{"id":84402,"date":"2019-12-13T00:56:22","date_gmt":"2019-12-12T23:56:22","guid":{"rendered":"http:\/\/beta.next-finance.net\/opinion\/2020-the-year-of-excitement\/"},"modified":"2019-12-13T00:56:22","modified_gmt":"2019-12-12T23:56:22","slug":"2020-the-year-of-excitement","status":"publish","type":"post","link":"http:\/\/beta.next-finance.net\/en\/opinion\/2020-the-year-of-excitement\/","title":{"rendered":"2020 \u2013 the year of excitement?"},"content":{"rendered":"

We are threatened with excitement in 2020, from civil unrest and
\nongoing trade wars to political upheaval and market volatility. We
\nbelieve global economic expansion will continue at a slower, less
\neven pace across regions. <\/p>\n

Against this backdrop of continued low growth, low interest rates and
\nlow inflation, we are aiming to tread a narrow path that balances risks
\nto the upside \u2013 such as a sudden acceleration in growth \u2013 with risks
\nto the downside, including the threat of a deeper recession. Our
\nglobal approach and research intensity amid such an environment
\nsees us well-positioned to navigate these macro and market
\nmovements. <\/strong> <\/p>\n

Macro<\/strong><\/p>\n

In late summer we reached a critical point where leading indicators were at levels that have,
\nhistorically, been a precursor to recession in developed markets. Indeed, in recent history when
\nthe US Treasury yield curve has inverted recession has followed more often than not. But
\nalthough one could argue that recession still looks likely, it is not a given and as we have moved
\nthrough the year we have gained greater confidence around a more subtle slowdown, whether
\nthat is low but positive or small but negative growth.<\/p>\n

On a historical basis, when our proprietary recession indicator for the US reaches 30% it is likely
\nrecession will occur \u2013 we reached 24% in September but this risk is now flattening out. As it
\nstands, perhaps it does not matter a great deal if we do enter recession because it will likely be
\nshallow. Germany narrowly avoided recession this year, for example, and there is no sign of
\npanic in markets, at least while unemployment remains low.<\/p>\n

However, both hard and soft data are mixed: global PMIs have fallen; new factory orders in the
\nUS are deteriorating; German business expectations are poor; capital expenditure is down. So
\nwe are now standing at a crossroads. One path sees the industrial slowdown result in rising
\nunemployment and a US consumer-led recession. The other sees the relatively full employment
\nmarket propping up the consumer to the extent that it pulls the US out of its manufacturing slump (especially alongside a potentially more positive trade perspective) and embarks on a reflationary
\ndrive.<\/p>\n

Our base case is that there is unlikely to be an acceleration in growth and we are equally unlikely
\nto see a deep recession. In that environment, the long-duration element of markets \u2013 be that in
\nfixed income or equities \u2013 remains relatively attractive. Geopolitics continues to unnerve
\ninvestors as trade wars and Brexit rumble on against the backdrop of a late-cycle economy, but
\nsecular growth trends will provide long-term opportunity regardless of whether we see slight
\npositive or negative growth.<\/p>\n

It is this narrow path between the two outcomes that we must tread as investors, and our current
\nasset allocation positioning \u2013 aggressively neutral \u2013 sets us up to do this successfully.<\/p>\n

The excitement<\/strong><\/p>\n

So where is the excitement? Or more accurately, what factors might upset the apple cart? Trade
\nis taking the headlines but my focus is on something different: civil unrest, which is occurring
\nacross the world, even though the reasons in each region differ markedly. At the beginning of the
\nyear the Gilets Jaunes protests, which centred around government austerity measures, gained
\ngreater prominence. We have seen protests in Hong Kong (initially centred around the
\nExtradition Treaty), which have the potential to escalate tensions between the US and China,
\ncertainly in the context of the ongoing trade war, and have already resulted in a reversal of
\npolicy. We have also seen unrest in Chile over a hike in rail fares and in Lebanon a banking
\ncrisis, and there are many more instances around the world.<\/p>\n

