Global Weekly: Recession, what recession?

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The second quarter of 2019 started where the first quarter left off, with global equity markets rising. This positive start to the quarter was largely driven by Monday’s Chinese PMI (purchasing managers index; an indicator for economic health in the manufacturing or services sectors).

After 3 consecutive months of readings below 50 (indicating contraction), the March NBS Manufacturing PMI rebounded to 50.5 (indicating expansion), far ahead of market expectations of 49.6. The improvement was broad-based and led by production and raw material inventories. This turnaround appears to reflect that policy easing measures in China are starting to kick in and pushing up growth. In the US, the ISM Manufacturing PMI also came in ahead of expectations at 55.3 and the Markit US Manufacturing PMI was more or less in line. As we have seen last week, when German PMI numbers were released, European macro indicators have yet to bottom out.

Days away from the start of the first-quarter earnings season, the global earning revisions ratio ticked up in March, as analysts revised down EPS estimates at a slightly slower pace. The ratio improved in all regions, except Japan, and in most sectors. According to news agency Bloomberg, year-on-year EPS growth expectations in the US for the first quarter indicate a slight contraction of around 1%. The weakest numbers were registered in the energy, materials and IT sectors. In Europe, expectations are for a 2.6% year-on-year EPS growth. In the coming weeks, it will become clear whether these expectations are accurate.

On the political front, days away from the 12 April Brexit deadline, the UK seems stuck in its punk rock phase, as it continues to sing along with The Clash’ ‘Should I stay or should I go’. Trade negotiations between the US and China are chugging along and expectations are that a deal is announced before the end of April.

In this context, we maintain a neutral stance on equities, with an overweight position in emerging markets and the US and an underweight position in Europe. On a sector level, we are overweight energy and underweight financials. We are neutral on all other sectors.

Bonds: tepid signs of recovery

Recent fundamental data from China suggest some kind of stabilization of the Chinese economy, while some data in the US remain soft. Additionally, the US current account deficit unexpectedly widened in the fourth quarter of 2018. Both factors combined highlight that either the US economy is less productive than presumed or the US dollar is too strong – or even both.

Some of Trump’s economic advisors, seemingly blaming the Fed for the economic slowdown, call for immediate rate cuts. Money market futures contracts recently indicated a rate cut of nearly 40 basis points (bp) within the next two years. These futures contracts, however, have already drifted back to a 25 bp cut and might even move lower over the next couple of weeks if headlines on global growth were to turn more positive. A rebound in both US real rates and inflation expectations are also pointing at a healthy economic environment and, as a consequence, a rise in yields. US employment data, to be released on Friday, may confirm that economic conditions are reassuring and that previous weak data really had been just a one-off. If so, investors might shift towards risky assets. In that case we also do not expect much rate volatility in response to Fed Vice Chair Clarida’s speech on the economic outlook next week, as the Fed remains patient.

We do not expect much impact on rates or spreads from the ECB policy meeting on 10 April, as ECB policymakers will probably keep interest rates on hold. We also do not expect any significant yield fluctuations from the parliamentary elections in Finland on 14 April. On 12 April, all eyes will definitely be on the UK parliament again, as it has to approve a deal in order to get an extension of the Brexit delay until 22 May. We expect that this will not keep investors from searching for yield in risky assets such as corporate or emerging market bonds, where we maintain our overweight positions. Concerning the latter, we strongly believe that emerging countries will remain fiscally prudent and keep close watch on deficit spending.