May 2013
The Global Macro Outlook:
Investing In Turbulent Times
Peter Berezin
Chief Strategist
Bank Credit Analyst
1
THE THREE KEY QUESTIONS
THAT INVESTORS NEED TO CONSIDER:
• Will U.S. growth accelerate anytime soon?
• Will the euro crisis be resolved?
• Will China suffer a hard landing?
© BCA Research 2013
2
U.S. GROWTH TO STAY SLUGGISH FOR MOST OF THE YEAR
U.S. ECONOMIC SURPRISE
INDEX*
50
50
0
0
-50
-50
-100
Ann%
Chg
3.5
3.5
3.0
3.0
2.5
2.5
2.0
2.0
© BCA Research 2013
2010
3
-100
Ann%
Chg
BLOOMBERG CONSENSUS
ECONOMIC FORECAST FOR U.S. GDP
FULL-YEAR 2012
FULL-YEAR 2013
FULL-YEAR 2014
2011
* ROLLING 3-MONTH STANDARD DEVIATION OF DATA SURPRISES, SMOOTHED.
SOURCE: CITIGROUP GLOBAL MARKETS INC.
2012
2013
PLENTY OF PENT-UP DEMAND
% Of
GDP
% Of
GDP
U.S. CYCLICAL SPENDING (PERCENT OF POTENTIAL GDP)
30
30
26
26
22
22
18
18
%
%
5-YEAR PERCENT CHANGE, ANNUALIZED:
REAL PRIVATE-SECTOR CAPITAL STOCK PER CAPITA
3
3
2
2
1
1
0
0
© BCA Research 2013
1950
4
1960
1970
1980
NOTE: SHADED AREAS REPRESENT NBER-DESIGNATED PERIODS OF RECESSIONS.
1990
2000
2010
GROWTH SHOULD ACCELERATE BY THE END OF THE YEAR
% Of
GDP
5
70
60
4
50
40
Housing on
the mend
3
U.S.
30
RESIDENTIAL CONSTRUCTION
(PERCENT OF GDP) (LS)
2
20
NAHB* HOMEBUILDERS OPTIMISM
(ADVANCED) (RS)
10
© BCA Research 2013
2000
5
2002
2004
* NATIONAL ASSOCIATION OF HOMEBUILDERS.
2006
2008
2010
2012
HOUSEHOLD DEBT HAS COME DOWN
%
130
120
120
110
110
100
100
90
90
%
%
HOUSEHOLD DEBT-SERVICE PAYMENTS
(PERCENT OF DISPOSABLE INCOME)
14
14
13
13
12
12
11
11
10
© BCA Research 2013
2000
6
%
130
U.S. HOUSEHOLD DEBT
(PERCENT OF DISPOSABLE INCOME)
2002
10
2004
2006
2008
2010
2012
LESS DRAG FROM STATE AND LOCAL GOVERNMENTS
%
Bn
US$
.4
0
.2
50
0
100
-.2
U.S.
CONTRIBUTION TO REAL GDP GROWTH
FROM STATE & LOCAL GOVERNMENTS (LS)
-.4
150
STATE BUDGET SHORTFALLS* (INVERTED) (RS)
© BCA Research 2013
2000
7
2002
2004
2006
2008
2010
2012
2014
* REVENUES COLLECTED BY STATES MINUS PROJECTED CURRENT SERVICES SPENDING. SOURCE: CENTER ON BUDGET AND POLICY PRIORITIES.
WITH THE EXCEPTION OF GREECE, IRRESPONSIBLE FISCAL
POLICIES DID NOT CAUSE THE EURO CRISIS
% Of
GDP
% Of
GDP
GOVERNMENT DEBT-TO-GDP RATIO:
GIIPS*
110
110
100
100
90
90
80
80
% Of
GDP
% Of
GDP
SPAIN
80
80
60
60
40
© BCA Research 2013
1995
8
2000
* GIIPS = GREECE, IRELAND, ITALY, PORTUGAL AND SPAIN.
SOURCE: IMF AND EUROPEAN COMMISSION.
