So far, so good this year for both the economy and financials markets with, cherry on the cake, a happy end for my favorite Italian soccer club as the Cagliari Calcio saved itself courageously from the relegation in Serie B. While investors haven’t had (yet) any reasons to cry, there were some tears on the eyes of the legendary coach Claudio Ranieri (72 years old) when Cagliari’s fans gave him an emotional standing ovation for his last game, while a banner displayed the message “eternal gratitude to a great man”, as he announced his retirement from club coaching.
Although there is not much room for emotion in the eyes of investors, it has to be said that our vision remains a little hazy as regards the outlook for economic growth and inflation in the US. Recently, US economic data have tended to come on the weak side as illustrated by the Citi Economic Surprise Index for the US, which turned negative for the first time in more than one year. A blessing in disguise at a time when an overheating US economy delaying further Fed rate cuts or, worse, exerting upward pressures on inflation and long rates, is a main risk for financial markets. In other words, bad news is (currently) good news. In this context, lower than expected US jobless claims last week (layoffs remain muted) and much better than expected May preliminary US PMI indices didn’t exactly delight bond and equity markets. Hopefully, Nvidia results were the $2.5 trillion tree that perhaps hided some trouble-sticks to come in case of an extended higher for longer rates environment.
Citi Economic Surprises Indices: soft patch in the US vs. surprising on the upside in Europe
Basically, it’s still hard to make a strong prediction about the US growth trajectory for the 2nd part of the year: will it “naturally” slow down considering the last 12M strong performance (a temporary soft patch seems due)? By how much? With what impact on the labor market? Or will it once again defy gravity and surprise on the upside? Economic indicators continue to send contradictory, or at best indecisive, signals. The yield curve has now been inverted for more than 570 days, but still no recession a sight. The 6 months change of US leading indicators is still in negative territory but it’s now picking up. Same story for the Cass Freight Index, while the ISM manufacturing index is currently oscillating around 50 after spending 17 months below this expansion-contraction threshold.
US ISM mfg index and Cass Freight Expenditures
Commercial & Industrial loans growth has now stabilized… close to 0%, while according to the Sam Rule the US economy hasn’t yet crossed the recession’s Rubicon (according to this rule, the early stages of a recession is signaled when the 3 months moving average of the US unemployment rate is +0.5% or more above the lowest 3M moving average unemployment rate over the previous 12 months – latest value is +0.37%-). In the meantime, the Atlanta Fed GDPNow real GDP estimate for Q2-2024 is standing at +3.5%… above the +2.1% consensus forecast.
Sahm Rule: still no recession… but getting closer to the edge
As a result, the most sensible scenario concerning US growth at this stage is therefore one of a soft, but bumpy, landing with slower but still positive growth, which should be fine for equities. Note however that the growth outlook for the next 6 months seems “clearer” in Europe, excluding a massive external shock or a hypothetical severe recession in the US. It has likely turned the corner as we have experienced a steady improvement in activity (coming from a low base after 12-18 months of stagnation) with a firming of the growth momentum lately as illustrated by Q1 GDP prints and the latest PMI indices. Add also to that some tentative signs of bottoming in German manufacturing, inflation falling back more rapidly, ECB rate cuts to start as soon as next month -which should provide some oxygen to rates-sensitive sectors such as real estate- easy monetary policy and the growth picture is broadly encouraging / heading in the right direction with a higher certitude. So, there is some form of growth catch-up from Europe.
In the short term, China prospects seem also OK given the ongoing support of the government, especially with the recent announcement of the most comprehensive stimulus package so far to shore the Chinese property market up (lowering the minimum down-payment ratio for first and second home, removing the nationwide minimum mortgage rate floor, absorbing the stock of unsold properties). Obviously, it won’t be sufficient to solve the many structural issues China is facing (according to GS or Capital Economics, the total value of unsold properties represent between $1 and $1.5 trillion vs… a government envelope of $42bn to buy some of them -or about $60bn when leveraged by Chinese banks-) but it should put a floor to growth for the second part of the year. Whereas, other EM are doing fine overall with positive growth and inflation under control, while a Fed’s rate cut may only cement further this favorable backdrop.
To sum up, we agree with both OCDE and IMF latest growth projections as they expect more of the same/toppish global growth with US likely slowing “moderately” (at least not accelerating further in next 3-6M) and Europe/EM/China catching up to some extent. In this context, we shouldn’t expect major/significant gains (nor losses) on global equity markets.
G20 Composite leading indicators and MSCI World: toppish growth outlook points to … toppish global equity markets
However, it doesn’t mean that some markets (non-US ones for example), some sectors, styles or segments (such as small caps) can’t post strong gains. We may thus expect more churning, sectors rotation and overall volatility for the 2nd part of the year, especially after the summer’s lull when US elections will get closer and we will know more about Fed’s intentions about policy rates trajectory. As a result, an overall neutral stance on equity seems perfectly appropriate at this point.
Economic Calendar
Inflation will remain on the investors’ (and central bankers) radar this week with the key releases of the preliminary European CPIs as well as the US April PCE deflator on Friday along with the personal income, spending and saving data. This data comes in a context of renewed question’s marks about the timing and extent of rate cuts by the Fed but also other major central banks to some extents (UK inflation dropping less than expected, Euro Area Q1 wages proving stickier than expected, US economic data surprising again on the upside,…) and just before a series of central bank meetings next month starting with the ECB on June 6th (then the Fed on June 12th, BoJ on June 13th, BoE and SNB on Thursday June 20th).
Staying in Europe, the flash CPI for May are due for Germany on Wednesday and for the Eurozone, along with Italy and France as well, on Friday. For both Germany and the whole Euro Area, the consensus expects a deceleration on a monthly basis (+0.2% in May vs. +0.5% in April) and a slight uptick from 2.4% to 2.7% on a yoy basis. Following the strong PMI and wage data last week, there is little room left to dismiss any potential upside surprise on inflation. In other words, higher than expected flash CPI prints may jeopardize the consensus view of an ECB’s rate cut as soon as in a fortnight. Furthermore, the ECB will have plenty of other important macro data to crunch before they meet, such as the unemployment rate, the economic confidence and the current overall business climate (all released on Wednesday), while the German Ifo index will be released today.
Turning to the US, the consensus expects basically no change in headline and core PCE deflator with monthly gains stable at +0.3% for both and yoy% changes remaining at +2.7% and +2.8% respectively. Growth in both income and spending is expected to haven somewhat softened last month, but still remaining sufficiently positive to provide a resilient floor to overall US growth. Otherwise, the Fed’s Beige Book will be out on Wednesday and the Conference Board’s consumer confidence survey results are due on Tuesday.
Finally, investors will also have a look to Asia on Friday morning with the releases of the latest May PMI indices for China, and April economic activity (industrial production, retail sales and housing starts) and labor market data for Japan. To conclude with the Q1-2024 earning season, which is now winding down, the few notable companies to report include Costco, Salesforce, RBC, Dell, Marvell Technology, HP and Dollar General.
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