The question we must ask ourselves is whether protests that have inequality as a major factor
\nwill reach a tipping point? In Chile, we can look at the GINI co-efficient measure of income
\ninequality and conclude it is as high there as anywhere else. In the US we can also state with
\nsome confidence that inequality is stretched. But in so many places we look, unrest appears to
\nbe spreading. Could this atmosphere of protest morph into something more extreme? Clearly this
\nwould not be positive for markets.<\/p>\n

Inequality becoming stretched is in part a result of structural forces, such as underemployment
\n(the rise of zero-hour contracts and a more flexible workforce), plummeting union membership,
\ntechnology and disruption. The reaction to these forces is key and could even lead to a reversal
\nof globalisation (given that globalisation has allowed corporates to source cheap labour from
\naround the world). Indeed, this theme was harnessed by Donald Trump, whose election
\ncampaign was focused on protectionist policies designed to appeal to the domestic workforce,
\nparticularly in the steel and automotive industries. Trump\u2019s trade war has carried the same
\npopulist flavour.<\/p>\n

Unemployment remains low and yet we are still seeing unrest. If we were to endure a recession
\nand unemployment were to rise, the response from people on the street could be equally robust.
\nWhat is more conceivable is that ongoing civil unrest brings about policy change targeted at
\nspecific demographic groups but which is also to the long-term detriment of investment returns
\nand corporate profitability.<\/p>\n

The US has already signalled a reversal of globalisation by electing Trump, but in the UK an
\nextremist possibility could come in the form of Jeremy Corbyn, which could equally hit corporate
\nprofitability, although at the time of writing it appears unlikely that Corbyn, if elected, would
\ncommand a majority. Similarly so for Boris Johnson; although the fragility of our current political
\nsystem means this can change very quickly. After all, five weeks before the last US election
\nDonald Trump was \u201cunelectable\u201d.<\/p>\n

So to Brexit, which will impact sentiment in and towards the UK, but is unlikely to move the dial
\non a global level and is arguably unlikely to result in a recession even if we get a perceived
\n\u201cunfavourable\u201d outcome. While the Brexit outcome is important to the United Kingdom and its
\nclosest neighbours, the country contributes only 3% to total world GDP.[[Bloomberg, 30 Sep 2019.]]\n

Threats<\/strong><\/p>\n

As stated, our base case is that we continue to see low growth, low rates and low inflation; within
\nthis, global growth will be low but positive or small but negative, rather than soaring or collapsing. But what are the threats to that view?<\/p>\n

The trade war remains key and could go either way. While recent noise on trade has given us
\nreason for a more cautiously optimistic stance, we are mindful that events can take a sudden and
\ndramatic turn, aided by the speed with which social media proclamations can spread. That said,
\nwith the upcoming US elections in 2020 the President will want to ensure the economy is on
\nform, as it is most definitely not in the interests of Trump to risk a recession between now and
\nthen \u2013 to paraphrase economic strategist James Carville, \u201cit\u2019s all about the economy, stupid\u201d. If
\nanything, a swift trade war resolution is a risk to the upside for us, but should the rhetoric
\nescalate once again and the situation deteriorate, it could equally result in under-investment and
\na hit to the downside.<\/p>\n

More generally, a risk to the upside could come in the shape of a sudden acceleration in growth.
\nSome believe this is likely because costs to businesses are currently low, with interest or
\nborrowing rates low, as well as commodity and specifically oil prices. Also, the trade disputes
\ncould dissipate, while governments may increase or prolong fiscal stimulus. In this environment
\ncorporates can find themselves awash with excess cash and look to reinvest it, simultaneously
\ninjecting a shot of adrenalin into the economy. However, at present US corporates have been
\nbuying back their own shares rather than embarking on capital expenditure sprees. Equally,
\nthose structural forces keeping unemployment low are unlikely to shift and cause a spike in
\nunemployment that hits consumers in their wallets.<\/p>\n

Once again, we come back to the narrow path. But I like it when we can see stark risks to both
\nthe upside and downside, because it makes our centre ground positioning more likely to bear
\nfruit.<\/p>\n

Markets, themes and opportunities<\/strong><\/p>\n

What does all this mean for markets and our positioning? There is a wide dispersion of potential
\noutcomes in 2020 that warrants us making smaller allocation tilts than we have done earlier on in
\nthe cycle, not least because late-cycle phases generally exhibit increased volatility. With that in
\nmind, diversification should be prioritised amid the continued and significant uncertainty.<\/p>\n