2005
2010
40
SPANISH GOVERNMENT DEBT
HAS INCREASED DESPITE FISCAL AUSTERITY
€
Bn
130
€
Bn
PUBLIC-SECTOR EMPLOYEE COMPENSATION
130
125
6%
125
120
120
115
115
110
110
IMF ESTIMATES AND PROJECTIONS FOR SPAIN
MADE IN 2008
105
105
MADE IN 2012
€
Bn
€
Bn
GOVERNMENT SPENDING ON GOODS AND SERVICES
60
60
55
23%
50
45
50
45
© BCA Research 2013
2007
9
55
2008
2009
2010
NOTE: BASED ON IMF STAFF REPORTS FOR ARTICLE IV CONSULTATIONS WITH SPAIN.
2011
2012
2013
THE MAIN REASON DEBT HAS INCREASED
IS BECAUSE GROWTH HAS COLLAPSED
€
Bn
1400
€
Bn
NOMINAL GDP:
IMF ESTIMATES AND PROJECTIONS FOR SPAIN
1400
MADE IN 2007
MADE IN 2012
1300
1300
26%
1200
1200
1100
1100
1000
1000
900
900
© BCA Research 2013
2005
10
2006
2007
2008
2009
2010
2011
2012
2013
NOTE: BASED ON IMF STAFF REPORTS FOR ARTICLE IV CONSULTATIONS WITH SPAIN. THE PROJECTION FOR NOMINAL GDP IN 2013 IS
BASED ON THE EXPECTED GROWTH RATE IN THAT YEAR, AS PUBLISHED IN THE IMF'S 2008 ARTICLE IV CONSULTATION. All OTHER DATAPOINTS
IN THIS SERIES ARE BASED ON THE 2007 ARTICLE IV CONSULTATION.
THE CREATION OF THE EURO
SOWED THE SEEDS OF ITS OWN DEMISE
%
%
2-YEAR GOVERNMENT BOND YIELD*
GREECE
IRELAND
PORTUGAL
SPAIN
ITALY
FRANCE
GERMANY
8
6
6
4
4
2
2
%
%
REAL INTEREST RATES**
6
6
4
4
2
2
0
0
-2
© BCA Research 2013
1999
11
8
2000
2001
* SOURCE: THOMSON REUTERS.
** 2-YEAR GOVERNMENT BOND YIELD DEFLATED BY CPI.
2002
2003
2004
2005
2006
-2
THE EVOLUTION OF EURO AREA UNIT LABOR COSTS
UNIT LABOR COSTS
GIIPS*
130
130
EURO AREA EXCLUDING GIIPS*
120
120
110
110
100
100
© BCA Research 2013
1996
12
2000
2004
* GDP-WEIGHTED AVERAGE OF GREECE, IRELAND, ITALY, SPAIN AND PORTUGAL.
NOTE: ALL SERIES SHOWN REBASED TO 2000 = 100.
SOURCE: EUROPEAN COMMISSION.
2008
2012
FISCAL ADJUSTMENT IN THE PERIPHERY:
MISSION ACCOMPLISHED?
% Of
GDP
2
% Of
GDP
GIIPS*
CYCLICALLY-ADJUSTED
2
PRIMARY BALANCE**
0
0
-2
-2
-4
-4
% Of
GDP
% Of
GDP
FISCAL IMPULSE***
1
1
0
0
-1
-1
-2
-2
© BCA Research 2013
2008
13
2009
2010
2011
2012
2013
* GDP-WEIGHTED AVERAGE OF GREECE, IRELAND, ITALY, PORTUGAL AND SPAIN.
** AS A SHARE OF POTENTIAL GDP.
*** CHANGE IN THE PRIMARY STRUCTURAL BUDGET BALANCE AS A SHARE OF POTENTIAL GDP.
SOURCE: IMF, INCLUDES ESTIMATES AND PROJECTIONS.
2014
2015
WILL CHINA SUFFER A HARD LANDING?
NUMBER OF ARTICLES MENTIONING CHINESE HARD LANDING*
1000
1000
800
800
600
600
400
400
200
200
© BCA Research 2013
2002
14
* SOURCE: FACTIVA.
