by Mike Pyle, Blackrock
Mike explains how our global outlook has evolved with the developing coronavirus outbreak.
We still expect the global growth to edge higher this year, even as the coronavirus outbreak has introduced uncertainties, as detailed in the February update of our Global Outlook. V-shaped recoveries in economic activities have often followed past epidemics – and we expect a repeat of this pattern. Yet the depth and width of the “V” this time are highly uncertain. This outbreak could be more disruptive than past ones because it could be more severe, and because of greater reliance on global supply chains.
Growth prospects have started to improve in key developed economies since late 2019. Our BlackRock Growth GPS, which aims to give a read of where consensus forecasts of real economic growth may stand in three months’ time, has shown an inflection in growth expectations for the U.S., the euro area, Japan and the UK. See the chart above. Growth momentum was also starting to recover in emerging markets (EM) late last year. The coronavirus outbreak has emerged as a principal risk to our global growth outlook. Historically the post-outbreak recoveries have often been fueled by the pent-up demand in retail and a restart of manufacturing sector. Yet key uncertainties around this outbreak may make history an unreliable guide. It is still too soon to gauge the magnitude and duration of this outbreak as well as its overall impact on the global economy.
The short-term impact from the coronavirus outbreak – thus far mostly stemming from China’s containment measures – will likely play out in coming quarters. Based on what we now know, we see it delaying, but not derailing, a growth uptick that should take root this year. China’s central bank has already started to ease policy, and we are likely to see more support from Chinese authorities to shore up growth, yet an ongoing desire to rein in financial excesses leaves open the size and shape of the stimulus. Another key development to watch: How extensively will the outbreak spread beyond China?
The coronavirus outbreak may also pose medium-term risks. Potential disruptions to global value chains could drive up prices – and push companies that suffer from such disruptions to build up higher stockpiles and start to rethink prevalent just-in-time inventory management systems. This adds to the potential disruptions to global supply chains from trade protectionism. Over time, such supply shocks could lead to a change in the macro regime. One possibility: Growth slows and inflation rises. This might pressure the negative correlation between stock and bond returns over time, reducing the diversification properties of government bonds.
Bottom Line
Our base case for the global economy in 2020 is still for a modest pickup in growth, with a slight rise in U.S. inflation pressures. This in turn limits recession risks. Financial vulnerabilities are climbing, but our overall gauge of vulnerabilities across the economy stands well short of its peaks ahead of the last recession. We still view this as a favorable backdrop for risk assets over a 6-12 months horizon, even considering the impact from the coronavirus outbreak. Yet many uncertainties around its severity, as well as potential economic and market impacts could make the path forward uneven. Over the same time horizon, we still see potential for a bounce in cyclical assets, such as Japanese and EM equities, as well as EM debt and high yield. We see a neutral stance on U.S. equities as appropriate as growth recovers and uncertainties around the 2020 U.S. election intensify – despite their recent outperformance. We are underweight European equities and see greater upside in cyclical exposures elsewhere. We prefer short-term U.S. Treasuries on a tactical basis and like both long-term Treasuries and Treasury Inflation-Protected Securities (TIPS) as sources of resilience against potential regime shifts in strategic allocations, even as the recent rally in real rates has made an entry point less attractive now.
Mike Pyle, CFA, is Global Chief Investment Strategist for BlackRock, leading the Investment Strategy function within the BlackRock Investment Institute. He is a regular contributor to The Blog.
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