Investment outlook 2H20 6 macro themes to guide investing in 2H20

The pandemic-induced global recession is over. We list six macroeconomic themes that will shape markets and provide attractive risk-adjusted opportunities.

11 Jun 2020

Investment outlook 2H20 At a glance

  • The pandemic-induced global recession is over. The nascent recovery is likely to look V-shaped at first, but that pace of improvement is unlikely to be sustained.
  • The magnitude of the rebound in risk assets leaves us neutral on global equities, with a preference for relative value trades over large directional exposure. Six major macroeconomic themes guide our recommended asset allocation going forward.
  • In an uncertain macroeconomic backdrop, we embrace inexpensive expressions of the pro-cyclical trades that we believe have the most room to run in an enduring economic recovery. We are also maintaining defensive positions to protect against left-tail outcomes.
  • We are cautious on US equities. In our view, more value can be found in non-US equities.

Investment outlook 2H20 6 macro themes to guide investing in 2H20

Our cross-asset positioning is guided by six macroeconomic themes we see shaping the financial market landscape over the coming quarters and providing opportunities for attractive risk-adjusted returns.

Though the rebound in economic activity is underway, the post-lockdown thawing will likely be uneven across geographies and financial markets. A lack of visibility into the outlook for demand could translate into lower consumption and business spending, and a protracted journey back to full economic health.

Initial spurts of growth as shelter-in-place restrictions are lifted will inevitably look V-shaped given the depths to which activity plunged. The question is what shape the recoveries take after this point.

We believe these nascent V-shapes will prove to be false dawns that mark the start of a long return to pre-crisis levels of output rather than a brisk return to trend. Many layoffs that appeared temporary at first are turning into permanent separations. This will continue to the extent that businesses find operating at lower levels of capacity to be unfeasible, especially in the event that governments fail to follow through with continued support and fiscal stimulus for reopened economies.

How quickly economies make up lost ground is highly dependent on the virus. Absent a vaccine or effective treatment, a complete return to pre-COVID-19 patterns and levels of activity is not within the tactical investment horizon. Of course, there are much more pessimistic health outcomes – with associated adverse implications for growth and risk assets – within the range of possible scenarios, too.

Even our bull case for US economic activity includes a contraction in 2020. In our base case, the level of real GDP at the end of 2019 will not be eclipsed until 2023. Our most bearish scenario sees the American economy continuing to operate at lower levels of output through 2025.

As such, while our equity positions have a pro-cyclical tilt, we take a neutral stance on the asset class. The foreign exchange market offers a myriad of ways we seek to remain protected amid detours on the path to economic normality. Our preferred positions include being long the Japanese yen relative to the Australian dollar and US dollar.

Exhibit 2: It will take time to get back to where we were

Different scenarios for US GDP through 2025

Exhibit 3: Investment grade bonds are still attractive compared to Treasuries

Historically average spreads offer extreme yield enhancement

The panoply of monetary and fiscal support deployed to prevent the most abrupt economic downturn in history from becoming a prolonged depression is working. Forward-looking markets increasingly reflect an expectation of continued progress, which has largely been validated by the data flow.

We have sought to capitalize via a mixture of positions that benefit from the healing of markets as the left tail of depression-era outcomes was curtailed, as well as selective aggression with exposure to cyclical upside as risk appetite broadens and green shoots of economic activity emerge.

US investment grade bond spreads have tightened substantially to historically normal levels thanks to the Federal Reserve’s foray into the asset class. Corporate debt continues to remain attractive in a world in which worst-case economic outcomes have been avoided yet reliable carry remains scarce. The ratio of incremental yield provided by high-grade US debt vs. the risk-free rate remains at rarely-seen extremes. The ebbing of pessimism towards emerging market assets makes hard-currency debt another way to play growing risk-on sentiment that offers higher coupons and greater scope for spread tightening without taking currency risk.

In our view, the EU policy response, meanwhile, provides a foundation for attractively valued European banks and Italian equities to flourish. The European Central Bank has established programs that offer negative funding rates to subsidize financial institutions’ lending to the real economy and facilitate the narrowing of sovereign periphery spreads. This much-needed carrot will help offset the stick of negative policy rates, which has long been an overhang on the group. The potential for fiscal integration should also allow for a more vigorous recovery, a boon for cyclical, undervalued segments of the market in particular.

Gold, an asset historically prized for its defensive qualities, now seems to offer a more nuanced way to play an economic recovery that requires historically low interest rates and the expansions of central bank and government balance sheets at an unprecedented pace. Financial repression resulting in miniscule yields on even longer-term government debt means to us that bullion has more capacity to provide portfolio protection, especially should left-tail events come to pass.

Just as the scale of the cumulative policy response by different countries to the pandemic provides investment opportunities, so too does the variance among them.