2004
2006
2008
2010
2012
CHINA: GROWTH HAS SURPRISED TO THE DOWNSIDE
100
CHINESE ECONOMIC SURPRISE INDEX*
100
50
50
0
0
-50
-50
© BCA Research 2013
2010
15
2011
*SHOWN AS A 5-DAY MOVING AVERAGE; SOURCE: CITIGROUP GLOBAL MARKETS INC.
2012
MONETARY EASING SHOULD HELP BOOST GROWTH
LATER THIS YEAR
Ann%
Chg
36
Ann%
Chg
32
32
28
28
24
24
20
20
16
16
2006
16
36
CHINA:
TOTAL SOCIAL FINANCING
2008
2010
2012
NOTE: SUM OF TOTAL FUNDRAISING BY CHINESE NON-STATE ENTITIES, INCLUDING INDIVIDUALS AND NON-FINANCIAL CORPORATES.
LITTLE EVIDENCE OF A CREDIT BUBBLE
Tn
RMB
% of
GDP
CHINESE
NEW RMB LOANS* (LS)
DOMESTIC BANK
CREDIT (RS)
8
115
110
6
105
4
100
2
% of
GDP
95
% of
GDP
HOUSEHOLD DEBT-TO-GDP RATIO:
U.S.
CHINA
80
80
60
60
40
40
20
20
© BCA Research 2013
2000
17
2002
* SHOWN AS A 12-MONTH MOVING TOTAL.
2004
2006
2008
2010
2012
CHINA: MANY YEARS OF RAPID GROWTH AHEAD
%
100
%
100
GDP PER EMPLOYED WORKER IN CHINA RELATIVE TO SOUTH KOREA
80
80
60
60
40
40
20
20
GDP GROWTH
Ann%
Chg
Average growth of 8% in
China between 2013 and 2030
SOUTH KOREA
CHINA
Ann%
Chg
12
12
8
8
4
4
0
0
-4
© BCA Research 2013
1990
18
2000
2010
2020
2030
SOURCE: THE CONFERENCE BOARD TOTAL ECONOMY DATABASE, BCA ESTIMATES AND PROJECTIONS.
2040
2050
-4
INVESTMENT STRATEGY
•
•
•
•
•
•
•
19
Risk assets are vulnerable to a near-term correction. Investors should
remain tactically cautious, but use any correction in prices to increase risk
exposure.
U.S. equities will outperform bonds over a two-to-five year horizon.
Long-term Treasurys are significantly overvalued. A 1994-style bond riot
cannot be ruled out.
Corporate credit is less attractive than equities, but pockets of value
remain.
Despite recent strength, the dollar has not yet bottomed.
Globally, emerging markets are poised to do very well over the next few
years. Japan is also likely to outperform.
Commodity prices will find some support later this year, but a major bust
is coming later this decade.
EQUITIES ARE CHEAP COMPARED TO BONDS…
%
8
%
8
U.S. S&P 500 TRAILING EARNINGS YIELD
MINUS REAL* 10-YEAR TREASURY YIELD
6
6
4
4
2
2
0
0
© BCA Research 2013
1985
20
1990
1995
* DEFLATED BY 10-YEAR INFLATION EXPECTATIONS.
2000
2005
2010
…BUT NOT ESPECIALLY CHEAP IN ABSOLUTE TERMS
S&P 500:
SHILLER P/E RATIO*
40
30
20
40
16% above
median
Median
10
10
S&P 500**:
PRICE-TO-SALES RATIO
2.0
40% above
median
1.5
Median
1.0
2.0
1.5
1.0
.5
.5
6
6
PRICE-TO-BOOK RATIO
30% above
median
4
Median
2
1960
1965
1970
1975
1980
* SOURCE: ROBERT SHILLER.
** EXCLUDING FINANCIALS, UTILITIES AND TRANSPORTS.
1985
4
2
© BCA Research 2013
21
30
20
1990
1995
2000
2005
2010
U.S. HOUSEHOLDS ARE NOT
PARTICULARLY UNDERWEIGHT STOCKS
%
40
%
40
U.S. HOUSEHOLD ASSETS:
DIRECTLY AND INDIRECTLY
HELD EQUITIES
AS A PERCENT OF TOTAL ASSETS
30
30
Average
20
20
10
10
%
50
%
50
AS A PERCENT OF FINANCIAL ASSETS
40
40
Average
30
30
20
20
1950
22
1960
1970
1980
1990
2000
SOURCE: FEDERAL RESERVE FLOW OF FUNDS. LATEST QUARTERLY DATAPOINT REPRESENTS BCA ESTIMATE.
