June 2019 Monthly Outlook – Business Cycle in the Late Stage

The global economy is entering into a mature / late cycle stage. We see continued solid, albeit slower, growth in the US, improvement in China, low inflation in most developed countries, and a pivot towards more fiscal stimulus and more accommodative monetary policies around the globe.  Historically, late-cycle phases have ranged from 9 months to more than 2 years.  The near-term risk of recession remains low, but the outlook for 2020 is less certain.

6.3.2019_MONTHLY_OUTLOOK_CHART_1

*The diagram above is a hypothetical illustration of the business cycle. There is not always a chronological, linear progression among the phases of the business cycle, and there have been cycles when the economy has skipped a phase or retraced an earlier one. A growth recession is a significant decline in activity relative to a country’s long-term economic potential. We use the “growth cycle” definition for most developing economies, such as China, because they tend to exhibit strong trend performance driven by rapid factor accumulation and increases in productivity, and the deviation from the trend tends to matter most for asset returns. We use the classic definition of recession, involving an outright contraction in economic activity, for developed economies. Source: Fidelity Investments (AART), as of April 30, 2019.

US: Late-cycle dynamics clear, pace of phase progression uncertain

The US is currently displaying more key late-cycle trends than it has over the past 3 years (see chart below). However, these trends remain relatively slow moving, and some have recently stalled, including wage growth and Fed tightening. The direction and rate of change of these trends should help determine how long the current cycle extends.

The US is exhibiting key late-cycle trends, but they have been slow moving

Indicator Current trend Latest readings
Employment/wages Labor markets tighter; wages higher than 2–3 years ago Pace of improvement has stalled
Monetary policy Fed policy tighter than one year ago Fed on indefinite pause
Yield curve Flattening Flat, near inversion
Credit Some tightening of lending standards Credit accessible, spreads tight
Corporate profits Margins lower than 3 years ago Earnings boosted from tax cuts; expectations ~5% and stable
 

Source: Fidelity Investments (AART), as of March 31, 2019.

 

China: Better but may not be enough to help global economy

China’s outlook has improved in 2019. Due in large part to a greater shift toward fiscal and monetary stimulus, industrial production growth has begun to recover and it appears the economy may be emerging from its growth recession.

 

Europe: Stabilizing at a weak level

Labor markets have generally continued to improve in many core European economies, but consumer sentiment and consumption gains remain muted. In fact, German households have increased their savings rate over the past year, even as unemployment has dropped to cyclical lows

 

Base-case scenario: Muddling through the late cycle

Our base-case scenario is that the global economy is past its peak and most major countries are in mature stages of the business cycle. While the absolute level of global growth remains muted, leading indicators of activity have recently reflected some signs of stabilization. This environment should be generally favorable to a balanced portfolio of stocks and bonds.

 

Best-case scenario: Prolonged Goldilocks environment

The best of all possible worlds would be if the various trade/tariff battles get resolved successfully, which would allow business investment to pick up.  US productivity growth re-accelerated on a sustained basis, providing faster growth without stoking inflation. This could allow the Federal Reserve to stay on hold (no rate increases). This environment should be generally favorable to risk assets such as stocks.

 

Worst-case scenario: Rising recession risks

The worst-case scenario is that the global economy continues faltering. In this scenario, China’s stimulus would prove insufficient, global economic growth would remain lackluster, and the US economy would decelerate. Current market expectations that the Fed’s next move will be a rate cut would be proven correct, but this would be a response to rising recession risks. In this environment riskier assets, such as stocks, would be expected to perform worse than more defensive ones, such as government bonds.

 

The big wild card: Trade policy

The big risk that could shock the global cycle into a more challenging outcome would be the escalation of US trade tensions. The US-China trade talks have stalled.  President Trump has threatened tariffs on Mexico, even before the recently negotiated US/Mexico/Canada trade deal has been ratified, and trade negotiations are ongoing with the European Union. A return to tit-for-tat tariff increases would create stagflationary headwinds on a global basis, and they would likely weigh heavily on business and financial-market sentiment. The worse-case scenario of rising global recession risk would become more pronounced.

 

The outcome of the trade issue is highly uncertain. While I can see reasons for a deal getting done (mostly the 2020 US election), the recent actions and rhetoric make that less likely.

 

There are several key dates I am watching in June:

 

  • June 1  –   the day Chinese tariffs are implemented on $60 billion of U.S. exports
  • June 10 –  the day the recently announced tariffs on Mexico are to be implemented
  • June 19 –  the next Federal Reserve meeting and interest rate announcement
  • June 24 –  when the U.S. could outline an additional $325 billion worth of Chinese imports to be tariffed
  • June 28 –  the potential face-to-face meeting between Presidents Trump and Xi at the G-20 summit in Japan

 

My outlook is cautious but not bearish.  We have tightened our risk-controls but have not gone defensive.  We continue to monitor all of our indicators and will respond accordingly.

Rest assured that your portfolio is diversified and prepared for this type of market environment. Expectations of increased volatility are built into your portfolio.

We hope you find this report helpful.  Please call us with any questions.  Also, please share this report with anyone you feel it would benefit.

 

June Calendar of Events   (comments and additions for future months are always welcome)

  • June is LGBT Pride Month.  Let’s all work towards acceptance and inclusion of people regardless of their sexual orientation.
  • June is also National Safety month.  Schools are closing for summer and folks will be outside more so be mindful on the roads. Perhaps take a first aid or CPR course.

 

June 14th         Flag Day                  

June 17th         Father’s Day  – wishing all father’s, grandfathers, and great grandfathers a wonderful day.

June 21th         Summer begins – let’s see what Mother Nature has in store for us                   

On a personal note, the newest member of the Directional Wealth Management Team, Skyler Misa, was baptized on June 2nd.  Congratulations to the Misa family.

skylar_baptism

Sources: Fidelity Investments (AART), Investopedia Chart Advisor

 

 

Although information herein has been obtained from sources deemed reliable, its accuracy and completeness are not asserted. All opinions and estimates included in this report constitute the judgment of the financial advisor as of the dates indicated and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security.

Investing involves risk and you may incur a profit or a loss. Diversification does not ensure a profit or ensure against a loss. There is no assurance that any investment strategy will be successful.  Past performance is no assurance of future results.

Please consider the charges, risks, expenses and investment objectives carefully before investing. Please see a prospectus containing this and other information. Read it carefully before you invest or send money.

Information provided should not be construed as legal or tax advice.  You should discuss any tax or legal matter with the appropriate professional.

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