January’s rally has been sharp and we were fully invested going into it.
We see no point in maintaining as much risks going forward and decide to reduce exposure today.
We recommend to take some profits, increase our hedge, and increase exposure to Gold and Silver.
As our readers know, we have been worried about a sharp economic slowdown in the first quarter of 2019 under the combined weight of the negative wealth effect of the 4th quarter’s fall in global equities, the US Government Shutdown impact on consumption and the global collapse in investment following the Trade Wars.
Davos’ gathering which ended last week tend to produce little in the way of meaningful policy shifts, but it is a useful way of gauging the mood about the global economy.
This year it was decidedly gloomy. The IMF grabbed the headlines by pulling down its forecast for global GDP growth in 2019 from 3.7% to 3.5%.
As it happens, we are more bearish than the IMF and expect a true deflation scare to take place this year. We expect the world economy to grow by 3.0% this year and probably just 2.8% in 2020. The latter would be the slowest pace of expansion since the global financial crisis.
This slowdown has started to show up in the economic data and sharp falls in the business surveys in Europe.
In China, the lagged effect of earlier policy tightening is still pulling down credit growth, which in turn is weighing on activity in the real economy. In Europe, problems in Italy have been compounded by disruption to vehicle production caused by new emissions tests, and a rise in inflation that has dragged on real incomes.
The data from the US have held up for now, but a collapse in consumer confidence points to an economy that is bound to slow further over the course of 2019 as last year’s fiscal stimulus wears off and the lagged effects of monetary tightening start to bite.
Taken together, these three regions account for just over half of global GDP. Given their size, weaker growth will inevitably weigh on the rest of the world – hence our view that we are in the early stages of a global downturn.
The downturn in our forecast is more severe than that envisaged by the IMF and others, but relatively mild when compared to 2008-09.
The extent of the deterioration in the latest data has surprised most economists. On some measures, industrial production in the euro-zone is now deteriorating at its fastest pace since 2009.
What really worries us is the impact of a sharp economic slowdown on a highly geared economy, particularly in the US, where CEO’s have taken advantage of the tax windfall and low nominal rates to increase their debt and buy back their own shares at the top of the market.
( see our SEVEN INVESTMENT CALLS FOR 2019)
Debt levels are high, monetary policy in this cycle has been unusually accommodative, asset prices everywhere look stretched, particularly bonds, and global trade imbalances continue to linger in the background.
America is where we are the most worried and we are reproducing here some interesting charts from STANBERRY Research showing the extent of the global leverage in the US economy and Investors’ bullishness.
Margin debt is at an extreme
Corporate debt is at a record high in absolute terms
… and at levels in % of GDP that usually led to major contractions
We have probably seen the best of the economic cycle and of employment
As was the case in 2007, the US economy is running above its potential
None of this feels particularly sustainable, so it wouldn’t be a big surprise if it all came crashing down.
So what are most economists missing ?
First, they are underestimating the fallout from global “trade wars” in our view. We highlighted very early on the negative impact on Investments uncertainty was bound to create with CEOs and the collapse in Investment numbers and the recession in Germany and Switzerland show that this is taking place.
Business investment in several countries has been unusually weak given the current point in the cycle, which does reflect skittishness about trade wars. And there is some evidence that the recent weakness in trade in Asia may have been caused by manufacturers of consumer electronics running down their inventories in anticipation of weaker demand resulting from higher tariffs.
This should unwind if the US and China manage to agree a trade truce, but it may nonetheless help to explain the weakness of the recent data.
Second – and more ominous – many commentators may not be taking into consideration that financial strains are building in the world economy.
There is nothing in the broad money or bank lending data to suggest that trouble is lurking around the corner. But financial conditions have tightened considerably in the world’s major advanced economies over the past six months.
Given the backdrop of high debt levels and stretched asset prices, it’s not unlikely to see how this could develop into something more serious.
Finally, Donald Trump and his advisors may be missing the fact that the global economy is now more inter-connected than ever, meaning that feedback loops are amplifying the effects of slowing growth in each of the world’s major regions, including the USA.
These may have boosted growth in 2017, when the world experienced a synchronised upswing. But Donald Trump’s Trade Wars may have unleashed the reverse phenomenon.
The one thing we are sure of, is that if a negative loop develops the US will be first and foremost affected and China will be the first to pull out of the dip as it does not show any of the excesses of the US and its consumer is far less leveraged.