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From Goldilocks to Reflation

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From Goldilocks to Reflation #SICM18 @Schroders_UK Economic Outlook - From Goldilocks to Reflation Schroders Investment Conference 2018, Manchester Azad Zangana, Senior European Economist and Strategist 22 May 2018 From Goldilocks to reflation Latest economic themes and questions Global: Moving from Goldilocks to reflation – can risk assets cope? Trade wars: A serious risk for the global economy UK: Navigating Brexit Source: Schroders Economics Group. 1 Global overview From Goldilocks to reflation – can risk assets cope? Thinking about the business cycle How do we define the different stages of the economic cycle Recession / Recovery Disinflation Output below Output below trend trend and rising, and falling, growth growth decelerating, accelerating, inflation falling Inflation falling Expansion Slowdown / Output above trend Stagflation and rising, growth Output above trend accelerating, and falling, growth inflation decelerating, rising inflation rising 40% 24% 20% 16% Percentages refer to share of time in each stage of the cycle since 1974. Source: Schroders Economics Group. 3 Global growth has surged since 2016 Leading indicators for the G7 suggest a continued acceleration in growth %, y/y 15 10 5 0 -5 -10 -15 -20 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Recovery Expansion/ Reflation Slowdown/ Stagflation Recession/ Disinflation G7 Industrial production, % y/y Global activity indicator, 3mMA (normalised) Source: Thomson Datastream, Schroders Economics Group. 4 May 2018. 4 Inflation pressures are also building Producer prices in the G7 and China suggest higher CPI inflation to follow %, y/y 10 8 6 4 2 0 -2 -4 -6 -8 -10 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Recovery Expansion/ Reflation Slowdown/ Stagflation Recession/ Disinflation G7 CPI G7 PPI China PPI Source: Thomson Datastream, Schroders Economics Group. 4 May 2018. 5 US fiscal stimulus set to boost GDP growth Impact of Tax Cuts & Jobs Act (2017) and the Bipartisan Budget Act (2018) Impact on the budget deficit Impact on GDP growth Budget deficit (% of GDP) Real GDP growth, % 6% 3.0 +0.2 5% 2.5 +0.4 +0.4 2.0 4% +0.1 +0.3 3% 1.5 2% 1.0 1% 0.5 0% 0.0 2016 2017 2018 2019 2020 2021 2022 2016 2017 2018 2019 2020 Current law New spending bill (BBA, 2018) Impact of lifting secquester caps Impact of BBA New spending bill without sequester caps Impact of Tax Cuts & Jobs Act Underlying growth Source: Oxford Economics, Congressional Budget Office, Schroders Economics Group. 2 March 2018. Forecast risk warning: Please see the information slide at the end of this presentation. 6 Has the recovery in the eurozone peaked? Some loss in momentum in the eurozone, but overall growth remains strong 6% 6% 4% 4% 2% 2% 0% 0% -2% -2% -4% -4% -6% -6% 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Eurozone GDP growth, Y/Y Belgian National Bank survey (standardised) Markit PMI, EZ Composite (standardised) Source: Thomson Datastream, Markit, Belgian National Bank, Eurostat, Schroders Economics Group. 4 May 2018. 7 Higher inflation means rising interest rates Schroders interest rates forecast Main policy interest rate (%) 6 5 4 3 2 1 0 -1 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Fed BoE ECB Schroders' forecast OIS forward curve Source: Thomson Datastream, Bloomberg, Schroders Economics Group. March 2018 forecast. 4 May 2018. Forecast risk warning: Please see the information slide at the end of this presentation. 8 Trade wars A serious risk for the global economy Trade wars: US vs. China Limited impact from proposals so far Share of Chinese exports by destination Share of US exports by destination 4% 4% 6%6% 19% 34% 2% 19%19% 2% 48% 48% 2% 2% 18% 17% 26%26% Africa Asia US US (tariff) Europe LatAm Other China China (tariff) EU NAFTA RotW Source: Thomson Datastream, Schroders Economics Group. 4 April 2018 10 11 willthirdbetweenpartiestradeChinawarimpactAtheUS and Spillovereffects Source: Source: OECD % of GDP* % of 0.0% 0.5% 1.0% 1.5% 2.0% 2.5% 3.0% TiVA China , Thomson , Thomson Taiwan Malaysia Datastream Singapore Korea , Schroders Schroders , Economics on Group. based April data 6 *Estimates 2011 2018. Chile USA Thailand Value added from Chinese exports to the exportsto US from Chinese added Value Philippines Japan South Africa Australia Vietnam Peru Ireland Canada Indonesia Russia Germany Finland Value added from US exports to China the from USexports added Value Israel Austria Mexico Colombia Hungary Belgium Netherlands Brazil Italy UK India France Spain Poland Turkey A wider trade war would be a disaster for EM growth Many EM countries are highly leveraged to global trade %, y/y Exports % GDP 40 80 90 80 30 60 70 20 40 60 10 20 50 0 0 40 -10 30 -20 -20 20 -40 -30 10 -40 -60 0 05 06 07 08 09 10 11 12 13 14 15 16 17 18 IDR INR TRY CLP BRL ZAR PLN PEN THB PHP CNY HUF RUB COP MYR KRW TWD MXN EM export values MSCI EM EPS Source: Thomson Datastream, Schroders Economics Group. 