By Brad Tank, Chief Investment Officer – Fixed Income
Both the global economy and the U.S. Congress could be set for a new equilibrium in 2019.
A month ago, I was in Bali at the Annual Meeting of the International Monetary Fund (IMF) with our Chief Executive Officer George Walker, a big contingent of our emerging markets debt team, and a number of other senior colleagues. We value this event for insights into economic and development issues, of course, but also as a time to catch up with clients and partners from around the world all in one place. For me, it was also an opportunity to hit the road throughout Asia and really get my finger on the pulse there.
What I heard was enough to prepare me for the wave of selling that was to hit financial markets later in October. Sentiment in Asia was much darker than in Europe, and certainly darker than it is in the U.S. The IMF had revised its growth forecasts down immediately before its meetings, and it was a big theme of discussion there. In that part of the world, they have an acute sense of the global economic slowdown and the impact of the U.S.-China trade dispute.
Markets woke up to that in October. But there is a case to be made that this realization is good news for investors – evident, perhaps, in the steady rebound we’ve enjoyed so far in November. Moreover, the results of last week’s U.S. midterm elections arguably consolidated that good news.
New Equilibrium
The overwhelming impression I got in Asia is that investors think that Europe went into a slowdown this year, Asia is right behind it, and the U.S. will follow in 2019. On the face of it, that sounds like bad news.
Similarly, the analysts we heard do not expect the U.S.-China trade dispute to be a “NATFA 2.0”- a lot of bluster quickly followed by an outbreak of handshakes – simply because the issues involved are too large and complex. This impasse could take time to work out.
But the thing is, once those realities are discounted in market prices as they were in October, they become much less scary.
Yes, global growth is slowing – but it was faster and more synchronized in 2017 than at any time since the financial crisis. Yes, the U.S. is likely to join that slowdown in 2019 – but that could help to bring things back into synchronicity, curb U.S. inflation, let steam out of the dollar and allow the Federal Reserve to pause its rate hikes. Yes, tariffs are causing some harm – but it appears limited, and there are signs that the tide of the trade war may be turning.
All of that should make it easier for the business cycle to extend into 2020, and for markets to maintain their new equilibrium.
Divided
Investors appear to have concluded that the U.S. midterm election results support this scenario. Certainly, the Democratic Party taking back control of the House of Representatives did not derail the November bounce in equities and emerging market assets.
The stimulative impacts of last year’s corporate tax cuts have mostly worked their way through the system now, and a divided Congress makes a further inflationary shot in the arm highly unlikely. There is scope for some bipartisan agreement on infrastructure spending, but conservative fiscal hawks in the Senate are likely to keep a lid on those ambitions. The modest scale of Democratic gains and the continuing Republican majority in the Senate mean the White House still controls regulatory appointments and does not face a rollback of the changes it has already made. Markets have historically liked divided government, and if it also takes a little steam out of U.S. inflation, that is all for the good.
Congress generally has less scope to constrain the White House on trade, but in any case there is little reason or appetite for the House majority to block the new U.S.-Mexico-Canada Agreement, and with election season out of the way there may be more space for nuance in U.S.-China relations. The mood music has already improved markedly over recent days. It now seems possible that further tariffs could be taken off the table and piecemeal agreement might be reached on certain agricultural and manufactured goods.
I agree with Joe Amato that volatility is back and here to stay, for good reason. There are clear tail risks out there. The probability of President Trump being subject to multiple investigations, and potentially impeachment, is now higher. U.S. inflation and the strength of the dollar still bear watching. The freefall of the renminbi, despite China furiously selling its foreign exchange reserves, is cause for concern. There have been signs of exuberance in U.S. CCC rated bonds and leveraged loans.
Overall, however, the global economy may move back into more of a balance in 2019 – just as the branches of the U.S. legislature did last Tuesday.
In Case You Missed It
- ISM Non-Manufacturing Index: -1.3 to 60.3 in October
- Eurozone Purchasing Managers’ Index: -1.0 to 53.1 in October
- FOMC Meeting: The FOMC made no changes to its policy stance
- U.S. Producer Price Index: +0.6% in October month-over-month and +2.9% year-over-year
What to Watch For
- Tuesday, 11/13:
- Japan 3Q 2018 GDP (first estimate)
- Wednesday, 11/14:
- U.S. Consumer Price Index
- Eurozone 3Q 2018 GDP (second estimate)
- Thursday, 11/15:
- Friday, 11/16:
- Eurozone Consumer Price Index
– Andrew White, Investment Strategy Group
Statistics on the Current State of the Market – as of November 9, 2018
| Market Index | WTD | MTD | YTD |
| Equity | |||
| S&P 500 Index | 2.2% | 2.7% | 5.7% |
| Russell 1000 Index | 2.0% | 2.6% | 5.3% |
| Russell 1000 Growth Index | 1.7% | 2.2% | 8.9% |
| Russell 1000 Value Index | 2.3% | 2.9% | 1.4% |
| Russell 2000 Index | 0.1% | 2.6% | 1.9% |
| MSCI World Index | 1.4% | 2.1% | 0.2% |
| MSCI EAFE Index | 0.2% | 1.5% | -7.5% |
| MSCI Emerging Markets Index | -2.0% | 2.1% | -13.6% |
| STOXX Europe 600 | 1.3% | 2.4% | -7.9% |
| FTSE 100 Index | 0.2% | -0.2% | -4.1% |
| TOPIX | 0.9% | 1.6% | -6.1% |
| CSI 300 Index | -3.7% | 0.4% | -19.7% |
| Fixed Income & Currency | |||
| Citigroup 2-Year Treasury Index | 0.0% | -0.0% | 0.3% |
| Citigroup 10-Year Treasury Index | 0.2% | -0.2% | -4.5% |
| Bloomberg Barclays Municipal Bond Index | 0.2% | -0.1% | -1.1% |
| Bloomberg Barclays US Aggregate Bond Index | 0.3% | -0.0% | -2.4% |
| Bloomberg Barclays Global Aggregate Index | -0.0% | -0.0% | -3.5% |
| S&P/LSTA U.S. Leveraged Loan 100 Index | 0.1% | 0.2% | 4.0% |
| ICE BofA Merrill Lynch U.S. High Yield Index | 0.1% | 0.3% | 1.1% |
| ICE BofA Merrill Lynch Global High Yield Index | 0.1% | 0.4% | -0.8% |
| JP Morgan EMBI Global Diversified Index | -0.0% | 0.3% | -4.8% |
| JP Morgan GBI-EM Global Diversified Index | -0.1% | 1.4% | -8.7% |
| U.S. Dollar per British Pounds | 0.5% | 2.0% | -3.7% |
| U.S. Dollar per Euro | -0.2% | 0.2% | -5.5% |
| U.S. Dollar per Japanese Yen | -0.5% | -0.8% | -0.9% |
| Real & Alternative Assets | |||
| Alerian MLP Index | 2.7% | 2.9% | 0.2% |
| FTSE EPRA/NAREIT North America Index | 3.8% | 3.0% | 3.0% |
| FTSE EPRA/NAREIT Global Index | 2.1% | 2.8% | -2.1% |
| Bloomberg Commodity Index | -1.1% | -0.3% | -4.4% |
| Gold (NYM $/ozt) Continuous Future | -2.0% | -0.5% | -7.7% |
| Crude Oil (NYM $/bbl) Continuous Future | -4.7% | -7.8% | -0.4% |
Source: FactSet, Neuberger Berman.
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