Some better economic data and hopes around central bank policy and a China/U.S. trade deal continue to underpin markets and investor optimism. But hopes that we are now back in a Goldilocks environment are misplaced.
1. A Goldilocks environment is neither too hot nor too cold; there are hopes that we could be back in one, as in 2017.
In the fairy tale, Goldilocks delights in porridge that is neither too hot nor too cold. Her name has therefore become investor shorthand for an economic and investment environment that is, likewise, at an agreeable temperature. A Goldilocks economy is hot enough (through moderate economic growth) to encourage risky asset gains, but not so hot as to force an aggressive contractionary policy response. Some recent economic data, combined with the evidently relaxed approach of the Fed and other central banks, has encouraged hopes that we could again be back in this state (as perhaps in 2017), allowing further market gains.
2. But global economic data is not all good and markets expectations could be vulnerable to future policy and other disappointments.
There are several problems with this Goldilocks diagnosis. The first is that the economic data remains mixed. The U.S. labour market remains strong but U.S. Q1 growth, for example, was due largely to inventory building and the April Manufacturing ISM revealed a continuing downwards trend (page 2). Eurozone GDP and PMI data have turned up slightly (page 3) but we seem still to be some way from a marked recovery here. From an investment standpoint, moreover, it is important not just that future economic and other data is good, but that it meets the expectations that are already priced into the market. For example, Chinese economic growth may well now have bottomed out – a belief that has boosted investor sentiment recently – but a lot of future positive developments seem already to be reflected in market prices. This means that while we are medium to long-term positive on Chinese equities, there may be case for a temporary tactical reduction in exposure (pages 5 & 6).
3. Many other underlying policy and geopolitical tensions are also unresolved, keeping us concerned about future market volatility.
What is also clear is that several concerns that helped trigger market reversals at the end of 2018 are still relevant. Hopes around a U.S./China trade deal may well be realized, but such an initial deal seems very unlikely to resolve all the underlying difficulties in this relationship; U.S./Europe trade issues could also flare up again. Recent Korean Won depreciation (page 9) should also remind us that trade concerns have had a cost in other markets. Going back to Europe, the Brexit “can” may have been kicked yet further down the road but this, and Italy, could still cause significant future disruption – and we would keep an eye on the impending European elections too. So, in short, we remain concerned about further market volatility and would stay vigilant: Goldilocks it isn’t.
To download a PDF of the full report, please click here.