Market overview
The year-end rally has already started. Everybody seems to be on board, and central banks continue to be happy to help. By starting a new mergers & acquisitions (M&A) spree, even corporates are doing their best to propel stock indices to ever new highs. Of course, investors are playing their part too. For much of the year, they have been "underinvested" in equities, as market jargon has it. Now, the hot money seems to be rushing to join the party, primarily for two reasons, first TINA (there is no alternative) or second her friend FOMO (fear of missing out). Looking at bond rates, one might understand those motives but wonder if none of the party guests are afraid of that party pooper ESRA (everything seems rather expensive). The U.S. yield curve was largely flat, with rates from one month to five years all at around 1.6%
November ended on a quiet note. U.S. equity-market volatility remained around the lowest levels in two years. There were some interesting earnings trends on both sides of the Atlantic. In line with stabilizing macroeconomic indicators for the Eurozone, it appears that corporate profits have steadied too. European earnings had the highest share of results beating estimates in ten quarters, albeit only compared to estimates that had previously been downgraded. That said, European earnings momentum appears to be (fractionally) above U.S. earnings momentum for the first time in nearly three years. This has mainly been due to U.S. earnings losing momentum; while improvements in Europe have been modest. Nonetheless, it is a pattern worth keeping an eye on. In the past, U.S. investors generally tended to give Europe a fresh look whenever Europe was able to deliver trailing earnings in line with or above those of U.S. peers. We may be getting close to that point.
Could things still go wrong in the remaining weeks of 2019? Of course they could! At their current levels, we believe all it would probably take for equity markets to experience another nerve-racking correction would be one bellicose trade-war tweet by the U.S. President. However, positive news would have the opposite effect. It remains to be seen whether the hoped for de-escalation in the U.S.-Chinese trade conflict will materialize before Christmas. If it does, it would probably give markets another boost. Similarly, Brexit could well return as a risk. Markets have grown increasingly confident that the UK snap general election will produce a comfortable majority for Prime Minister Boris Johnson. In our view, investors may be underestimating the risk of another hung parliament and more months of Brexit delays. Set against such potential risks, however, are technical factors, suggesting many institutional investors may not wish to end the year without further increasing their equity exposure.
Outlook and changes
Looking further ahead, we are confident about the development of the global economy and capital markets in the coming year. Although growth might be significantly weaker in some regions, we do not expect a global recession. Contributing to this trend is an accommodative monetary policy from central banks and decreasing political uncertainties. Against this background, we expect the Dax to reach 14,000 points at the end of 2020. We believe the euro will continue to move sideways against the dollar to 1.15, but it is still too early to declare the end of the cycle for the greenback.
We do not expect a sudden rise in inflation, which is why both the U.S. Federal Reserve (Fed) and the European Central Bank (ECB) look set to continue their accommodative monetary policy and expand their balance sheets further. However, we do not see any further interest-rate cuts by either central bank, as such steps are unlikely to have any significant impact on the economy anyway. Monetary policy has reached its limits in this respect.
In 2020, global economic growth is expected to stagnate at 3.1%. For the United States, we think growth will slow down from 2.2% this year to 1.6% in 2020. For the Eurozone, we think growth will decline to 0.9% in 2020. We do not expect much in terms of effective economic stimulus programs. Among the larger countries, only Germany could afford such measures, and the German government is already pursuing an expansive economic policy as judged by its own standards. In China, we do not expect a hard landing, with growth declining to 5.8% in 2020. Against this trend, we expect an acceleration of growth to 4.4% in emerging markets overall, which would account for 60% of global gross domestic product (GDP) in 2020.
Equity markets look well supported by loose monetary policies and a looming rebound in corporate-earnings growth. While the overall economy has avoided contraction, several industries have entered recessionary territories in 2019 with shrinking revenues and profits. This should make comparisons easier in 2020. Pent-up demand from delayed investment decisions should also modestly accelerate profits in the second half of 2020. Companies are adapting to the digitalization of their business processes and the secular prospects of a low-growth economy.