Having the health infrastructure that allows for success in testing, tracing, or containment likely bodes well for a country’s ability to smoothly transition to reopening activity and to control any future outbreaks. In addition, the strength and directness of the policy responses should help determine how quick and enduring the recoveries can be.

Germany and Japan stand out as having better public health outcomes coupled with robust fiscal responses. In our view, these factors bolster the appeal of these nations’ equity markets relative to emerging markets, some of which have less fiscal capacity and many of which have made less headway containing the virus.

This also leads us to prefer large-cap Japanese equities relative to their French peers. Though this position would likely benefit from upside surprises in the cyclical turn, any lack thereof should be somewhat offset by Japan Inc.’s superior balance sheets, based on interest coverage ratios.

Exhibit 4: Hard and soft data show China's economy has stabilized

Industrial production back to growth, with PMIs in expansionary territory

The timing of outbreaks across different countries also matters for financial markets. The first to suffer from the pandemic are also among the first to see a meaningful recovery in economic activity, correspondingly buttressing domestic assets. We believe that Chinese and Korean equities are well-positioned vs. developing-market counterparts in this regard. The nations’ markets offer a mix of offense and defense, with the former more leveraged to domestic consumer-driven, relatively acyclical technology holdings and the latter geared more towards the cyclical semiconductor space.

Other elements also bolster the fundamental case for this position. Beijing’s successful attainment of stabilizing rather than supercharging growth should provide smaller positive spillovers for the rest of the emerging markets universe than has historically been the case during prior episodes in which the fiscal impulse turned positive. China also enjoys more fiscal and monetary flexibility than the rest of that group, including the ability to more expediently marshal resources to boost production.

Top of mind is a resurgence of the pandemic that brought global activity to a standstill. The recovery in financial assets and shift to concerns over a second wave of COVID-19 infections bely the more somber reality: globally, the first wave is yet to crest. But it’s far from the only risk that investors need to be mindful of at this juncture.

In the US, recent protests reflecting long-standing racial inequities run the risk of contributing to an uptick in new cases. This social unrest increases the risk of unexpected outcomes for the November US election, outcomes already more difficult to discern in light of the evolving perception of authorities’ handling of the public health crisis. At present, we do not believe markets are adequately pricing in the potential for market-unfriendly tax and regulatory shifts in the event that Joe Biden ascends to the presidency and the Democratic party controls both houses of Congress. Bipartisan concern over the power wielded by technology giants remains an acutely US-centric equity risk due to the composition of major indexes.

Exhibit 5: Little election fear in volatility markets or equity market underbelly

High tax stocks outperforming, VIX curve shows plateau in event risk pricing

And during the US election campaign, bipartisan support for a tougher stance on China will likely increase headline risk, at the very least. Relations between the world’s two biggest economies are probably set to worsen. We believe this deterioration is unlikely to disrupt the phase one trade deal, which remains on a separate track. But concerns over regional security, technology decoupling, obstruction of capital flows, and China’s handling of the pandemic serve as flash points for the two sides in which fissures could quickly escalate into chasms and fuel volatility.

A short position in cyclical Asian currencies like the Thai baht, Korean won, and the Taiwan dollar may provide the most attractive expressions of hedging renewed bouts of financial market turmoil linked to the realization of risks that upend any nascent recovery in global activity.

The first-order deflationary impacts of the COVID-19 shock and lingering economic slack associated with job losses which will not be immediately recouped suggest that a structural turn in the 40-year downwards trend in core inflation is not imminent.

One avenue for a shift to eventually materialize is through a problem of success. If the extraordinary global support brought to bear by central banks and governments to address this crisis proves sufficient – or perhaps excessive – a sustained increase in price pressures could result as the expansion progresses. This could be reinforced by a more persistent muscular fiscal role in achieving macroeconomic goals generally delegated to the central bank. In addition, the long history of subdued price pressures could leave monetary policymakers embracing an upturn in inflation rather than attempting to tamp down on it. Separately, the potential for continued deglobalization and the ensuing reshoring of supply chains could lay the foundation for, or augment, inflationary forces.

An upward spiral in price pressures would undermine the role of sovereign fixed income as a diversifier in balanced portfolios, and therefore this theme warrants close monitoring by asset allocators. As such, we remain vigilant for different economic and political developments that could spur a reversal in this trend, the seeds of which may have already been sown.

Our call for the two-year, 10-year Treasury yield curve to steepen is informed both by our faith in the Federal Reserve’s commitment to keep policy rates low to encourage an economic recovery as well as the lack of inflation risk premia baked in at the longer end of the curve. That is, 10-year breakeven rates are trading roughly two standard deviations below their 20-year average, providing relatively inexpensive optionality to a breakout in price pressures.

