Outlook 2017: Multi-asset
After several years of a persistently low growth environment, a renewed focus on fiscal policy in 2017 could revive hopes of stronger economic expansion.
- Fiscal stimulus from the US and China could lift expectations for global growth
- A higher growth environment would be supportive for value areas of the market
- Several risks remain, including the outlook for free trade globally
We have increased our 2017 global GDP forecast to 2.8% on expectations of stimulus from the Trump administration and China, plus slightly better performance from countries such as the UK. Global inflation is likely to rise to 2.5%, possibly even 3%, as year-on-year energy price inflation will show a large rebound from the lows.
Can fiscal policy revive growth?
More broadly, Adam Smith's "invisible hand1" is being questioned. We talked about quantitative easing fatigue last year as we felt that the limits of central bank policy had been reached. A new orthodoxy is emerging focused more on fiscal policy which could revive hopes of stronger growth.
This outlook is supportive of the positions we established over the last six to 12 months: a shift into value stocks out of quality; an upgrade to Japanese equities, emerging market assets and commodities; a reduction in exposure to government bonds (duration) and an increase in our US dollar exposure.
The hunt for value
The low growth, low interest rate environment that has persisted for a number of years has resulted in extended valuations for higher quality parts of the market. Over the course of 2016 we therefore began to rotate into value areas that have been out of favour recent years.
We said at the time that patience may be needed to exploit these areas of value. However, as central bank influence on global markets diminishes, increasing investor focus on stock fundamentals could help to unlock the value of these under-owned stocks, boosting their prices.
Government bonds look priced for perfection
We see numerous risks ahead for government bonds. After several years in which bond markets have delivered strong performance, bonds now look priced for perfection and have become increasingly vulnerable to higher interest rate volatility.
What are the risks?
First, Trump's protectionist stance casts a shadow over our emerging market exposure. Certainly he is likely to emphasise "fair trade" over "free trade" but whether that will take the form of tariffs remains to be seen. More concerning is that global trade growth remains absent, irrespective of Trump's victory. For now we continue to own emerging market assets because they look cheap but we have hedged some of our exposure with long US dollar positions against lower yielding Asian currencies.
Second, the sell-off in government bonds and the strength of the US dollar are tightening monetary conditions in the US. We have talked before of the calibrating effect of bonds and currencies on growth which has so far obviated the need for aggressive monetary tightening by the Fed. With the US still the main growth engine of the world, we cannot afford for it to sputter.
Third, European politics could be the wildcard for 2017. With a number of significant elections, a clear anti-establishment mood and a dormant sovereign debt problem, we remain vigilant on this front and avoid European assets for now.
1. The term “invisible hand” is a metaphor for how, in a free market economy, self-interested individuals operate through a system of mutual interdependence to promote the general benefit of society.↩