For the United States, we predict a 5% increase in earnings per share (EPS) for 2020, a 6% increase for Europe and a 9% increase for emerging markets. We believe the greatest upside potential will be for Europe and emerging markets as equity prices tends to follow earnings growth. Looking at individual sectors, we have underweights on equities from the real-estate and utilities sector, while overweighting securities from the IT and global financial sector.
As for bond markets, we expect yields to remain low for longer and investors will likely have to take greater risks to generate positive returns. Among sovereign bonds, we have tactically moved U.S. Treasuries back to neutral and we expect a rather low volatility environment until end 2019. German Bunds look set to remain range-bound. The first speech by Christine Lagarde, the new ECB President, was a bit of a non-event, merely emphasizing that the future monetary-policy strategy is under review and that a more stimulative European fiscal policy would make the ECB's task easier. Against this backdrop, we continue to like Italian and Spanish sovereign debt.
On a risk-adjusted basis, euro corporate bonds from issuers with investment-grade credit ratings currently appear particularly attractive. These securities appear to be benefiting not only from investors shifting funds into corporate debt because of negative yields on government bonds, but also from demand from the ECB's bond purchase programs. Corporate bonds from Asian issuers also appear to be benefiting from investors' increased appetite for risk, especially as a great deal of downside is already priced into these securities. As for U.S. high yield, we note that a substantial amount of new issuance has to be digested. That's why we saw some softening in secondaries. We would want to see slightly wider spreads again before going long and thus stay neutral for the time being. On emerging-market corporates and sovereigns, we are also awaiting attractive entry points, as we remain constructive in the longer term.
The multi-asset perspective
At the end of November, we downgraded the overall portfolio-risk appetite from a mild preference to a mild dislike. A mild dislike leaves sufficient flexibility to adjust equity risk in a more meaningful way if and when required. Clearly, markets have enjoyed another nice rally in the last couple of months on the back of less perceived political uncertainty. At the same time, the macro environment has stabilized somewhat.
Equity markets remain cheap compared to bonds. On a stand-alone basis, equities have reached new all-time highs lately and are getting more and more expensive. With regard to bonds, rate-cut expectations are no longer aggressive but largely priced out or delivered. Diversification benefits look better again with more negative correlation between equities and bonds. Market sentiment and positioning is now more neutral coming from a risk-aversion stance while growth expectations moved up quite strongly.
Overall, we acknowledge a slightly improving macro picture with markets having anticipated this one already and priced out major tail risks on the political front. A mildly cautious stance on overall risk seems appropriate at this point in time of the year, given the exceptional year-to-date cross-asset returns and room for disappointment given market pricing. Within equities, we have not upgraded emerging markets yet given prevailing political risks from Hong Kong protests and the trade conflict. Bond markets, however, seem to signal that investors may be underestimating various tail risks. This confirms our mild preference for duration; we expect range-bound trading in the very short-term. Apart from fixed-income duration, gold and Japanese yen remain potential diversifiers of choice.