2010
TREASURYS REMAIN OVERVALUED
%
10-YEAR TREASURY YIELD, 5 YEARS FORWARD*
8
10-YEAR TREASURY YIELD*
8
6
6
4
4
2
2
%
%
TERM PREMIUM**
2
2
1
1
0
0
-1
-1
1990
23
%
U.S.
1995
2000
2005
* SHOWN SMO0THED EXCEPT FOR LATEST DATAPOINT.
** SOURCE: KIM AND WRIGHT, FEDERAL RESERVE FINANCE AND ECONOMICS DISCUSSION SERIES, 2005-33.
2010
HIGHER INFLATION AHEAD
%
9
%
9
U.S.
UNEMPLOYMENT RATE
8
8
7
7
THREE POLICY PATHS
6
6
BASELINE (MARKET EXPECTATIONS)
JANET YELLEN'S 'OPTIMAL POLICY' RULE
%
2.8
%
2.8
MODIFIED TAYLOR RULE
PCE INFLATION*
2.4
2.4
2.0
2.0
1.6
%
3.0
1.6
%
3.0
FED FUNDS RATE
2.0
2.0
1.0
1.0
© BCA Research 2013
2011
24
2012
2013
2014
2015
2016
2017
2018
2019
* 4-QUARTER PERCENT CHANGE.
SOURCE: THREE POLICY PATHS: AN ILLUSTRATIVE EXERCISE (PERSPECTIVES ON MONETARY POLICY), JANET L. YELLEN, JUNE 6, 2012.
BASELINE FROM THE FEDERAL RESERVE BANK OF NEW YORK, SURVEY OF PRIMARY DEALERS. LATEST UPDATE: NOVEMBER 2012.
STILL SCOPE FOR SPREAD COMPRESSION
BPs
1200
BPs
1200
U.S. HIGH-YIELD INDEX:
DEFAULT-ADJUSTED SPREAD*
PESSIMISTIC RECESSION SCENARIO
800
800
400
400
0
0
12-MONTH TRAILING DEFAULT RATE**
BCA FORECAST
DEFAULT LOSS***
BCA FORECAST
%
%
12
12
8
8
4
4
© BCA Research 2013
2006
25
2008
2010
* OPTION-ADJUSTED SPREAD LESS EXPECTED DEFAULT LOSSES, SOURCE: BARCLAYS.
** SOURCE: MOODY'S INVESTORS SERVICE.
*** CALCULATED AS: DEFAULT RATE × (1 - RECOVERY RATE).
2012
DOLLAR SENTIMENT IS STRETCHED
Bn
60
%
U.S. DOLLAR SPECULATIVE POSITIONS*
NET LONG (LS)
NET LONG (PERCENT OF OPEN INTEREST) (RS)
80
40
40
20
0
0
-20
%
80
-40
BULLISH SENTIMENT ON THE DOLLAR**
60
60
40
40
20
© BCA Research 2013
2008
26
%
80
* SOURCE: CFTC.
** SOURCE: MARKETVANET.NET.
2010
2012
20
CYCLICAL FACTORS HAVE FLATTERED
THE U.S. CURRENT ACCOUNT
% Of
GDP
1.0
% Of
GDP
1.0
BCA MODEL ESTIMATE* OF
THE CYCLICAL IMPACT ON
THE U.S. NON-OIL TRADE BALANCE
1% of
GDP
.5
.5
0
0
-.5
-.5
% Of
GDP
% Of
GDP
EXTERNAL INVESTMENT INCOME BALANCE
1.2
1.2
1% of
GDP
swing
.8
.4
.4
© BCA Research 2013
1990
27
.8
1995
2000
2005
2010
* BASED ON A REGRESSION OF THE NON-PETROLEUM GOODS TRADE BALANCE ON THE FEDERAL RESERVE'S BROAD REAL EFFECTIVE
EXCHANGE RATE, THE U.S. OUTPUT GAP, THE EXPORT-WEIGHTED GLOBAL (EX. U.S.) OUTPUT GAP AND A LINEAR TIME TREND.
