Recent economic data have begun to confirm our expectation that green shoots will spread across the global economy.
Trade has shown signs of stabilising, led by the electronic cycle and a slowing decline in global auto sales.
We expect global growth to be stable to marginally higher over the next two-to-three quarters although the coronavirus could impact this expectation due to China’s contribution to global growth.
Several tail risks that were embedded in the markets in Q4 2019 have receded materially, in our view.
The Phase 1 trade deal between the US and China reduces the potential for an escalation of the trade war in an election year and may provide a tail wind to global growth.
Greater clarity on Brexit could help stabilise sentiment in Europe and the US Federal Reserve’s (Fed) action to smooth the US repo market should improve the functioning of US dollar funding markets.
While the debate over the Fed’s balance sheet expansion and its impact on markets continues among market participants, perception may be more important than reality, and when combined with the reduction of other risks, should be helpful to risk assets, in our view.
We expect better growth in 2020 than last year as growth rates could trend upwards, driven by our slightly optimistic outlook on China, which has recently been challenged by the coronavirus breakout, and our more optimistic outlook on Latin America.
This should leave the major global central banks on hold. However, the impact of the coronavirus could influence them.
For the Fed, we believe the bar to raising interest rates is higher than lowering them further if growth falters.
In EM countries, we believe there is still room for lower policy rates.
While discussion about the use of fiscal policy to combat low growth intensified in Q4 2019, we do not expect major global fiscal stimulus at this juncture.
We believe Germany should engage fiscal policy to help its manufacturing-heavy economy become more flexible, but the debate is at the very early stage and we do not expect policy changes in 2020.
The outlook for global growth is clearer and more positive, in our view, with reduced downside risks.
We expect non-US growth to improve relative to US growth and, therefore, do not expect US financial conditions to tighten.
However, the room for error for some asset classes, such as US credit markets, is low, in our view, given high valuations.
We continue to favour interest rates in emerging markets (EM) over those in developed markets (DM).
Other than US Treasuries, we do not see value in DM duration and continue to focus on relative value trades to generate alpha.
We remain overweight EM interest rates for both carry and capital gains potential in select countries such as Mexico, Indonesia, and Russia.
We continue to expand our risk budget allocation to currency risk, where a slow slide in the dollar is likely to continue unless US growth falters, in which case, we could see a more significant sell-off.
We are focused on carry in several EM currencies such as the Indian rupee, Indonesian rupiah, Mexican peso, and Russian rouble.
We are also focused on DM and some EM currencies for potential capital gains, including the Norwegian krone, the Brazilian real and Japanese yen, as we expect US dollar depreciation.
In our view, the asset class with the largest downside potential, if risks to our outlook materialise, is credit.
In our base economic case, credit should continue to deliver carry.
However, given current valuations we favour a marginal reduction in allocation and European structured credit.
As we finish writing our outlook, we are faced with a black swan event in the outbreak of the virus linked to the Wuhan wet market.
The impact of this global scare will likely be to lower growth in the near term.
However, its medium-term impact on markets is still unclear as we await an economic policy response.
While we do not expect to make immediate changes to our Global Debt strategy, we are evaluating certain country level exposures.
