Standard Chartered - monthly outlook (en)_watermark

US – The Fed signals a policy U-turn

Economy slows towards long-term trend. We believe US economic growth is likely to moderate towards a more sustainable long-term trend (closer to 2%) over the next 6-12 months. The Fed’s four rate hikes in 2018, which led to a stronger USD, appear to have soft-landed economic activity, even as 2017’s fiscal stimulus fades. While we believe the probability of a recession over the coming year has risen somewhat to 35% from 30% a month ago due to global trade uncertainty, the US economy is on track for its longest expansion on record (if the expansion stretches to Q3 2019). A still-robust, albeit slowing, job market continues to support consumption and the services sector. However, the trade uncertainty has hurt manufacturing activity and business investment and remains the main source of risk.

Fed signals rate cuts. We believe the Fed has set the stage for the first rate cut since 2008 as insurance to sustain the current expansion. We expect moderating growth and inflation to allow the Fed to cut rates 1-2 times in H2 2019.

Euro area – The ECB turns dovish too

External risks cloud outlook. Euro area data surprises have turned positive for the first time in nine months, helped by a 10-year-low jobless rate that is supporting wages, consumption and services. However, manufacturing sector confidence continues to weaken as the US-China trade war dampens the outlook for exporters. The uncertainty has hurt producers’ pricing power, leading long-term inflation expectations to a record low. Italy’s ongoing budget dispute with EU authorities, as the economy struggles to ward off another recession, remains another source of uncertainty.

ECB ready to ease again. We see increased chances of the ECB easing its already accommodative policy in the next 12 months, perhaps through another round of bond purchases and/or rate cuts. The choice of a new ECB President is the next focus as that could determine future policy actions.

UK – Hard Brexit unlikely

Preparing for PM Johnson. Boris Johnson, who led the 2016 referendum campaign to take the UK out of the EU, is the front-runner to become the UK’s next PM. However, we believe political constraints, including how to solve the Irish border issue, are likely to thwart a hard Brexit.

BoE to stay on hold. We believe Brexit-related uncertainty, especially if Johnson becomes PM, is likely to restrain the BoE from raising rates, despite the rising wage pressures.

Figure 11

Market expectations of more than one Fed rate cut by end-2019 have risen significantly over the past quarter

Money market probabilities of Fed rate cuts by Dec 2019

Source: Bloomberg, Standard Chartered

Figure 12

Euro area’s inflation expectations have fallen to new lows, despite economic data surprises just turning positive, leading the ECB to consider further policy easing

Euro area Economic Surprises Index; Market expectations of Euro area 5-year inflation expectations 5 years from now

Source: Bloomberg, Standard Chartered

Figure 13

UK leading economic indicators have continued to worsen, even as wage growth accelerates

UK Conf. Board Leading Economic Indicator; Wage growth excluding bonus

Source: Bloomberg, Standard Chartered

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Global Market Outlook | 2 July 2019

Japan – External risks mount

Trade outlook holds the key. Japan’s exports contracted for the sixth month in a row, led by its largest market, China. US-China trade tensions (despite their agreement to resume talks) continues to weigh on the outlook for Japan’s exportdriven economy. Given this, there are growing expectations that a planned sales tax hike in October may be delayed.

BoJ under pressure to ease further. Japan’s core inflation remains below 1%, less than half of the BoJ’s 2% target, while manufacturing sector indicators point to continued contraction in activity. We believe this raises the prospects of further BoJ policy easing. Governor Kuroda recently suggested the central bank would be flexible in its policy of targeting 10-year government bond yields around 0%. This likely implies letting the yield turn increasingly negative.

China – More policy easing to come

Downside risks mean more stimulus. The agreement between US and China to resume trade talks is a positive.

However, the inclusion of China’s technology sector leaders in the dispute and presence of hardliners on both sides may make progress difficult. The uncertainty has weighed on

China’s manufacturing sector, with domestic consumption also flagging lately, especially for high-value products, such as cars. A slow, step-wise progress towards some form of agreement over the next 3-6 months is likely, in our view, given an escalation could damage both economies.

Aggressive easing? The authorities have so far focused on tax cuts and targetted fiscal policies to support domestic consumption, while credit easing has been relatively measured compared with 2009, 2012 and 2015. However, mounting risks raise the chance of more aggressive credit stimulus as economic stability becomes paramount ahead of the 70th anniversary of the People’s Republic on 1 October.