Past performance of major financial assets
Total return of major financial assets year-to-date and past month
Sources: Bloomberg Finance L.P., DWS Investment GmbH as of 11/30/19
Tactical and strategic signals
Fixed Income
| Rates | 1 to 3 months | until December 2020 |
|---|---|---|
| U.S. Treasuries (2-year) | ||
| U.S. Treasuries (10-year) | ||
| U.S. Treasuries (30-year) | ||
| German Bunds (2-year) | ||
| German Bunds (10-year) | ||
| German Bunds (30-year) | ||
| UK Gilts (10-year) | ||
| Japan (2-year) | ||
| Japan (10-year) |
| Spreads | 1 to 3 months | until December 2020 |
|---|---|---|
| Spain (10-year)[1] | ||
| Italy (10-year)[1] | ||
| U.S. investment grade | ||
| U.S. high yield | ||
| Euro investment grade[1] | ||
| Euro high yield[1] | ||
| Asia credit | ||
| Emerging-market credit | ||
| Emerging-market sovereigns |
| Securitized / specialties | 1 to 3 months | until December 2020 |
|---|---|---|
| Covered bonds[1] | ||
| U.S. municipal bonds | ||
| U.S. mortgage-backed securities |
| Currencies | ||
|---|---|---|
| EUR vs. USD | ||
| USD vs. JPY | ||
| EUR vs. JPY | ||
| EUR vs. GBP | ||
| GBP vs. USD | ||
| USD vs. CNY |
Equities
| Regions | 1 to 3 months[2] | until December 2020 |
|---|---|---|
| United States[3] | ||
| Europe[4] | ||
| Eurozone[5] | ||
| Germany[6] | ||
| Switzerland[7] | ||
| United Kingdom (UK)[8] | ||
| Emerging markets[9] | ||
| Asia ex Japan[10] | ||
| Japan[11] |
| Style | |
|---|---|
| U.S. small caps[23] | |
| European small caps[24] |
Legend
Tactical view (1 to 3 months)
- The focus of our tactical view for fixed income is on trends in bond prices.
- Positive view
- Neutral view
- Negative view
Strategic view until December 2020
- The focus of our strategic view for sovereign bonds is on bond prices.
- For corporates, securitized/specialties and emerging-market bonds in U.S. dollars, the signals depict the option-adjusted spread over U.S. Treasuries. For bonds denominated in euros, the illustration depicts the spread in comparison with German Bunds. Both spread and sovereign-bond-yield trends influence the bond value. For investors seeking to profit only from spread trends, a hedge against changing interest rates may be a consideration.
- The colors illustrate the return opportunities for long-only investors.
- Positive return potential for long-only investors
- Limited return opportunity as well as downside risk
- Negative return potential for long-only investors
Appendix: Performance over the past 5 years (12-month periods)
| 11/14 - 11/15 | 11/15 - 11/16 | 11/16 - 11/17 | 11/17 - 11/18 | 11/18 - 11/19 | |
|---|---|---|---|---|---|
| Asia credit |
2.7% |
5.7% |
5.4% |
-1.9% |
12.5% |
| Covered bonds |
1.4% |
1.3% |
1.1% |
-0.2% |
3.7% |
| Dax |
14.0% |
-6.5% |
22.4% |
-13.6% |
17.6% |
| EM Credit |
-0.2% |
8.6% |
8.6% |
-2.4% |
14.1% |
| EM Sovereigns |
0.2% |
7.2% |
10.9% |
-4.8% |
14.3% |
| Euro high yield |
2.4% |
5.8% |
8.1% |
-3.0% |
8.7% |
| Euro investment grade |
0.6% |
3.2% |
3.3% |
-1.7% |
6.5% |
| Euro Stoxx 50 |
11.6% |
-9.4% |
20.7% |
-8.0% |
21.1% |
| FTSE 100 |
-1.9% |
11.1% |
12.3% |
-0.7% |
10.1% |
| German Bunds (10-year) |
3.2% |
