One of the favourite expressions of economists at the moment is “synchronised global growth”.
It is the first time since 2010 that all members of the G20 have grown in lock-step, with every single one of the 45 major economies tracked by the Organisation for Economic Cooperation and Development (OECD) growing or accelerating.
2018 would see “a synchronised global expansion with room to run,” according to BlackRock’s international outlook.
Now for the bad news
However, when it comes to the US stock market in particular, one thing everyone can agree on is that it is very late in the cycle.
It is approaching nine years since the US equity market touched its lows during the depths of the global financial crisis, with Russell Investments global chief investment officer Jeff Hussey describing the current bull run as “positively geriatric”.
“By rights, the current market cycle should be shuffling into retirement, putting its feet up and taking things easy,” he says.
Global equity markets will push higher in 2018 before facing headwinds later in the year as markets factor in the rising risk of a 2019 recession.
“After eight years of growth, many of the signs of an ageing business cycle are starting to flash amber,” Mr Hussey says.
But the traffic lights for equities are looking more red than amber, according to Morningstar head of equities Peter Warnes.
“In 2017 global equities markets, led by the US, enjoyed a Trumping time. In 2018, they may well suffer a Thumping,” says Mr Warnes.
“Risk assets have enjoyed an extremely favourable environment. Excess liquidity, low interest rates and a high level of complacency have driven risk asset values to high, and in many cases, very stretched levels.”
The end of easy money
The central banks of the United States, the Euro area and Japan have almost US$14 trillion on their balance sheets – up from US$3.45 trillion in August 2008.
This enormous weight of money has been the driving force behind risk asset prices for almost a decade, and the tap is about to be turned off – albeit very slowly.
This will be done in two ways: first, central banks will gradually stop buying as many bonds (also known as the ‘tapering’ of their quantitative easing programs) and interest rates will start heading up.
The US Federal Reserve has learned its lesson after the ‘taper tantrum’ of 2013 when bond holders rushed for the exits and yields surged: this time around, plans to end ‘accommodative’ monetary policy have been painstakingly telegraphed.
The prospect of rising interest rates seems like bad news for bond holders, but State Street Global Advisors global chief investment officer Rick Lacaille still sees plenty of opportunities in fixed interest.
“While we are unlikely to see the bond bull to keep charging in 2018, we do think the bears will probably be proven wrong for another year, even as the Fed is expected to raise rates and other major central banks begin tapering their accommodative policy,” Mr Lacaille says.
“That said, investors need to balance duration and credit risks carefully. While emerging market debt valuations have become less attractive, a tilt towards quality can continue to deliver results.”
Domestic matters
On the domestic front, UBS strategist David Cassidy forecasts Australian equities to produce another “trend-like” return in the 8-10 per cent range throughout 2018 – and fall behind global peers.
“Our global equity colleagues covering the US, Europe and Asian equity markets are looking for the bull market to extend through 2018 with another year of above-average returns driven by above trend earnings per share growth,” Mr Cassidy says.
“Under this scenario we continue to see Australia as a laggard on a local currency basis.”
Vanguard adds: “While Australian GDP growth is forecast to do a little better in 2018, the composition of this growth (slower consumer and slower housing) combined with the long bank/short IT composition of the Australian stock market means that Australia is unlikely to produce the double-digit EPS growth expected in other regions.”
UBS suggests overweighting resources, other financials and neutral banks, and underweighting REITs and high price earnings such as healthcare, online media and “China consumer plays”.
T Rowe Price portfolio manager Randal Jenneke indicates sectors that have led the market for much of the post-GFC period such as consumer staples, telecoms, utilities, infrastructure and real estate investment trusts could suffer.
With market valuations high and volatility low, political tensions both domestically and abroad leaves the local stock market vulnerable to geopolitical risks.
Toil and bubble?
The Australian housing market is also starting to cool with national housing price growth slowing to 3-6 per cent in 2018 following five years of strong housing price growth at low double-digit annual rates.
HSBC Australia chief economist Paul Bloxham points to three factors as the reasons for the slowdown that would weigh heavily on the Australian property market in coming quarters: a boom in housing supply; tightened prudential settings; and receding foreign demand.
Although the market was cooling, Mr Bloxham pointed out it was “cooling, not crashing”.
“In short, we do not see a significant local housing imbalance and view Australia as having a housing boom rather than having a housing bubble.”
Emerging outlook
Off the back of a strong performance in 2017, investment professionals continue to maintain a positive outlook for emerging markets in the new year.
Emerging markets have enjoyed a friendly environment thanks to the progress of structural reforms in a number of developing markets, synchronised global growth, and stimulative monetary policy, according to BlackRock.
“Structural reforms in labour and banking can cause pain in the near-term, braking growth. But in the long-term, well-targeted reforms [will] bring gains.”
With China setting its sights on structural reform, quality rather than quantity of growth will be the focus.
BlackRock head of Asian and Global emerging markets equities Andrew Swan says: “China’s main emphasis after the 19th communist party Congress will be streamlining state-owned-enterprises.”
Similarly, HSBC’s Asian Economics Quarterly (Q1 2018) report indicates that the environmental agenda will be a key driver of industrial, urbanisation and regional development policies.
Looking outside China, analysts are also bullish on countries such as India, Brazil and Indonesia, which are also undergoing substantial reforms and inviting greater inflows of foreign capital.
Japanese equities will also continue to perform well next year, and indeed was one of the best-performing asset classes of 2017, according to State Street Global Advisors (SSGA).
However, emerging markets are not without their risks, with a faster-than-expected slowdown in China and the impact of US fed rate hikes on Asian monetary policy listed as key risks by HSBC.
An expanded version of this article will be published in the February edition of ifa magazine.