Emerging Markets – Rate cuts on the horizon

Fed leads the way. We believe growing expectation of multiple Fed rate cuts in 2019-20 has paved the way for EMs to cut rates to offset the impact of global trade uncertainty. Money markets suggest Turkey is likely to cut rates by more than 10ppt in the next 12 months, with Russia, Brazil, Mexico, India and South Korea seen cutting by 25-150bps.

Differentiation critical. Asian economies with current account and budget surpluses are better placed to withstand slower global growth compared with structural deficit economies, such as Turkey, South Africa and Argentina.

Figure 14

Japan’s exports continue to decelerate, driven by slowing demand from China

Growth in Japan’s total exports and exports to the US and China

Source: Bloomberg, Standard Chartered

Figure 15

China’s real estate investment is picking up, although industrial output and retail sales have slowed amid trade uncertainty

Growth in China’s real estate investment, industrial output and retail sales

Source: Bloomberg, Standard Chartered

Figure 16

Major EMs are expected to cut rates significantly over the coming year

Money market expectations of policy rate changes over the next 12 months

Source: Bloomberg, Standard Chartered

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Global Market Outlook | 2 July 2019

USD – Saying ‘bye’ to the up-trend

Falling rate expectations weigh on the USD. The shift in expectations towards lower US rates is likely to erode support for the USD. Narrowing interest rate differentials point to a weaker USD as both the ECB and the BoJ have less ‘wiggle-room’ around monetary policy. The EUR should recover as macroeconomic data stabilises. We expect a range-bound USD/JPY on event risks, though our weak USD outlook implies a downside bias for the pair.

Gold – Time to shine

Structural environment conducive for further upside.

Gold prices have staged a rally in the past month amid a dovish Fed tilt, a weaker USD as well as increased portfolio hedge and safe-haven demand. Gold is now a preferred asset class given the current backdrop. The opportunity cost of holding gold has decreased as most central banks around the world are leaning towards rate cuts. Any perceived risks of increased trade tensions and geopolitical risks would be further supportive. Patience is warranted at the current juncture as the recent sharp rally in gold prices has driven managed money positioning to relatively stretched levels. Technical indicators suggest gold is relatively overbought, which suggests a correction towards 1,380 is possible in the near term, though a high level of market diversity suggests relatively low resistance is likely to a renewed rally.

Crude Oil – The tug of war continues

Geopolitical risks back in focus. Market attention continues to shift away from demand concerns and towards potential supply disruptions. Geopolitical risks appear to be rising in the Middle East (ie, Strait of Hormuz) and we believe the oil market could be underestimating the likelihood of further supply disruptions from Iran, Venezuela and Libya. Outside OPEC, although US shale output has risen, further growth will likely be constrained by slowing well productivity and investment.

Demand data should remain resilient. While OPEC will likely roll over current production quotas, especially given their deal with Russia, the cartel will likely highlight downside risks to demand from trade disputes. Although trade-war concerns will continue to dominate headlines, we do not see demand (especially EM) collapsing as central banks will likely remain accommodative. We expect range-bound oil prices, but also that volatility will remain elevated with occasional spikes as the tug of war between offsetting supply and demand factors continues to play out.

Figure 17

Lower rate expectations have weighed on the USD

1m and 1y market-implied* US policy rate (%)

*Based on USD money markets

Source: Bloomberg, Standard Chartered

Figure 18

Gold gets lift from a dovish Fed as real interest rates fall

Gold (USD/oz), 10y TIPS (%, RHS, inverted)

Source: Bloomberg, Standard Chartered

Figure 19

Volatility will remain elevated as the balance of risks widen

Brent crude oil (USD/bbl), Brent 3m implied volatility (%, RHS)

Source: Bloomberg, Standard Chartered

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Standard Chartered Bank

Global Market Outlook | 2 July 2019

7 Bonds

Lower yields for longer

•We view bonds as a core holding as they are likely to not only deliver modest positive returns, owing to more accommodative central bank policies, but also serve as an important hedge against global growth slowdown risks, should geopolitical tensions rise further.

•US interest rate cut expectations and economic data lead us to believe that US government bond yields are likely to remain anchored around current levels over the next 6-12 months. We assign a high probability to US 10-year Treasury yields staying below 2.25%. Lower-than-expected Fed rate cuts or a swift resolution to trade tensions are risks that may result in higher yields.