2.5% |
0.4% |
1.6% |
5.1% |
| German Bunds (2-year) |
0.4% |
0.1% |
-0.8% |
-0.5% |
-0.6% |
| German Bunds (30-year) |
5.8% |
6.6% |
-1.3% |
3.8% |
14.5% |
| Italy (10-year) |
6.7% |
-1.6% |
5.0% |
-7.3% |
17.6% |
| Japanese government bonds (10-year) |
1.8% |
2.1% |
0.3% |
0.1% |
1.5% |
| Japanese government bonds (2-year) |
0.1% |
0.1% |
-0.1% |
-0.1% |
-0.2% |
| MSCI AC Asia ex Japan Index |
-10.6% |
7.1% |
35.2% |
-9.6% |
7.8% |
| MSCI AC World Communication Services Index |
-9.8% |
-3.9% |
7.5% |
-7.1% |
12.2% |
| MSCI AC World Consumer Discretionary Index |
4.3% |
-2.3% |
22.1% |
-0.6% |
13.2% |
| MSCI AC World Consumer Staples Index |
-0.3% |
-2.6% |
15.8% |
-4.6% |
9.3% |
| MSCI AC World Energy Index |
-18.9% |
8.5% |
3.0% |
-3.1% |
-6.0% |
| MSCI AC World Financials Index |
-7.7% |
3.7% |
22.4% |
-8.6% |
6.3% |
| MSCI AC World Health Care Index |
0.7% |
-8.2% |
19.9% |
9.2% |
7.4% |
| MSCI AC World Industrials Index |
-3.5% |
6.1% |
22.0% |
-7.0% |
13.0% |
| MSCI AC World Information Technology Index |
2.4% |
7.3% |
41.5% |
1.0% |
27.8% |
| MSCI AC World Materials Index |
-17.4% |
15.2% |
23.6% |
-11.6% |
6.9% |
| MSCI AC World Real Estate Index |
-5.1% |
-1.5% |
15.1% |
-4.5% |
11.5% |
| MSCI AC World Utilities Index |
-12.5% |
0.2% |
20.1% |
-3.7% |
11.1% |
| MSCI Emerging Market Index |
-17.0% |
8.5% |
32.8% |
-9.1% |
7.3% |
| MSCI Japan Index |
7.6% |
1.7% |
24.3% |
-6.0% |
9.3% |
| Russell 2000 |
3.5% |
12.1% |
18.3% |
0.6% |
7.5% |
| S&P 500 |
2.7% |
8.1% |
22.9% |
6.3% |
16.1% |
| Spain (10-year) |
4.7% |
2.2% |
4.2% |
1.5% |
9.5% |
| Stoxx Europe 600 |
14.5% |
-8.1% |
16.8% |
-4.4% |
18.3% |
| Stoxx Europe Small 200 |
21.8% |
-6.6% |
21.9% |
-5.6% |
19.7% |
| Swiss Market Index |
1.3% |
-9.2% |
22.2% |
0.3% |
20.0% |
| U.S. high yield |
-3.4% |
12.1% |
9.2% |
0.4% |
9.7% |
| U.S. investment grade |
0.0% |
4.2% |
6.0% |
-2.8% |
15.2% |
| U.S. mortgage-backed securities |
1.7% |
1.6% |
2.1% |
-0.5% |
8.0% |
| U.S. Treasuries (10-year) |
2.0% |
0.6% |
2.2% |
-1.6% |
12.3% |
| U.S. Treasuries (2-year) |
0.4% |
0.7% |
0.4% |
0.8% |
4.2% |
| U.S. Treasuries (30-year) |
1.8% |
1.2% |
6.3% |
-5.3% |
24.6% |
| UK Gilts (10-year) |
2.9% |
5.2% |
2.2% |
2.0% |
6.4% |
Source: Bloomberg Finance L.P. as of 12/2/19
Past performance is not indicative of future returns. Forecasts are based on assumptions, estimates, opinions and hypothetical models that may prove to be incorrect.
2. Relative to the MSCI AC World Index
3. S&P 500
5. EuroStoxx 50
6. Dax
8. FTSE 100
9. MSCI Emerging Markets Index
10.
MSCI AC Asia ex
Japan Index
11. MSCI Japan Index
12. MSCI AC World Consumer Stables
13. MSCI AC World Health Care Index
14. MSCI AC World Communication Services Index
15. MSCI AC World Utilities Index
16. MSCI AC World Consumer Discretionary Index
17. MSCI AC World Energy Index
18. MSCI AC World Financials Index
19.
MSCI AC World
Industrials Index
20. MSCI ACWI Information Technology Index
21. MSCI AC World Materials Index
22. MSCI AC World Real Estate Index
23. Russel 2000 Index relative to the S&P 500
24.
Stoxx Europe Small 200 relative to the Stoxx
Europe 600
25.
Relative
to the Bloomberg Commodity Index
