Year Ahead 2018 UBS House View United States ChieG *nWeTtNent 0GŖce ANericaT 8. Changing context a b Mosaic Canyon Trail, Death Valley, California. Dear reader, Welcome to the Year Ahead 2018. Inside, we explore many of the issues expected to impact economic performance and inves- tor sentiment aŝer a year that challenged conventional wisdom. In 201, we saw ongoing geopolitical turCulence, heightened political and civil tensions here in the US and aCroad, and threats to the gloCal Calance of power. At the same time, we experi- enced strong and steady economic growth across a numCer of regions and sectors. This divergence resulted in persistent uncer- tainty aCout where the gloCal economy was heading and how investors should react. Against that CacLdrop, we now turn to the future and some of the Ley factors that we anticipate will drive marLets in the months ahead, including tighter monetary policy, political upheaval, technological disruption, and suCstantial environmen- tal and social challenges. As with any landscape deŖned Cy constant change, investors must worL hard to identify Coth opportunities and risLs as they progress toward their Ŗnancial goals. So the Year Ahead also ošers recommendations to help guide you and your portfolio through 2018 and Ceyond. The outlooL for 2018 is complex, and successfully navigating the marLets will reRuire thoughtful insight and gloCal perspective. The Year Ahead has Coth, and we thanL you for taLing the time to read it. Tom Naratil 1resident Wealth Management Americas and President Americas UBS Year Ahead 2018 – UBS House View 5 Contents 8 Around the world 10 The beginning of history 12 Changing context 13 Recovery remains on sound footing 17 Monetary tightening 21 Political ŗux 26 Technological disruption 30 Sustainability challenges 34 How did we do last year? 36 Top risks 37 Much higher rates 40 Geopolitical shocks 44 China debt crisis 48 Regional hotspots 50 Dealing with change 51 Agility 53 Balance 56 Calm 59 US 60 Politics, policy, and proŖts 65 Asset Classes 65 Equities 66 Bonds 67 Alternatives 68 Currencies 70 Commodities 71 Economic forecasts 73 Key events Highlights Changing context We expect another year of respectable eco- nomic growth, higher corporate proŖts, and ris- ing equity markets. But investors will need to adapt to the changing monetary, political, tech- nological, social, and environmental context. Read more from page 12 Top risks Although we expect the rally in equities to continue, we see the three most prominent threats as a signiŖcant rise in interest rates, a geopolitical conŗict, and a China debt crisis. Read more from page 36 Dealing with change To protect and grow wealth in a period of accelerated change, investors will need to demonstrate a combination of agility, balance, and calm, in our view. Read more from page 50 Chapter title Around the world To discover more about how the changing context will impact your region go to ubs.com/cio or use the QR-codes. US US growth should remain solid in 2018. We forecast a repeat of 2017’s 2.2% rise in GDP, and expect two Fed rate hikes. Within equities, we like the Ŗnancial sec- tor, which could beneŖt from higher inter- est rates, and the technology sector, which is seeing secular growth as well as ošering reasonable valuations relative to the mar- ket. In addition, we like the energy sector due to attractive valuations. Emerging markets Emerging markets are well-positioned for 2018’s changing context. They are better prepared for monetary tightening than in the past, and technology is an increas- ingly important part of the EM index. Politics is a risk, but should be navigable for well-diversiŖed investors. We see par- ticular value in select EM credits. 8 ubs.com/cio Chapter title Europe A stronger euro and Brexit uncertainty are likely to weigh on Europe’s economy, whose growth we expect to slow from 2.2% to 1.9%. We are positive on Euro- zone equities relative to the UK’s, due to contrasting earnings dynamics. It is likely to be a tough year for euro credit inves- tors. But we are optimistic on the euro, as investors gain conŖdence in its longevity. Asia We see Asian economic growth of 6.1% in 2018, with innovation as a ris- ing force in the medium term. We expect China to maintain its policy direc- tion, bal ancing reform and growth. We particularly like Chinese equities and Asian high yield bonds, and also favor companies set to beneŖt from the tight- ening labor market in Japan. Switzerland We expect Swiss growth to accelerate to 1.8% in 2018 from 0.8%. The SNB is likely to hike rates once, toward the end of the year, and we foresee modest franc depreciation versus the euro. It will be tough to make money in bonds, whose yields are negative, and we see house prices remaining unchanged. In equities, we favor high-quality