•For USD-denominated bonds, we prefer a barbell of short (3-5 years) and very long maturity (10-year+) bonds to position our allocation for the current lowyield environment, but also hedge against a potential growth downturn.

•We view Emerging Market (EM) USD government bonds as a preferred holding as progress in US-China trade talks, easier Fed policy and our bearish USD view lead us to assign the highest probability for them to outperform global bonds. Asian USD bonds rank second in our preference as we like the high credit quality, healthy yield and attractive risk-adjusted returns they offer.

•Developed Market (DM) Investment Grade (IG) bonds are a core holding, as their high credit quality could provide a hedge against risk-asset sell-offs. Given our bearish USD view, we now prefer to take DM IG bond exposure without hedging currency risk. We also view DM High Yield (HY) and EM local currency bonds as core holdings, with bearish USD view being supportive for the latter.

Source: Standard Chartered Global Investment Committee

Legend: ●Supportive Neutral ○Not supportive ▲Preferred ▼Less preferred Core holding

IMPLICATIONS

FOR INVESTORS

US 10-year Treasury yields likely to remain below 2.25%. Prefer a barbell of short and very long maturity bonds

EM USD government bonds are most likely to outperform global bonds.

Source: Bloomberg, JPMorgan, Barclays,

FTSE, Standard Chartered

# 1 June to 1 July 2019

*As of 28 June 2019

IMPLICATIONS

FOR INVESTORS

Global equities are a preferred asset class. We have a preference for the US

Asia ex-Japan, Euro area, nonAsia EM and UK are core holdings. Japan is least preferred

Prefer onshore Chinese equities and India within Asia ex-Japan

Source: FactSet, MSCI, Standard Chartered. Note: valuation and earnings data refer to 12-month forward data for MSCI indices, as of 30 Jun 2019

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Global Market Outlook | 2 July 2019

Asia ex-Japan equities – Core holding

Asia ex-Japan equities are a core holding. In our assessment, they are likely to perform broadly in line with global equities over the coming 6-12 months, in USD terms.

Our constructive outlook is underpinned by a softer USD outlook and low US bond yields.

The USD’s movement has been a key factor driving Asia exJapan’s equity performance. A rising probability of a rate cut by the Fed could lead to lower bond yields and a softer USD. This is positive for fund flows into Asia ex-Japan equities despite US-China trade tensions.

Asia ex-Japan’s 12-month ahead P/E ratio is slightly above its long-term average at 13x. The region’s equity markets would be negatively impacted by any escalation in the USChina trade dispute, potentially pulling valuations lower.

Within Asia ex-Japan, we have upgraded China onshore to a preferred holding from core on improved fund flows and attractive valuations and the potential for fiscal stimulus. We have also upgraded India to a preferred holding based on the outlook for domestic demand and supportive monetary policies.

Risks to our view include: reduced corporate earnings, a slowdown in the global economy and fund outflows, potentially driven by USD strength. From current valuations, history since 2005 suggests a 76% probability of positive returns in the coming 12 months.

Figure 25

USD drives Asia ex-Japan performance relative to World

MSCI Asia ex-Japan’s index relative to MSCI AC World and USD (DXY Index, inverted)

Source: FactSet, MSCI, Standard Chartered

Weaker USD likely as Fed eyes rate cuts

•We expect a weaker USD in both the near and medium term. A dovish Fed pivot and narrowing rate differentials are key drivers.

•The EUR could strengthen in the near and medium term as global growth expectations improve on calming trade tensions and broad fiscal stimulus. This supports a loose ECB monetary policy.

•The GBP has room to rally as the UK political environment is expected to prevent a no-deal Brexit, even with a new prime minister.

Figure 26

Foreign exchange: key driving factors and outlook

USD – Falling rate expectations to weigh on the dollar

We are bearish on the USD in the near (3m) and medium (12m) term. A dramatic shift towards lower US rate expectations and significantly lower US bond yields have begun to undermine the USD strength. In addition, we believe China, Japan and Emerging Markets (EM) could deliver fiscal stimulus to re-synchronise global growth, since monetary policy alternatives may not be effective alone. Once a downtrend becomes established, capital flows could also shift away from the US to more attractive destinations and increase the momentum of the move. The outcome of bilateral US trade talks with China, Japan and the EU remains key, and we are watching for near-term de-escalation and possibly currency agreements that could trigger a weaker USD. Combined with a gradual diversification of central bank FX reserves and a sharper focus on the US twin deficits, the USD is likely to move lower over the coming months. The USD (DXY) index has strong resistance near 98.00. A break of the previous low at 95.74 and the key 95.00 support would increase confidence that a downtrend towards 92.00 is developing.

