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Growth prospects keep improving

14 Mar 2017

Growth forecasts around the world continue to improve, especially in Europe and the US. Consumer confidence is strong, in spite of inflation rising in the eurozone in February. In our mixed portfolios, we remain underweight on bonds and we are neutral on equities

Regions

Worldwide growth predictions rise further
The purchase managers’ index (PMI) for industrialised countries stabilised in February at a high level. For the major economic regions and countries, PMIs for the manufacturing industry are currently above the average value of 52.5. Consumer confidence is also above the historical average in these regions. Emerging markets saw favourable developments overall with indices rising for weak countries such as Brazil and South Korea and dropping for strong countries like Taiwan and Russia. Growth predictions for the next four quarters have been raised slightly worldwide, following a positive trend that started in September 2016, fuelled primarily by more favourable predictions for the eurozone and the United States.

European inflation on target
In recent months, underlying inflation in major economies has stabilized. In the eurozone, inflation rose to 2 %, while the ECB pursued an inflation target just below 2 %. Notably, unprocessed foods were a primary contributor to the higher general price level in February. In the last twelve months, prices of these foods rose by more than 5 %, partly due to poor harvests in Spain.

Investment categories

German two-year interest rate reaches lowest level ever
The iBoxx Overall Index return amounted to a positive 1.1 % in February, representing a decrease of 0.5 % for the first two months of the year (considering the poor month in January). The interest rate on ten-year German government bonds dropped by 23 basis points, to reach 0.21 %, the same level as yearend 2016. Also notable was a strong decrease of 0.20 % in the German two-year interest rate to an intraday low point of -0.96 % and at month’s end a level of -0.90 %. The German Bundesbank is reportedly buying up the relatively large amount of short-term bonds as part of the ECB’s purchasing programme. Plus, investors sought greater security. Uncertainty surrounding the outcomes of upcoming elections, especially in France, has somewhat subsided, causing the interest rate spread with Germany not to rise any further. In the fixed-rate markets, the motto was ‘risk-on’. The riskier fixed-rate categories (high-rate bonds and emerging market debt) achieved the highest returns. The spread for American high-yield bonds dropped to its lowest point in two and a half years.

Trend of rising equity prices continues
For the fourth month in a row, equity markets measured in local currencies continued to rise. In February, the return in euros for the MSCI World Index for equities amounted to 4.5 % which was also the return for the first two months of 2017. Sectors with stable and relatively high profit growth achieved the highest returns (over 6 %). Returns in the IT sector owed to the publication of very positive profit figures for the fourth quarter of 2016. The commodities-related sectors Energy and Raw Materials lagged behind. The energy sector overall remained 10 % below average in the first two months. Kraft Heinz made a takeover bid on Unilever, but quickly retracted. In the same sector, Reckitt Benckiser announced a takeover of Mead Johnson.

Currencies: Weakening euro
Announcements about the ECB’s ongoing accommodative policy combined with uncertainty surrounding elections in Europe put pressure on the price of the euro. The American dollar rose by 2.1 %. The Mexican peso and Turkish lira, both very weak last year, rose in February by over 5 % relative to the euro.

Economic forecasts

Less favourable prospects in the longer term
The global economy is heading into several quarters of historically average growth that is relatively positive compared with the period since the banking crisis. In the longer term, the forecasts are less favourable, in our view. There is no expectation of any extra impulse towards consumption at this late stage of the business cycle, partly because consumers are confronted with rising prices. Trump’s plans do not appear to be having a positive influence on consumption. A contribution from increasing investments offers greater opportunities. We expect stimulating monetary policy to make more room for fiscal policy. Following upcoming elections in various eurozone countries, we expect budget policy to contribute more strongly to economic growth. In regional terms, we expect above all to see a contribution from the recovery in commodity-exporting emerging countries where there is great potential for recovery.

Asset allocation

Markets factor in further US interest rate hikes
Globally, monetary policy appears to have passed the point of maximum stimulus. Japan and the eurozone are also expected not to further step up purchasing of bonds. In the US, the Federal Reserve is seriously considering accelerating interest rate increases. The market had been counting on a less rapid tempo for some time, but now appears to have accepted that rates will rise more quickly. The American policy rate would then rise from the current 0.75 % to 3.0-2.25 % in 2020. This will require three or four rate increases each year. For the ECB, an interest rate of about 0.5 % is anticipated for 2020. The ECB has not yet begun raising rates and will presumably also do so at a slower tempo. Inflation and growth development continue to diverge between key countries (Germany, among others) and peripheral countries in the eurozone, threatening to complicate decision-making within the ECB.

Remaining underweight on bonds
In our mixed portfolios, we continue to maintain an underweight position in bonds compared with liquidities. This is primarily due to the very low interest rate which makes the expected return on bonds less attractive to us. Additionally, our position on bonds is based above all on our economic outlook. For the months ahead, we expect further increases in inflation and less willingness by the ECB to engage in economic stimulus. After half a year of good economic news, the chances of disappointments are mounting. Because equity valuations worldwide have also risen further, we are taking a neutral position on equities in our mixed portfolios.

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