NOTE: SHADED AREAS DENOTE NBER-DESIGNATED RECESSIONS.
EMERGING MARKETS ARE NOW SOMEWHAT
CHEAPER THAN DEVELOPED MARKETS
1
1
VALUATION GAP BETWEEN EMERGING MARKETS
AND DEVELOPED MARKETS*
EM more expensive
0
0
EM cheaper
-1
-1
-2
-2
-3
-3
-4
-4
© BCA Research 2013
1996
28
1998
2000
2002
2004
2006
2008
2010
* STANDARDIZED AVERAGE OF PRICE-TO-SALES, PRICE-TO-CASH FLOW, PRICE-TO-BOOK, PRICE-TO-TRAILING EARNINGS,
PRICE-TO-FORWARD EARNINGS AND DIVIDEND YIELD.
SOURCE: IBES, BLOOMBERG AND MSCI INC. (SEE LAST PAGE).
2012
JAPAN’S STOCK MARKET BUST:
MAINLY A STORY ABOUT MULTIPLE CONTRACTION
.6
U.S. RELATIVE TO JAPAN:
.6
.5
.5
.4
RELATIVE
STOCK PRICE*
.3
.4
Up 419%
.3
.2
.2
.1
.1
RELATIVE EARNINGS-PER-SHARE**
1.0
1.0
.8
.8
.6
.6
.4
.4
No change
© BCA Research 2013
1990
29
1995
2000
2005
* IN U.S. DOLLAR TERMS. SOURCE: MSCI INC. (SEE LAST PAGE).
** IN U.S. DOLLAR TERMS, BASED ON 12-MONTHS FORWARD EARNINGS. SOURCE IBES AND MSCI INC. (SEE LAST PAGE).
2010
COMMODITIES: THE LONG-TERM TREND IS DOWN
REAL* INDUSTRIALS PRICES
2.5
2.0
1.5
This time is
different?
1.0
.5
1.0
.5
RAW MATERIALS PRICES
(DEVIATION FROM 25-YEAR TREND)
2.2
1.8
2.5
2.0
1.5
Yom Kippur War/
OPEC embargo
Korean War
World War I
2.2
1.8
U.S. Civil War
1.4
1.4
1.0
1.0
.6
© BCA Research 2013
1875
30
1900
* DEFLATED BY U.S. CONSUMER PRICE INDEX.
1925
1950
1975
2000
.6
CHINA IS ALREADY THE WORLD’S
DOMINANT CONSUMER OF BASE METALS
Th
Tonnes
Th
Tonnes
COPPER CONSUMPTION
U.S.
EUROPE
JAPAN
8000
ALUMINUM CONSUMPTION
U.S.
EUROPE
JAPAN
20000
6000
15000
4000
10000
2000
5000
© BCA Research 2013
CHINA
31
G-3
© BCA Research 2013
CHINA
G-3
THE SHARE OF OIL IN GLOBAL ENERGY USAGE
SHOULD CONTINUE TO TREND LOWER
%
%
40
40
30
30
20
20
% OF TOTAL ENERGY CONSUMPTION
OIL
COAL
NATURAL GAS
HYDROELECTRICITY
10
10
NUCLEAR ENERGY
RENEWABLES
0
0
© BCA Research 2013
1970
32
1980
1990
2000
NOTE: MILLION TONS OF OIL EQUIVALENT. SOURCE BP ENERGY OUTLOOK 2030.
2010
2020
2030
PLENTY OF DOWNSIDE RISKS FOR PRECIOUS METALS
80
80
GOLD PRICE
SILVER PRICE
CPI
60
60
40
40
20
20
0
%
0
%
AS A PERCENTAGE DEVIATION
FROM CPI "TRENDLINE":
PRICE OF GOLD
PRICE OF SILVER
150
100
150
100
50
50
0
0
-50
-50
© BCA Research 2013
1875
33
1900
NOTE: TOP PANEL REBASED TO 1900 = 1.
1925
1950
1975
2000