IMPLICATIONS

FOR INVESTORS

We believe the USD uptrend is largely over.

The EUR is likely to strengthen amid USD weakness and a stabilising Euro zone economy

The GBP is likely to strengthen as a ‘hard Brexit’ is avoided and valuations remain inexpensive

Figure 27

Where markets are today

Source: Bloomberg, Standard Chartered

# 1 June to 1 July 2019

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Standard Chartered Bank

Global Market Outlook | 2 July 2019

EUR – Global stimulus expected to drive rally

We are bullish on EUR/USD in the near and medium term as we expect the current weak European growth and inflation data to stabilise and slowly reverse as the USD turns lower. Policy uncertainty resulting from Brexit and US-EU trade issues continue to weigh on the EUR, but we believe that as China and Asian economies recover on the back of fiscal and monetary stimulus, sentiment within the Euro area will become less pessimistic. As the USD trends lower, the EUR, almost by necessity, would finally turn higher. Once the bottoming process is widely accepted, EUR/USD could gain momentum from narrowing interest rate differentials and rising inward capital inflows.

EUR/USD has broken the intial resistance at 1.1350. A break of the 1.1450–1.15 resistance would add confidence to our bullish view that a medium-term EUR/USD rally towards the 1.1800–1.1865 area is underway. A break below 1.11 could trigger a decline to the 1.0850–1.10 area of support.

JPY – Focus on trade talks and fiscal stimulus

We expect USD/JPY to be range-bound at current levels.

Institutional investors’ decisions towards hedging foreign assets are likely to influence the near-term JPY direction. The planned October consumption tax hike and possible new fiscal stimulus proposals could impact growth and inflation expectations. Any trade agreement that includes a USD-capping currency accord could trigger extended USD/JPY weakness.

In the context of a broadly lower USD, we are monitoring 106.50 and the 104.50–105.00 area. A sustained break lower opens the risk of a move towards 100–102, but without any currency agreement, the BoJ is expected to provide support at these lower levels. A break above 110 would likely open a test of the previous high at 112.40.

GBP – Bullish undervalued GBP

We remain bullish on the GBP as we expect a “soft” or no

Brexit regardless of who becomes the next PM. UK political negotiations are likely to centre around the existing deal with a growing chance of a confirmatory referendum or general election. The GBP is undervalued and we believe that Brexit resolution and interest rate normalisation will drive GBP strength over the medium term. We expect GBP/USD to be supported around 1.25, though a break may lead to a decline towards 1.20. A sustained break of 1.30 would likely indicate a rally to 1.34, and ultimately to the 2018 high of 1.4375.

Figure 28

Major currency drivers – what has changed

Real interest rate Narrowing differentials as market expects a differentials dovish Fed; global rates have less room to

fall

Risk sentiment Trade and geopolitical tensions starting to calm as US-China resume trade talks

Source: Bloomberg, Refinitiv, Standard Chartered

Figure 29

The EUR is poised to benefit from a stabilisation in Euro area macroeconomic data

Citi Economic Surprise indices for the US and Euro area

Source: Bloomberg, Standard Chartered

Figure 30

GBP remains undervalued; Brexit solution could trigger gains

GBP/USD, Purchasing Power Parity valuation estimates (CPI-based)

Source: Bloomberg, Standard Chartered

AUD – Downside risks largely priced-in

We continue to argue for a range-bound AUD. While the AUD has been weighed down by a combination of structural and cyclical factors, we believe a large part of downside risks is already “baked” into current prices. The historical carry premium offered by the AUD is quietly dissipating as the RBA has signalled further rate cuts ahead. Slowing global growth has also been a headwind for the AUD – which depends heavily on the direction of global growth momentum. However, terms of trade remain a bright spot. The introduction of significant fiscal stimulus by China, unwinding of short AUD positions and a revival in China’s credit cycle also present upside risks to AUD/USD. A decline in oil prices is a key risk to our range-bound view.

