Over the weekend, we flagged a rather disconcerting statistic.
Through October 31, only 23% of global assets have managed positive returns in 2018. That’s according to BofAML, who looked at some 300 assets spanning equities, commodities, FX and credit.
As the bank’s Barnaby Martin observed, it is exceedingly rare that such a relative few asset classes would have logged positive returns in a given year outside of recessions or debt crises.
For Martin, it is not a coincidence that assets of all stripes are struggling “in a world of vanishing QE support.” We summed things up in the most straightforward manner possible:
For nearly a decade, investors have enjoyed a backstop from a never-ending, price insensitive bid emanating from a buyer armed with a printing press. That buyer is now pulling back (collectively speaking). The results will be predictable as legions of investors who long ago confused the generosity of their benefactors with their own supposed market acumen, will be forced to fend for themselves.
The next day, we followed up on that with a short post that featured the following chart:
Simply put: USD “cash” is now some semblance of viable when it comes to presenting an alternative to risk assets. Just as the nine-year global hunt for yield reverses course, short-end rates are rising in the U.S., sapping demand from risk assets. “TINA” is dead.
It’s important to note that this is playing out against the end of “Goldilocks”, the combination of synchronized global growth and well-anchored inflation that underpinned the low vol. regime and transformed everything into an expression of the carry trade.
In 2018, both the synchronous global growth story and the well-anchored inflation narrative have been called into question. Recent data appears to suggest that global growth is rolling over in the face of trade concerns and at least in the U.S., signs of inflation are mounting.
“Last week’s survey indicators of global activity signal a fairly coherent message about global trade — the slowdown is accelerating”, Barclays warns, in a note dated Sunday.
The bank goes on to write that “in the US, Asia and Europe, the export orders component of PMIs came in weaker than expected and signaled even weaker export demand than in previous months”. It’s no secret that a decelerating Chinese economy and, by extension, the trade war, are casting a pall over the global economic outlook.
The worsening growth/inflation mix is bad news for risk assets. It’s impossible to overstate just how important (and how ubiquitous) the “Goldilocks” narrative was in 2017. Now, that narrative appears to be dead.
“Investors have faced a worsening macro backdrop YTD, which has pushed up risk premia across assets”, Goldman says, in a new note out Monday evening.
The bank contrasts this with last year when, as noted above, “most assets benefited from a ‘Goldilocks’ backdrop of accelerating, synchronized global growth but anchored inflation and rates.”
Goldman goes on to caution that their global Current Activity Indicator now sits at 3.6%, down from 5.2% last November. The bad news is obviously that the fiscal impulse and monetary policy support will wane in 2019. “At the same time inflation has picked up and US rates have increased further, both Fed funds and the US 10-year yields”, the bank adds.
What does it usually mean for U.S. equities when the growth/inflation mix sours? Well, nothing good. When the ISM is falling and CPI is rising, returns for the S&P are demonstrably lower historically speaking, while volatility is high (left pane below). Meanwhile, the distribution of returns during such periods is clearly unfavorable compared to other growth/inflation outcomes.
“There are more negative tails with a falling ISM, especially if the ISM falls below 50”, Goldman writes, describing the distribution in the right pane.
If you thought “Goldilocks” was just a throwaway meme, only useful to the extent it generated good headlines for the financial media, you were wrong. It was indeed a useful construct which had a lot of utility when it came to explaining the persistence of the low vol. regime.
But you know what they say: You don’t know what you’ve got ’til it’s gone.