We believe long-term secular growth trends will provide opportunities for investment. It is about
\nfinding truly quality companies with sustainably attractive returns at reasonable valuations,
\ncompanies that will ride these trends that we see dominating economies: from cloud computing
\nto changing demographics and capital light businesses. Quality companies can be found across
\nindustries and around the globe, with the top 10% of firms capturing 80% of economic profits.<\/p>\n

Worldwide public cloud services revenue has increased from $182 billion in 2018 to an expected
\n$214 billion in 2019 and $331 billion by 2022[[Gartner Forecasts Worldwide Public Cloud Revenue to Grow 17.5 Percent in 2019, Gartner, 2
\nApril 2019.]]\n, with growth exhibited by the likes of Alibaba in
\nChina and AWS and Azure in the US. As for demographics, we need only look to the explosive
\ngrowth seen in Asia, where the number of people defined as middle class is now over 50%[[ The Emerging Middle Class in Developing Countries, OECD, January 2010.]]; or to
\nage distribution, where societies are ageing and changing the demand for products and services.
\nWe have seen an uptick in capital light companies that have high returns on capital (including the
\nlikes of Aon, IHS Markit and RELX) as well as those generating low or none at all. This has been
\ndue to the growth of service or knowledge-driven businesses which are very capital light but
\nprovide vital services to established companies such as software analysis and simulation. At the
\nsame time, disruptive innovation is occurring more rapidly with competitive forces eroding certain
\ncompanies\u2019 returns much faster.<\/p>\n

Looking at equity regions of the world in isolation, we have already discussed the US, which is
\nmore expensive than other areas but has potential for greater growth. Europe is cheaper but is
\nsaddled with a challenged banking system, while in Japan valuations indicate areas of the market are cheap but it has unhelpful demographics which, while likely to change over the long
\nterm, will not change quick enough for us to benefit in 2020.<\/p>\n

So to China, where growth has undoubtedly slowed. This is not a problem per se as lower growth
\nshould be more sustainable. At a growth rate of around 6%, consumption growth may remain
\nattractive, but fixed asset investment may be more volatile. Indeed, consumption has been a
\nstable contributor to China GDP in recent years and we do not see an industrial recession
\ndamaging that relationship in the short term, despite some areas of consumption, such as car
\nsales, coming under pressure of late.<\/p>\n

There is inherently more growth in emerging markets than in other places over the long term, and
\nthe growing middle classes in Asia (especially India) remain key, but regionally we favour the US,
\nfor the sheer number of companies that have the potential for growth. This makes it a difficult
\nmarket to be underweight in.<\/p>\n

On the fixed income side, ongoing uncertainty means opportunities will be as hard to find as they
\nare in the equity universe, but quality or safe havens should again be a priority for investors.
\nThese may be rare, given the percentage of the bond universe that is yielding nothing or
\nnegatively, yet as with equities and other asset classes, our research intensity gives us the
\ncompetitive edge and confidence we need to navigate markets successfully, albeit along a
\nnarrow path, for our clients. For example, we remain overweight in credit, while our skew towards
\nquality companies is also an ongoing investment focus for us.<\/p>\n

This narrow path, with risks to the upside and the downside, is a trail we\u2019ve been following for the
\npast decade. At some stage we will deviate from it one way or another, but currently we believe
\nthere remains a good chance of us continuing to follow the path of steady but low inflation,
\ngrowth and interest rates.<\/p>\n","protected":false},"excerpt":{"rendered":"

We are threatened with excitement in 2020, from civil unrest and
\nongoing trade wars to political upheaval and market volatility. We
\nbelieve global economic expansion will continue at a slower, less
\neven pace across regions. <\/p>\n","protected":false},"author":1,"featured_media":84400,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":[],"categories":[1480],"tags":[1663,1809,1655,2073,1651,2087,2068],"_links":{"self":[{"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/posts\/84402"}],"collection":[{"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/comments?post=84402"}],"version-history":[{"count":0,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/posts\/84402\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/media\/84400"}],"wp:attachment":[{"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/media?parent=84402"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/categories?post=84402"},{"taxonomy":"post_tag","embeddable":true,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/tags?post=84402"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}