Evan Brown, Head of Macro Asset Allocation Strategy says that the noise of trade escalation is now a signal for investors. The US-China trade was has become a threat to global growth.
While Evan and team believe that the US and global economies can avoid recession, the risks to this view have risen. The ability of the economy to withstand further shocks is limited.
We maintain a cautious stance on global equities and are neutral fixed income. The dollar should weaken as the US economy catches down to the rest of the world and the Fed eases policy further.
The two key signposts they are watching are:
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Global growth stabilization remains the base case, although the risks to that view have clearly risen.
Central bank actions can cushion against, but not offset, geopolitical disruption
A key related question is whether the world's central banks, which are now easing almost universally, are doing enough to stave off recession. Certainly, the abrupt shift from developed economy central banks has eased financial conditions, providing a healthy cushion for consumers and businesses.
China's recent announcement of new stimulus measures, designed to increase liquidity and boost infrastructure investment, is also helpful.
We think this global monetary easing will be enough to stave off a recession, but the crucial determinant will be if there are further meaningful negative shocks related to trade policy or another catalyst. Central banks do not have the tools to fully offset more pressure on the global trade environment, and its indirect effects on business and consumer confidence.
The bottom line: Asset allocation
- Neutral outlook on global equities over the next 12 months and in some portfolios are tactically underweight.
- Contrarian in our preference for European and Japanese equities relative to the US, as we believe that the former have much more bad news priced in.
- Also neutral on fixed income Preference for US sovereign debt over that in Europe and Japan, as the Fed has more room to ease in a worsening growth environment.
- Next big move in the dollar as lower, given it is overvalued and the US economy is 'catching down' to the rest of the world.
- Continue to long the undervalued and safe-haven Yen; and Underweight the high beta Australian dollar as a hedge against further trade war escalation.