dividend payers. Year Ahead 2018 – UBS House View 9 Chapter title The beginning of history Maldives. Syd Sujuaan. Unsplash A decade from now, how will we look back on 2017? As trivial or pivotal? At Ŗrst glance it was straightforward: good growth and ris- ing markets. But I think we caught a glimpse of something stirring out there in the deep blue. Mark Haefele Twenty-Ŗve years ago, Francis Fukuyama’s The End of His- Global Chief tory and the Last Man hypothesized that the conclusion of Investment 0fŖcer the Cold War signaled “the end of history”: the victory of Wealth Management free-market capitalism and liberal democracy as the Ŗnal state of human sociopolitical evolution. Yet 2017’s events raised questions about this hypothesis. To paraphrase Police Chief Martin Brody in the movie Jaws, “You’re gonna need a bigger book.” 10 ubs.com/cio The beginning of history Will the apparent peak of central bank stimu- at any point since the end of the Cold War. lus begin a journey to “normalization,” or will How will it play out? A golden, though proba- the developed world economies prove unable bly unlikely, scenario is that heightened envi- to perform without low rates and quantitative ronmental challenges and the existential ques- easing? tions posed by science will bring countries and people closer together in the quest for Does Chinese President 9i Jinping’s speech on uniŖed solutions. A less-beautiful scenario, globalization at the World Economic Forum echoing the Cold War struggle, would see a and the success of the One Belt One Road ini- clearly victorious set of choices emerge, with tiative show a new model of governance and extended hardship for those caught on the development in China? Is it leaving increasingly “wrong” side. fraught Western democracies behind, in a quagmire of Twitterstorms, growing inequali- In a status quo scenario, perhaps likeliest of ties, slower economic growth, and separatism? all, economic, political, and scientiŖc ideolo- gies would continue to diverge, with ongoing Will a new reality of human DNA editing, disharmony, as governments and peoples deal neural implants, and artiŖcial intelligence with their problems in a piecemeal fashion. redeŖne what it means to be human, and cre- ate previously unimagined levels of inequality Regardless of whether time proves 2017 trivial within and among nations? or pivotal, the world, in all areas of human endeavor, seems to have entered a period of And will China’s massive investment in green greater ideological divergence about what is technology lead the world toward a cleaner the “right” way forward – for the economy, future, or will the US withdrawal from the society, government, science, and the environ- Paris Climate Agreement start a race to the ment. Investors will need to adapt to all these bottom on pollution and emissions regula- changes to protect and grow their wealth in tion? the year ahead. Finding a new way forward Leaders and electorates are facing ever-more divergent options. And the consequences of their choices are perhaps less clear than Year Ahead 2018 – UBS House View 11 Stocksy Changing context We are positive on global equity markets as we enter the new year, amid robust economic growth and limited evi- dence of an impending downturn. But monetary, political, technological, social, and environmental contexts are all changing. Each will require investors to adapt. 12 ubs.com/cio Changing context Recovery remains on sound footing Global economic performance in 2017 looks Recession looks unlikely in 2018 to have been the best since 2011. Growth Periods of high economic growth oŝen sow accelerated in the US, the Eurozone, China, the seeds of their own demise. But there is lit- Japan, Russia, and Brazil, pushing GDP world- tle evidence today of an impending recession. wide up to 3.8% from 3.1% in 2016, on our Historically, recessions have been caused by estimates. The expansion has been particu- one or more of: oil price shocks, too-tight larly impressive for its synchronicity. Only six monetary policy, contractions in government other times in the past 30 years has every spending, and Ŗnancial/credit crises. None of economy in the G20 grown. these look likely to materialize in 2018. As we look ahead, we forecast little change in Oil prices are likely to move sideways. OECD the positive economic backdrop. Both the US inventories are around 10% above historical and Japan are beneŖting from strong labor norms, providing a cushion even if supplies markets and solid corporate proŖtability. fall next year. Barring a signiŖcant rise in ten- Growth could moderate in Europe, weighed sions in the Middle East, we expect Brent on by a stronger euro and Brexit uncertainty, crude oil prices to trade at USD 57/bbl in and in China, where property construction is 12 months’ time.