long argued that an unsynchronized global cycle implies a lack of overheating and an ever-ready supply of central bank ammunition to tackle post-crisis disinflationary pressures. Hence, the wall of worry performs a fundamental as well as its more traditional psychological purpose.
In the near term, we think the wall of worry around global growth remains in place, and therefore the combination of DM economic resilience and a modest stimulus-driven rebound in China implies that the bounce that started a month ago has further to run. The initial move higher was led by large-cap/liquid risk indices, and in the next phase we think some of the laggards will play catch-up. This should include moderate further upside for core bond yields, which largely ignored the initial risk melt-up during October. Less liquid parts of credit markets, including HY and hard-currency EM credit, should also benefit, helped by increasingly favourable technicals as maturities and coupons exceed dwindling new issue supply.
Our fourth quarter macro baseline opens the tantalizing prospect that the Fed will do in December what the market has been consistently wrong about for the last five years, and finally execute a rate hike. Friday’s strong NFP outcome was obviously supportive of this outcome. Ultimately, however, there is no single number that will define the decision. In a highly leveraged, dollar-dominated global economy, it will be aggregate financial conditions that dictate the outcome, and we think the light is green, in line with our US Chief Economist Ellen Zentner’s long-held December call.
Looking beyond the bounce, what can we say about 2016? Our year-ahead macro outlook is still very much a work in progress, so it is too early to provide details. I always like to think in terms of what would constitute a surprise, especially relative to what is priced by markets. To my mind, a China mini-cycle-led reacceleration of global growth combined with somewhat higher DM inflation is a realistic 2016 scenario not fully priced by markets. Given the great global growth scare of 2015, our Chief US Equity Strategist Adam Parker likes to say that “good is good”. In the near term, this sentiment makes sense to me. However, I can’t help thinking that a more synchronized upswing for the global economy would ultimately be a less good thing for global markets. But we’ll worry about this scenario if and when we get there. Have a good week.