The synchronized growth witnessed in 2017 is expected to continue this year, according to economists, who say markets can weather the gradual normalization of monetary policy.
The world economy may expand 3.7% after growing 3.6% in 2017, according to the International Monetary Fund. The US may accelerate to 2.3% growth from 2.2%, the IMF has said.
Analysts say the global economy has entered a self-sustaining growth cycle that can withstand a rising US federal funds rate. There is also abundant cash in financial markets ready to be deployed. In 2017, this caused multiple assets – from stocks to corporate bonds to private equity – to climb and even reach new highs.
Central bank policy key for corporate bonds performance
While most asset allocators consulted by PULSE ONLINE are positive on equities (which will be reviewed in a follow-up article), there is more debate about the effect of tighter monetary policy on fixed income markets.
According to analysts at Capital Economics1 and BNP Paribas Asset Management,2 the Federal Reserve may raise interest rates four times in 2018, more than is currently anticipated in markets, causing bond yields to rise. Capital Economics forecasts 10-year Treasury yields will climb to 3.0% by the end of 2018 from 2.3% at the end of last year as investors reassess the outlook for monetary policy.
Already in the first few days of this year, 10-year Treasury yields have climbed to 2.57%.
The Fed has started to reduce its bond portfolio while the European Central Bank has said it will buy corporate bonds until September 2018. All which makes the outlook for government bonds and credit uncertain.
Deutsche Bank strategists say government bonds in the US, UK and Germany are likely to lose money in 2018, while credit will provide a positive return thanks to coupon payments.3
While global credit performed well in 2017, European corporate bonds underperformed. The EURO STOXX 50® Corporate Bond index, which tracks debt issued by the Eurozone’s largest and most established companies, ended 2017 where it started. It returned 1.4% when including coupon payments.
A pivotal year
Far from peaking, global growth is expected to continue in 2018 at a similar pace to last year, providing a positive background for financial markets. Nevertheless, investors will have to withstand the removal of extraordinary monetary support that has been in place for a decade.
The defining characteristic of 2018 might be a ride of volatility once the monetary punch bowl is removed. Please visit the second part of this 2018 outlook for a look into forecasts for the equity market and a review of risk-control strategies.
Featured indices
EURO STOXX 50® Corporate Bond index
1 Capital Economics, ‘Capital Daily,’ Dec. 8, 2017.
2 BNP Paribas Asset Management, ‘Sustaining Momentum? The US and European Macro Outlook for 2018,’ Dec. 7, 2017.
3 Deutsche Bank, ‘Credit Outlook 2018,’ Nov. 27, 2017.