Overview
The FLI 'Cycle Tracker’ edged down but remains firmly in the ‘top-right’ quadrant (growth positive and accelerating). This points to global growth picking up pace to solid levels into 2020, and suggests the rise in core government bond yields and the equity market break-out can extend further.
The FLI ‘bet’ improved as some sectors transitioned into more positive quadrants. It remains risk-on, approaching the 90th percentile based on historical track record which suggests investors should be short duration and long risky assets.
Sector developments paint a more positive picture overall, as three of five sectors are now in the ‘top-right’ quadrant. But the upswing may be relatively subdued given the lack of agreement in the underlying components and some signs of fading momentum.
The commodity-lined components gauge remains in positive growth territory, albeit with acceleration starting to wane. Global Trade similarly remains in the ‘top-right’ despite fading momentum. The lack of improvement in soft data continues, and any trade acceleration looks unlikely to extend significantly.
Business Surveys have managed to grind higher to edge into the ‘top-right’ quadrant. Interestingly, the positive inflection has been notable in manufacturing - most clearly in new orders/inventories ratios. Conversely, services remain below-trend, and are lagging in terms of acceleration.
The other two sectors are (barely) in the ‘top-left’ (growth below-trend but improving) quadrant.
Consumer/Labour remains fairly anaemic, with growth flatlining at just below-trend levels. The weakness stems from consumer confidence, which looks to have peaked, although hard data on the US labour market is rebounding after a very weak run. Considering the lack of spare capacity, we cannot expect a big positive impulse to come from the developed market consumer.
Industrial Orders have been incredibly flat for a long time, but are now accelerating slightly - an improvement over the prior reading. Germany’s export orders are well past the worst and grinding higher, despite the country’s still-challenged domestic picture. However, Japan’s and the US’ components still look decidedly weak, despite marginal sequential improvement.
Reasons for optimism
Considering key economic drivers, we see reasons for optimism. Global monetary conditions have eased massively after tightening last year, with developed market sovereign bond yields plunging by a similar magnitude as in 2007-09. The Fed is expanding its monetary base at a similar pace as in prior quantitative easing cycles. While further rate cuts are dependent on downside surprises in data, the easing bias is firmly intact.
This is clearly feeding through into stronger US housing data, for instance. It has also allowed almost every major EM central bank to lower policy rates, after forced tightening last year. Chinese policy has been on hold at a moderately easy stance for many months and may be loosened into 2020. Given policy lags, we would expect the swing from last year’s painful ‘deleveraging’ to the first half’s credit-and-fiscal expansion to be felt more forcefully in activity data at around this time.
The same risks we mentioned last month are still worth watching. The US-China trade war is at the forefront, and market sentiment could well be hit if any surprises happen to prevent a ‘Phase 1’ deal. However, given that several rounds of tariff escalation have not prevented the FLI from accelerating this year, the risk of further damage to global growth may be subdued.
Conversely, the US may struggle to accelerate even if the rest of the world picks up - as the boost from prior years’ fiscal policy reverses amid a mature credit cycle, tight labour market, and increasing election uncertainty. For developed markets in general, a lack of positive structural reform, labour market tightness, and limited upside to credit creation suggest that any acceleration may be more cyclical than secular.
