Well, we're now past the half-way point in this most interesting of years... Clearly a lot has changed since the start of the year, and the year is not even over yet! So I thought it would be helpful to take a quick progress check on the "10 Charts to Watch in 2020".
In the original article I shared what I thought would be the 10 most important charts to watch for multi-asset investors in the year ahead (and beyond).
In this article I have updated those 10 charts, and provided some updated comments.
With all that's gone on, some of my initial thoughts and expectations from the original article got set slightly off track in some cases, and went wildly wrong in others. So this is quite a good exercise to go through in terms of the "where to from here?" question.
Aside from all that's been going on in markets, I've also been very busy making a series of changes to our institutional reports, including: a new weekly cross-asset sentiment pack, a rejig and expansion of the monthly chartbook (now called the market cycle guidebook), and a new quarterly slide deck ...and there are still a few other enhancements on the agenda I'm working on as well. These have been well received by clients, and in times like these the value of good research goes up (so from a business standpoint I am very grateful to say that things are going very well -- reminds me I will need to write my 4-year business journey update blog post soon).
As for now, it's time to get on with the charts!
[Note: I have included the original comments from back at the start of the year, so you can quickly compare what I'm thinking now vs what I said back then]
1. Global Economy -- the original call was for a synchronized global economic upturn. Instead we got a procession of global economic shut-downs in response to the pandemic. On the bright side massive and coordinated stimulus efforts (coordinated across countries and monetary + fiscal policy) have been implemented to deal with the economic shock. So in my view there will indeed be a global economic upturn, but it will be delayed (due to the shutdowns) and potentially accentuated (due to the stimulus).
"Global Economy -- a turning point in the global economic cycle: 2019 basically saw a global manufacturing and export recession. Yes Recession. But looking forward, I have a growing list of leading indicators pointing to a recovery in 2020, and the below is one of them. The diffusion index of OECD leading indicators has made a clear turnaround after reaching a decade low. I will be watching for a turn up in the main global indicator (and for the diffusion index to continue to edge higher/stay higher)."
2. Emerging Markets: on a similar note, late last year emerging market central banks had been very busily and aggressively easing monetary conditions - part of the global policy pivot. As mentioned, this year brought the policy panic - with a second wave of easing kicking off in March. While the pandemic experience varies widely across emerging market economies, this substantial and building tailwind should not be ignored, and emerging market economies could surprise to the upside (later this year and into 2021).
"Emerging Markets: a big part of the 2020 recovery thesis is the global monetary policy pivot. Not many have noticed, but EM central banks have been particularly aggressive in easing policy (and by the way, they have the most traditional policy ammunition available). Given some of the cycle indicators have already begun to stabilize for EM I have a strong degree of confidence that we will see a cyclical upturn across emerging economies in the coming months and quarters."
3. Growth Assets vs Defensive Assets: it should be no surprise that investors have bid up the valuations of defensive assets given all that's gone on. Indeed, by our valuation metrics defensive assets are trading at record high valuations. Again, it puts into question the defensive nature of these assets when valuations are this high. Meanwhile, growth assets remain somewhat cheap (more so commodities and global ex-US equities).
"Growth Assets vs Defensive Assets: this chart says it all in terms of where investors have been positioned, and it tells you that defensive assets may not necessarily be “safe” given such expensive valuations. Indeed, a global economic rebound could well make defensive assets a source of risk, rather than a hedge of risk."
4. TIPS breakevens: well, breakevens went from cheap, to REALLY CHEAP, and back to quite cheap. Right now we are in the middle of a global wave of deflation, and that deflationary impulse is entirely cyclical and one-off in nature. As the pandemic progresses and economies open back up, that stimulus aspect is going to come increasingly into focus. We could well wake up a year from now to find the global economy "overstimulated". In that case, we will be talking about inflation upside/overshoot risk (which would probably be good for TIPS breakevens).
"TIPS breakevens look cheap, and should rebound if we get better growth. This will also tend to put upward pressure on bond yields (i.e. nominal yield = real yield + inflation expectations). This is closely tied in with the commodities picture [chart 7]."
5. US Equity Valuations: what a contentious topic. A lot of folk have been blindly quoting off forward PE figures, telling us that the market is wildly over-valued. Now I don't disagree that absolute valuations are elevated, but I have made it fairly clear that the forward PE is completely useless in the type of scenario we find ourselves in right now.
But let's not dwell on that.... The chart below uses a blended PE ratio to show where absolute valuations are tracking and it is indeed expensive; tracking just over 1 standard deviation above long term average. [BUT] The equity risk premium on the other hand still shows the market as "cheap" -- being nearly 1 standard deviation *below* long term average (note: I have inverted the ERP to align the signals of the two indicators in the chart). Of course we could just say that bonds are simply expensive. Either way, we have a picture of the market being expensive vs history but cheap vs bonds.
"US Equity Valuations: the downside of likely higher bond yields is that all else equal it will squeeze the ERP (equity risk premium), which in contrast to absolute valuations, still looks cheap/attractive. Indeed, you can argue it's quite rational to be bullish equities even as absolute valuations are historically high if the equity risk premium provides enough of a cushion."