Bull markets are like a bike race up a large hill. They start off full of energy with the riders making strong progress early on, before soon settling into a gentle climb. Inevitably, there are some bumps in the road and even the odd downhill section. During these little dips, the momentum generated from the downward movement often translates into a quick start at the next part of the uphill journey. But then, as the peak comes into sight, the final ascent often becomes a crawl. And so, after a 10 year ride, the global economy is now slowing down.
Faced with a similar slowdown in 2015-16 the uphill journey continued, but only after substantial fiscal stimulus from both the US and China, significant monetary easing from Europe and China, and a pause in interest rate rises in the US.Fast forward to 2019 and the situation is different. We are faced again with slowing global growth, but are now much later in the economic cycle. Plus, it is only China that has any real capacity or appetite for further stimulus, as the Fed pauses once again.
The effect of the US tax cuts are also set to wane, becoming a drag on the pace of growth. There is little chance of further meaningful US fiscal stimulus before the next election, as the Democrats now control the House of Representatives.
Across the pond, the ECB has almost reached the maximum number of government bonds they can buy under existing rules. Furthermore compared with three years ago, the capacity for the economy to push higher is more limited. As the labour market tightens, workers are demanding higher pay, raising company costs. As a cyclist’s heart rate rises through a race, as have US interest rates. And while it’s not clear exactly how much higher they could go, they probably can’t rise much further, without causing trouble for markets and the economy.
“The effect of the US tax cuts are also set to wane, becoming a drag on the pace of growth"
Geopolitical risk is also adding uncertainty to the outlook for markets. The hostile approach to global trade was behind much of the disappointment across economies and asset markets in 2018 and the underlying issues behind the dispute may prove hard to resolve. In addition, Brexit continues to cloud the outlook for the UK economy while Europe is also faced with increased political populism.
At this stage in the race, rather than trying to be in pole position at the peak of the climb, investors could benefit from preparing for the journey beyond the peak. US government bonds, hedged into sterling to take out the currency risk, could provide some protection when interest rates are inevitably cut during the next downturn.
In contrast, the UK and Eurozone have much less room to cut rates. Alternative strategies with a low correlation to equities could also help in the event of a fall. And within equities, it is worth considering a shift in gears, towards large cap, high quality, value stocks: what works well on the ascent, often isn’t as effective after the peak.
By Mike Bell, Global Market Strategist, JPMorgan Asset Management. Mike is responsible for producing research-driven insights on the global economy and markets, and communicating them to institutional and retail clients in the UK and Europe.
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