Exhibit 6: Curve flat, breakevens low vs. history

Little inflation premia embedded in longer-term yields could buoy steepening

Investment outlook 2H20 Read our full report

Our concerns about the likely lack of vigor in the economic rebound and potential for its derailment inform our desire to limit overall beta and retain flexibility to adjust positioning to evolving policy and public health conditions. The incremental progress in activity key to the resilience of risk assets will inevitably be challenged in the weeks ahead.

How else can investors steer their portfolios as we embrace a socially-distant early cycle?

Investment outlook 2H20 Investment opportunities to increase exposure to early-cycle themes

We see the end of the pandemic-induced global recession as a backdrop rich in attractive opportunities to increase exposure to early-cycle themes. Our focus is on relative value positions, as unbridled enthusiasm about the fruits borne of this early cycle environment needs to be curbed in light of the fundamental forces that warrant a more balanced approach to asset allocation.

Science holds the key to the broadest possible return to pre-pandemic patterns of spending. Uncertainty on the nature of the recovery therefore remains elevated, with little visibility into how quickly a complete rebound can be attained. An immense amount of economic damage is yet to be repaired, and may even swell in the event of a policy error or second wave of the virus. And most importantly for financial markets, substantial progress is required to justify the expectations embedded in some risk assets, particularly US equities.

In the current environment, flexibility remains a chief consideration to capture more opportunities as they present themselves. Protective safeguards should also be kept in place to shield investors. Challenges to the burgeoning growth outlook will inevitably appear, fostering short-term volatility and perhaps threatening to undermine this longer-term journey back to full economic health.

Investment outlook 2H20 Asset class attractiveness

The chart below shows the views of our Asset Allocation team on overall asset class attractiveness, as well as the relative attractiveness within equities, fixed income and currencies, as of 9 June 2020.

More insights

Singapore Retail Investors


This website is not intended for and should not be accessed by persons located or resident in any jurisdiction where (by reason of that person's nationality, domicile, residence or otherwise) the publication or availability of this website is prohibited or contrary to local law or regulation or would subject any UBS entity to any registration or licensing requirements in such jurisdictions. It is your responsibility to be aware of, to obtain all relevant regulatory approvals, licenses, verifications and/or registrations under, and to observe all applicable laws and regulations of any relevant jurisdiction in connection with your entrance to this website. Each investment product and service referred to on this website is intended to be made available only to residents in Singapore.

UBS reserves the right to change, modify, add or remove content on the website as well as these terms at any time for any reason without notice. Such changes shall be effective immediately upon posting. You acknowledge that by accessing our website after we have posted changes to these terms, you are agreeing to these terms as modified.

The materials on this Website are distributed by UBS Asset Management (Singapore) Ltd (company registration number: 199308367C), which is licensed by Monetary Authority of Singapore ("MAS") in Singapore pursuant to the Securities and Futures Act (Chapter 289 of Singapore). UBS Asset Management (Singapore) Ltd is part of the Asset Management business division of UBS Group AG. UBS Asset Management (Singapore) Ltd together with UBS Group AG and its group companies shall collectively be referred to as "UBS".

The information contained in this Website has been prepared and is intended for general circulation. The information does not constitute advice and does not take into account the specific investment objectives, financial situation, or particular needs of any particular person. The investment services or products referred to in this Website may not be suitable for all investors. UBS recommends that you independently evaluate particular investments and strategies and seek independent advice from a financial adviser regarding the suitability of such investment products, taking into account your specific investment objectives, financial situation and particular needs, before making a commitment to purchase any investment products. Investment involves risks. You should be aware that investments may increase or decrease in value and that past performance is not indicative of future performance.

The information contained in this Website is not an offer to buy or sell or the solicitation of an offer to buy or sell any investment product or to participate in any particular trading strategy. UBS, its officers and/or employees may have interests in any of the investment products referred to on this Website by acting in various roles. UBS, its officers and/or employees may receive fees, commissions or other benefits for acting in those capacities. In addition, UBS, its officers and/or employees may buy or sell investment products as principal or agent and may effect transactions which are not consistent with the information set out in this Website.

You fully understand and agree that, by making available this Website, UBS should not be construed as making: (a) any endorsement of any investment product referred to in this Website; (b) any representation that UBS has performed any due diligence on any investment product referred to in this Website; or (c) any representation that the information in this Website is complete, accurate, clear, fair and not misleading. The use or reliance on any such information contained in this Website is at your own risk and any losses which may be suffered as a result of you entering into any investment are for your account and UBS shall not be liable for any losses arising from or incurred by you in connection therewith. UBS is not responsible or liable for the accuracy and completeness of any such information or the performance or outcome of any investment made by you after receipt of such information, irrespective of whether such information was provided at your request.

