Economics

Economics and Financial Markets

January 2019

08/01/2019

Giovanni Leonardo

Giovanni Leonardo

Head of Investment Wealth Management Switzerland

Norbert Brestel

Norbert Brestel

Head of Investment Solutions

Exit from loose monetary policy

Political markets dominate the current environment. A reduction or disappearance of these risks would probably send equity markets soaring. The fundamental picture has become gloomier over the short term. However, it will undoubtedly improve again soon, thanks to Europe and the emerging markets. Over the medium term, investors are ad-vised to get ready for a market re-entry.

Although global growth expectations for 2019 have dimmed noticeably, we are only expecting temporary growth weakness and not a recession. Conditions are anticipated to stabilise in spring and summer. The Chinese economy is likely to pick up again, and the euro area's homespun problems should abate.

Global economic growth momentum is likely to slow from 3.3% in 2018 to 2.9% in 2019, and US growth to decline from 2.9% to 2.4%. Europe is reporting less momentum and is still struggling with growth rates below 2%. A key reason for this growth slowdown is the announced switch from an ultra-loose to a "normal" monetary policy. Market participants fear that central banks could trigger a recession by adopting an overly restrictive monetary policy stance.

Worries that growth might slow too sharply will probably prompt the US central bank (Fed) to hold off with too rapid rate hikes. US interest rates could stand at 3% in mid-2019 and then decline again gradually.

A cooling down is basically nothing negative, only part and parcel of a normal, healthy economic cycle. But this time it is being driven virtually exclusively by political factors with binary outcomes. The trade dispute between the US and the rest of the world already worried us in 2018 and could reach a crucial turning point in 2019.

A global escalation could plummet the entire world into recession. We consider this scenario improbable and expect President Trump and China to come to an agreement. In Europe, the major net borrowers Italy and France will also give rise to turbulence next year, as will the UK's Brexit.

Italy, France and the US are prime examples of how people's fears can influence the way in which they vote. A rise in debt is being preferred to unpleasant structural reforms.

Interestingly, the US and Italy will have to refinance more than 50% of their outstanding debt in the next 18 months. Borrower quality will be a key selection criterion for investors next year. This applies to both government and corporate bonds.

In such an environment, having a widely diversified portfolio is particularly important. Heightened political uncertainty has prompted us to maintain a neutral to slightly positive equity weighting. In the wake of 2018's correction, equity valuations look fair again, and the markets appear to have already discounted a largely pessimistic economic scenario for 2019. We prefer the US, Europe and emerging markets and are avoiding UK equities for the time being.

We remain cautious on debt securities and are avoiding long-dated bonds given not-to-be-underestimated inflationary risks. We will also be raising borrower quality during the course of the year. We have benefited from a normalisation in yields for US investors and have started to buy government bonds. Nonetheless, we are retaining a short duration. We consider emerging market bonds as being reasonably priced, but they must be carefully selected.

Giovanni Leonardo

Giovanni Leonardo

Head of Investment Wealth Management Switzerland

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Giovanni Leonardo

Giovanni Leonardo

Head of Investment Wealth Management Switzerland

Norbert Brestel

Norbert Brestel

Head of Investment Solutions

 

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