2019 economy outlook
GROWTH STILL SUPPORTIVE, INFLATION REMAINS STEADY
- Analysts still expect global growth of 3.1% in 2019 and inflation to slow its rate of increase to 2.4% in 2019 and 2.5% in 2020.
- Developed Markets (DMs) are forecasted to grow 2.0% in 2019 and 1.7% in 2020, while Emerging Markets (EMs) target 4.5% growth in 2019 and 4.6% in 2020.
- Downside risks to growth include monetary policy divergence across markets, rising protectionism and trade tensions, heightened political risks and a China or US slowdown. However, a global investment rebound could offset these influences in the second half of 2019.
Fiscal stimulus and sustained capital investment are accompanied by a robust jobs market, keeping unemployment rate (currently 3.7%) at below the natural rate of 4.6% during 2019. US EPS growth falls from 22% in 2018 to below 11% in 2019 as the tax cut stimulus fades. Risks of Fed policy tightening, higher Treasury yields and trade concerns could weigh on growth.
Continued business investment, 2020 Tokyo Olympics and supplementary budgets which could include roughly 3 trillion yen (0.5% of GDP) in fresh spending. We believe that consensus EPS growth of around 5% for 2019 is achievable. Japanese equities are trading at 13x Price-to-Earnings (P/E), a 10% discount to a 10-year average, although risk could come from potential Yen strength and escalation in trade tensions.
Strength of domestic demand backed by favorable labor market developments and easy credit conditions. Europe-ex-UK trades 47% cheaper on a Price-to Book (P/B) basis relative to US equities. We forecast 10-12% earnings growth for 2019 dependent on easing US-EU trade friction.
Fiscal policy may play a larger role in supporting domestic demand, while monetary easing could continue.
EMERGING MARKETS (EMs)
Growth backed by an urbanizing critical mass of population as well as savings to fund consumption and investment. We are positive on EM equities, particularly in Asia, with EM earnings growth in 2019 expected to remain stable around 11%. US-China economic relations represent risks for EM Asia and in recognition of this, we have spread the EM Asian overweight more broadly to include markets such as Thailand and Malaysia – which may be marginal beneficiaries of multinationals diversifying their supply chains should US trade tensions with China escalate.
Although growth is slowing as the economic cycle matures, analysts emphasize that this is not the start of a downturn. We expect global growth of 3.1% in 2019 and inflation to slow its rate of growth to 2.4% in 2019 and 2.5% in 2020. For 2019, we expect inflation of 1.2% in Developed Markets and 4.1% in Emerging Markets.
Risks to the global growth outlook include:
- Monetary policy divergence across markets.
- Rising protectionism and trade tensions.
- Heightened political risks.
- China and/or US slowdown.
- More trade tariffs.
- Roll-off of tax windfall.
- Tightening labour markets.
- Higher commodity/energy prices.
Expect monetary policy divergence to continue as the Federal Reserve continues to normalize rates while the European Central Bank (ECB) and Bank of Japan (BOJ) keep policy accommodative with policy rate differentials. We expect the Fed to hike twice more in 2019, raising the Fed Funds overnight rate to above 3.00%. ECB rate increase likely to be on hold, with a first rate hike expected in September 2019 at the earliest. The Bank of England’s (BoE) Monetary Policy Committee sees risks of higher inflation in the UK emanating from supply constraints following (and assuming) an orderly Brexit. This could spur the BoE to raise rates quickly after the Brexit transition period commences in March 2019. The Bank of Canada (BOC) raised rates by 25bp in October last year to 1.75% and is likely to raise rates three times in 2019 as it targets a “neutral” cash rate closer to 3%.
Within Investment Grade (IG) bonds, US IG spreads have tightened, though returns have been adversely impacted by the spike in long-term Treasury yields. Short-dated US IG corporate bond yields have reached 3.3%, the highest since 2009. While longer-dated bonds are likely to be subject to heightened rate volatility over the medium-term, short-end yields offer value. There are opportunities in short-term IG corporate floaters as the Fed likely continues to hike rates, pushing USD LIBOR rates higher and making short-term floating-rate issuer debt (that are benchmarked against USD LIBOR) more attractive.
Bullish oil market sentiment has given way to a bear market, with Brent falling from over $85/barrel to below US$60/barrel. Saudi Arabia, Russia, and the US have driven increased oil production, even as oil demand concerns multiplied on high oil prices and a strong US dollar, as well as global economic growth downgrades.
Current global trade tensions remain elevated as focus remains on political headlines rather than on economic fundamentals. Despite a favourable global economic outlook, trade tensions are leading to downgrades in economic growth forecasts from institutions including the IMF. Investors with globally diversified multi-asset class portfolios have typically earned the strongest returns per unit of volatility over time. As the US economic expansion enters its 10th year and as the Fed approaches the later stages of a tightening cycle, diversified high-quality portfolios can provide buffer in times of volatility.