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The first quarter of 2019 is drawing to a close in marked contrast to the final quarter of 2018. January and February enjoyed a significant rebound from the weakness seen in December and while March hasn’t been quite as strong, markets have, nevertheless, been positive.
Much of this change in sentiment reflects the about turn performed by the US and European central banks. In the face of deteriorating economic numbers America’s Federal Reserve has rowed back on plans to put up interest rates three times this year and in Europe the ECB has put on hold its own intention to implement a rate rise later this year. European rates are now not expected to go up until 2020, and even then only marginally, while in the ‘States the best guess is for one quarter point rise this year.
Globally a number of economic indicators, both in terms of business sentiment and consumer confidence continue to soften.
Hard data releases (GDP figures, retail sales, industrial production etc) remain poor by comparison to what we have become accustomed to, but headwinds to future economic growth should start to ease, allowing growth to stabilise and then turn up.
There is hope that US-China trade relations will improve with talks between the two sides continuing. No new tariffs have been imposed and there is increasing evidence that the impasse is beginning to be felt in both countries. Fiscal stimulus pulling through in China should help stabilise slackening trade growth and with President Trump looking to boost the US economy ahead of a re-election campaign next year a resolution to the trade war would appear an obvious path to greater prosperity.
In the US, the Fed have shifted policy. They are easing back financial conditions and this, coupled with slackening inflation, should underpin risk assets and generate wealth.
Fixed income yields have fallen and corporate bond spreads have tightened, suggesting a lower risk of default.
Growth in services is strong and employment conditions remain healthy in most developed economies although manufacturing and industrial activity remains under downward pressure. This should abate as inventory and supply gets recalibrated but may take some time.
The macroeconomic views of our managers have shifted to be, tentatively, more positive. For example, some are prepared to entertain the idea of a very elongated economic cycle. However, worries persist that this cycle will end sooner rather than later. Those in the late stage of the cycle camp remain concerned about the lag effect from better employment conditions feeding into inflation and interest rates, which remain at extremely low levels ten years after the financial crash. They worry that monetary policy may have to be tightened by central banks to counteract latent inflation. That said, inflation remains benign across the major developed economies and further fiscal stimulus measures are being called for in Europe.
The market wide sell-off, which kicked off meaningfully last quarter, caused worryingly high drawdowns but global stock markets have rebounded strongly this year. Support from central banks, low inflation, and the promise of further stimulus measures have helped. However, some managers think it is premature to draw hard conclusions about the path of this cycle. They want more evidence that the current downturn has bottomed out.
For risk assets to continue to perform positively, economic expansion needs to return, back towards sustainable, trend levels without igniting inflation.