6 April 2018 12 Are equities under threat? US equity P/E ratio suggests valuations are stretched MSCI-US reported price-earnings ratio 35 30 25 1 SD=21.9 Equities overvalued 20 Avg. 16.4 15 10 -1 SD=10.8 5 Equities undervalued 0 50 54 58 62 66 70 74 78 82 86 90 94 98 02 06 10 14 18 Data based on MSCI US index. Source: Thomson Datastream, Schroders Economics Group. 4 May 2018. 13 Equities appear to be well supported by growth Earnings growth has been the key driver of returns, but the market is derating %, Y/Y 120% 100% 80% 60% 40% 20% 0% -20% -40% -60% -80% 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Dividend growth Rerating (change in P/E ratio) EPS growth Total returns Global equities calculated by Datastream (7,048 stocks). Source: Thomson Datastream, Schroders Economics Group. 4 May 2018. 14 UK Coping with Brexit Brexit negotiations to move to phase II A broad agreement reached on citizens’ rights, Northern Ireland and the divorce bill The 8 December agreement on citizens’ rights, Northern Ireland GBP: the Brexit barometer and the divorce bill paves the way to begin phase II of negotiations, which will include a framework for trade. 5 1.16 Northern Ireland is not fully resolved yet, but a commitment to maintain the 1998 peace accord could lead to a softer Brexit, 0 possibly EEA membership. 1.14 The UK still believes it can get a bespoke deal, with a full -5 withdrawal from the single market and separate trade deal for tariff free access. 1.12 -10 Some restrictions on migration are politically necessary for the UK, along with repatriation of power from the ECJ. -15 1.1 A 21-month transition period has been agreed, but the terms have Oct 17 Nov 17 Dec 17 Jan 18 Feb 18 Mar 18 Apr 18 May 18 not been finalised, and is subject to the Irish border solution. Google Trends: Soft - Hard Brexit GBP/EUR, rhs Source: Schroders Economics Group. 4 May 2018. 16 That sinking feeling – the Brexit effect so far The UK has slipped from top of the G7 growth league to bottom Source: Thomson Datastream, Schroders Economics Group. 20 April 2018. 17 House prices continue to slow Range of house price indices House prices (Y/Y) House prices (Y/Y) 15% 15% 10% 10% 5% 5% 0% 0% -5% -5% -10% -10% -15% -15% -20% -20% 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Range of houseprices Average of surveys Source: Thomson Datastream, ONS, Halifax, Nationwide, LSL/ACAD. Schroders Economics Group. 4 May 2018. 18 Strong growth to continue to support risk assets Key questions As the global economy moves from goldilocks to expansion, higher interest rates will challenge further gains in risk assets Strong growth can support earnings further, but as bond yields rise further, equity valuations will put prices under pressure The fiscal stimulus package in the US could be very powerful for growth Europe has lost some momentum recently, but temporary factors are probably to blame Brexit details have to be finalised by the Autumn, expect more volatility The UK economy will continue to struggle, but will this stop the BoE? Concerns over trade wars are likely to persist, and may dampen confidence and growth If trade wars escalate, many third parties will be impacted Emerging markets look healthy, but a strong US dollar could hurt risk assets Source: Schroders Economics Group. 19 Thank you Disclaimer Marketing material for professional investors and advisers only. Past performance is not a guide to future performance and may not be repeated. The value of investments and the income from them may go down as well as up and investors may not get back the amount originally invested. Schroders has expressed its own views and these may change. The data contained in this document has been sourced by Schroders and should be independently verified before further publication or use. This presentation is intended to be for information purposes only and it is not intended as promotional material in any respect. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. The material is not intended to provide, and should not be relied on for, accounting, legal or tax advice, or investment recommendations. Information herein is believed to be reliable but Schroder Unit Trusts Limited (Schroders) does not warrant its completeness or accuracy.
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