CNY – Stability a key priority

Amid ongoing trade tensions, the CNY has become an anchor for regional Asian currencies. Investors are focused on the psychological 7.00 level, and a breach above this threshold could result in capital outflows and increased volatility. We believe there is a low likelihood for this to happen as the PBoC has remained firmly committed to keeping the currency stable, as shown by its management of recent daily fixings.

A significant depreciation of the CNY would not be in China’s interest as the move could be perceived as further escalation. With our base-case expectation of continuing USChina trade talks in the coming months, stability is a priority and CNY strength a possibility. The proposed plans to issue more government bonds in Hong Kong will also likely stabilise the currency via the management of offshore CNH liquidity. Our medium-term view remains range-bound unless a US-China trade deal is concluded – especially one containing a currency agreement which would suggest a weaker USD/CNY.

EM FX – Picture remains mixed

Lower US yields and collective central bank easing could benefit higher yielding currencies within Asia. With elections out of the way, we turn more positive towards the INR and see some scope for gains. Being a relatively closed economy, we believe this makes India resilient to a trade war, given the limited export exposure to China, and a potential beneficiary of any supply chain shifts. Given India’s status as a net oil importer, the recent fall in oil prices has been a supportive factor for the INR. The risks to our view are its weak fiscal and current account fundamentals.

Figure 31

Terms of trade remains a bright spot for the AUD

Risk sentiment Rising geopolitical tensions continue to weigh on EM; a lower USD would improve sentiment

Source: Standard Chartered

Figure 33

Oil price pullback has been supportive of the INR

USD/INR, Brent crude oil (USD/bbl, RHS)

Source: Bloomberg, Standard Chartered

Gold’s shine could be more than temporary

Gold’s break above key resistance at the February high of USD1,346/oz confirmed that the recent three-month long downtrend is over. Indeed, the strength of the move since then has raised the prospects of a sustained uptrend. In recent months, we have been highlighting that the probability of a resumption of the longer-term uptrend has been rising, and gold has recently broken above retracement resistance around 1,375 to confirm. We anticipate that this rally could test 1,483 (the 50% retracement of the 2011-2015 fall), and possibly 1,522-1,527 (the end-2011 and mid-2012 lows). Short-term, gold is likely overbought and could see a brief correction towards 1,375-1,385 before continuing higher.

Brent oil: Tentative signs of a base

Brent oil’s closure of the 31 May-3 June bearish gap and the recent break above the 10 June high of USD64.10/bbl are early signs that the slide since April is losing steam. Furthermore, despite the sharp downtrend in recent weeks, the 14-week Relative Strength Index (RSI) has failed to drop below into the bearish territory, below 35. As we have noted previously, RSI readings below 30-35 are typically followed by an extended weakness. While a retest of the June lows of USD59.50/bbl cannot be ruled out in the near term, the probability of oil sustaining below USD60 appears to be reducing. On the upside, the April high of USD75.60 could prove to be tough to crack.

US 10-year Treasury yield: Make or break

The US 10-year Treasury yield is testing crucial support, a break below that could risk a reversal of the past three-year uptrend. The yield is looking deeply oversold as it tests converged support: the September 2017 low of 2.01%, roughly coinciding with the lower edge of a rising pitchfork channel from 2012. A decisive break below could pave the way towards the 2016 record low of 1.32%.

While a brief drop below the support is possible if volatility surges, the probability of a sustained fall seems low. That is because, on the monthly chart, the 14-month RSI has not dropped in the bearish territory (as outlined above). Given the significance of the support, we would watch for two consecutive weekly closes below the support to confirm the break. A rebound from the support could initially open the way towards the mid-June high of 2.18%, followed by tough resistance at the March low of 2.34%.

Figure 34

Gold has broken above important resistance to confirm uptrend

XAU/USD, Weekly chart with 200-week moving average

Source: Bloomberg, Standard Chartered

Figure 35

Brent oil: Tentative signs of a base

Brent oil, Weekly chart with 200-week moving average and 14-week RSI

Source: Refinitiv Eikon, Standard Chartered

Figure 36

US 10y Treasury yield: At vital support

UST 10y yield, Monthly chart with 14m RSI

Source: Refinitiv Eikon, Standard Chartered