2016 outlook: Mixed expectations - what's ahead for the global economy and markets in 2016?Contributors Stephanie Flanders, Global Markets Insights Strategy Team
- In December 2015 we saw an interest rate rise in the US, further monetary loosening in the eurozone and another lurch down in oil prices – all key developments which will frame the outlook for investors for many months to come.
- The big message is one of divergence: the world is divided, not just by the direction of monetary policy, but by region and by sector, with the brightest spots in the global economy largely in the developed markets and close to consumers.
- Despite the prospect of further rate increases in the US and probably the UK, policy in most of the world is still highly supportive. It makes sense for investors to be tilted in favour of risk assets over core fixed income, and developed market (DM) assets over emerging ones.
- But at this stage of the cycle the base case for even favoured DM equity markets is for returns to remain in single digits. This strengthens the case for investors to explore alternate asset classes. If global growth worries recede, there could also be scope to boost returns later in the year through increased exposure to undervalued assets, for example, in EM.
- The risks we worry most about are another significant bout of dollar strength, due to missteps by the Federal Reserve or the European Central Bank, and/or a further weakening in global growth due to continued adjustments in emerging markets and the disinflationary forces coming out of China.
- Political risks are also a lurking concern, particularly the UK referendum on European Union membership, the European migrant crisis and the general election in the US.
Overview: key themes for 2016
It’s possible that the key events that will shape the global economy and markets in 2016 have already happened, in the closing weeks of 2015. December saw three meetings – by the European Central Bank (ECB), Opec oil producers and finally the US Federal Reserve (Fed) – which between them have set the tone for global investors for the first part of 2016, and quite likely the rest of the year.
With the loosening in policy by the ECB followed by a first Fed rate rise only two weeks later, we had decisive confirmation that monetary policy on both sides of the Atlantic is on divergent paths. Many developed central banks have tried to raise policy rates since the global financial crisis. None has been able to make that rate rise stick. In 2016, we find out whether the world’s most important central bank will be the first – and manage to follow that rate rise with a few more.
More important for investors than the exact timing of this first US monetary policy tightening is the pace of subsequent rate rises, which was a key focus on the day of the December move. The strength of US consumption and investment will be important in paving the way for continued gradual “normalisation”. But for investors it will also be important to watch the dollar and the price of oil.
That is where the Opec meeting comes into the equation. World energy prices fell by around 12% in December, partly because the producers represented at that meeting had failed to agree any reduction in oil production. This further decline in the price of energy appears to be largely supply-driven and should ultimately be positive for global consumption and growth. But as we learned in 2015, it also complicates the picture for central bank policy by pulling down inflation and for investors via the effect on headline US corporate earnings. It has also caused problems for high yielding corporate debt.
In this outlook, we lay out what we see as the key trends shaping the global economic landscape in 2016, before drawing out the key implications for investors. We end with a focus on the key risks hanging over markets – and the judgments we will be monitoring most closely as we move through the first part of the 2016.
1. A divergent global recovery led by DM consumers
We have become used to the theme of “divergence”, but the divergence that we saw in 2015 was multi-layered and is unlikely to go away any time soon. The world is divided by region and by sector, with developed economies doing better than emerging ones – and within each country, service sector businesses generally doing better than manufacturing (as seen in Exhibits 1 and 2).