Using, copying, redistributing or republishing any part of this Website without prior written permission from UBS is prohibited. Any statements made regarding investment performance objectives, risk and/or return targets shall not constitute a representation or warranty that such objectives or expectations will be achieved or risks are fully disclosed. The information and opinions contained in this Website is based upon information obtained from sources believed to be reliable and in good faith but no responsibility is accepted for any misrepresentation, errors or omissions. All such information and opinions are subject to change without notice. A number of comments in this Website are based on current expectations and are considered “forward-looking statements”. Actual future results may prove to be different from expectations and any unforeseen risk or event may arise in the future. The opinions expressed are a reflection of UBS’s judgment at the time this document is compiled and any obligation to update or alter forward-looking statements as a result of new information, future events, or otherwise is disclaimed.

UBS does not hold out any of its officers and/or employees as having any authority to advise you, and UBS does not purport to advise you on any investment product. Any investment will be made at your sole risk and UBS is not and shall not, in any manner, be liable or responsible for the consequences of any investment.

This Website and its contents are provided on an “as is” and “as available” basis. UBS does not warrant: (a) the accuracy, timeliness, adequacy commercial value or completeness of this Website or its contents, and expressly disclaims any liability for errors, delays or omissions in the contents, or for any action taken in reliance on the contents; (b) that your use of and/or access to this Website or its contents, will be uninterrupted, timely, secure or free from errors or that any identified defect will be corrected; (c) that this Website or any content will meet your requirements or are free from any virus or other malicious, destructive or corrupting code, agent, program or macros; (d) that any information, instructions or communications posted or transmitted by you through this Website is secure and cannot be accessed by unauthorised third parties; and (e) that use of the contents in this Website by you will not infringe the rights of any third parties. No warranty of any kind, implied, express or statutory, including but not limited to the warranties of non-infringement of third party rights, title, merchantability, satisfactory quality or fitness for a particular purpose and freedom from computer virus or other malicious, destructive or corrupting code, agent, program or macros, is given in conjunction with this Website.

You hereby agree to indemnify UBS and any of its officers, employees or agents against, and to keep UBS and any of its officers, employees or agents harmless from, any claims (actual and threatened), settlement sums, liability, loss, damages, costs (including solicitor and client costs and expenses (legal or otherwise)), charges, expenses, actions, proceedings, whether foreseeable or not which we may sustain, suffer or incur, directly or indirectly out of or in the course of or in connection with any the following: (a) any use of this Website or the contents by you, or any part thereof; (b) UBS having made available the Website; (c) any breach of these Terms by you, however arising; or (d) any negligence, act or omission, wilful default, unlawful act, fraud and/or misconduct on your part or violation of any rights of another person or entity by you.

The funds referred to in this Website have been authorised or recognised by the MAS for sale to the public in Singapore (the “Funds”). Copies of the registered Singapore prospectuses ("Prospectuses") referred to in this Website have been lodged with and registered by the MAS. The MAS assumes no responsibility for the contents of the Prospectuses. The registration of the Prospectuses by the MAS does not imply that the SFA or any other legal or regulatory requirements have been complied with.

MAS registration is not a recommendation or endorsement of a Fund nor does it guarantee the commercial merits or performance of such Fund. It does not mean that a Fund is suitable for all investors nor is it an endorsement of its suitability for any particular investor or class of investors. UBS Asset Management (Singapore) Ltd has been appointed as the representative for the Funds in Singapore for the purposes of performing administrative and other related functions relating to the offer of Shares under Section 287 of the Securities and Futures Act, Chapter 289 of Singapore (the "SFA") and such other functions as the MAS may prescribe.

You may not assign your rights under the Terms without our prior written consent. UBS Asset Management (Singapore) Ltd may assign our rights under the Terms to any third party.

No person or entity who is not a party to the Terms shall have any right under the Contracts (Rights of Third Parties) Act, Chapter 53B of Singapore or other similar laws to enforce any term of the Terms regardless of whether such person or entity has been identified by name, as a member of a class or as answering a particular description. For the avoidance of doubt, this shall not affect the rights of any permitted assignee or transferee of the Terms.

These Terms shall be governed by, and shall be construed in accordance with, the laws of Singapore. The courts of Singapore shall have exclusive jurisdiction to hear and determine any suit, action or proceeding, and to settle any disputes, which may arise out of or in connection with these Terms and, for such purposes, you agree to submit  to the jurisdiction of the courts of Singapore. Each party hereby waives any objection which it might at any time have to the courts of Singapore being nominated as the forum to hear and determine any proceedings and to settle any disputes and agrees not to claim that the courts of Singapore are not a convenient or appropriate forum.

© UBS 2021 - the key symbol and UBS are among the registered and unregistered trademarks of UBS. All rights reserved.