Stocks across most markets experienced solid gains with the MSCI All Country World Index rising an impressive 5.1% in July. In the United States, the S&P 500 edged 5.5% higher...
Stocks across most markets experienced solid gains with the MSCI All Country World Index rising an impressive 5.1% in July. In the United States, the S&P 500 edged 5.5% higher while the tech-heavy NASDAQ jumped another 6.8%. Returns for the S&P 500 and NASDAQ are now positive year-to-date. The 10-year U.S. Treasury yield fell 13 basis points to 0.53%.
The resurgence of COVID-19 may have dampened economic activity in July, but most signs still point to a continued economic recovery. Citi’s U.S. economists are expecting growth to rebound by an annualized rate that is north of 20% in the third quarter. However, we would need an annualized rate of about 50% to return to pre-COVID levels. A full economic recovery will likely not occur until 2021, but the stock market generally moves ahead of the economy.
Citi Private Bank’s Global Investment Committee (GIC) maintains an overweight on global equities, including U.S. small-cap shares, and select emerging markets (in Asia and Latin America). The GIC is also overweight select real estate investment trusts (REITS). European and Japanese stocks are being held at a neutral weighting.
The U.S. economy experienced a deep contraction in the second quarter as a public-health crisis led to broad shutdown of the economy. Importantly, data point to a solid rebound in the third quarter. Citi’s economists believe that the annualized pace of growth in the third quarter could be north of 20.0%. We do not expect the renewed rise in COVID-19 cases to lead to a second period of economic contraction.
Stocks (Neutral; Overweight SMID)
Citi Private Bank’s Global Investment Committee maintains a neutral position on large-cap U.S. stocks, but is overweight U.S. small- and mid-cap shares (SMID). Small cap shares may play “catch-up” as the economy exits recession. Over the 12- to 18-month time horizon, we expect cyclical industries like industrials to recover. However, we may need to see a sustained decline in the rate of infections before a more pronounced rotation into cyclicals occurs.
The Federal Reserve has repeatedly said that it will do whatever it takes to support the economy. This will likely keep rates low for a long time. Citi’s GIC maintains an overweight on short- and intermediate-duration Treasuries, but is neutral on long-duration. The Committee is also overweight investment grade corporate bonds and U.S. residential REITS and commercial mortgage REITS. The GIC remains neutral on municipal bonds.
Europe and Japan
Economy (Europe: Recovering / Japan: Recovering)
Citi’s economists left their 2020 Euro Area growth forecast unchanged at -6.7%. With only a few restrictions left in place following the lockdown, the region should see a strong rebound in the second half of 2020. Citi’s growth forecast for 2021 is 6.5%. In Japan, growth looks like it may fall by -5.2% in 2020 before rebounding by 2.5% in 2021.
Stocks (Europe: Neutral / Japan: Neutral)
The GIC is neutral on both Europe and Japan. The European Union has unified around a stronger fiscal expansion. After Eurozone equities fell sharply, the GIC has eliminated its underweight position and may consider adding to positions further as time progresses. In Japan, we see strong fiscal policy as a tailwind, but see better opportunities elsewhere.
The GIC is maintaining a deep underweight on both European and Japanese sovereign bonds.
The economic outlook for emerging markets looks better than many industrial economies with 2020 growth likely to fall -1.5% (versus -5.1% for industrial countries). However, Citi’s economists revised down their growth forecasts for China – from 6.2% to 5.9% in the second half. While the trade outlook may improve as the world exits lockdown, consumer spending may be held back due to an uncertain future.
The GIC is overweight emerging markets (Asia and Latin America). Chinese shares, particularly those in the technology and internet sector, have risen sharply in recent months. While we may see some consolidation near-term, after such a sharp rally, we remain long term optimistic on Asian consumption, technology and healthcare themes. Latin America could perform well coming out of the crisis. However, we maintain a cautious stance longer-term. We see it as a recovery trade.
We are overweight emerging market fixed income as U.S. dollar-denominated debt valuations reflect poor fundamentals, but also long-term opportunities and attractive risk adjusted returns.
U.S. Stock Market and Economic Forecasts
|S&P 500 Target||2,507||3,231||2,900|
|S&P 500 P/E Ratio||15.43x||18.97x||25.97x|
|S&P 500 EPS Growth||22.50%||2.00%||-24.00%|
Global Economic Forecasts
|Region||GDP Growth||CPI Inflation||10-Year Yields||Exchange Rate vs. USD|
|Based on PPP Weights||3.0||-3.3||5.9||3.2||2.7||3.2||N/A||N/A||N/A||N/A||N/A||N/A|
|Equity Returns (%)||Valuations||Div. Yld. (%)|
|Fixed Income Returns (%)||Other Key Rates|
|Fixed Income||YTM||2015||2016||2017||2018||2019||MTD||QTD||YTD||Instrument||Current (%)|
|Global||0.57||0.9||3.3||2.1||0.5||7.1||1.2||1.2||5.3||10-Yr. U.S. Treasury||0.53|
|U.S.||0.96||0.5||2.7||3.6||0.0||8.9||1.6||1.6||7.9||30-Yr. U.S. Treasury||1.19|
|Europe||0.08||1.1||3.3||0.5||0.5||6.0||1.1||1.1||2.3||1-Yr. CD Rate||0.46|
|EM Sovereign||4.42||0.6||9.6||9.8||-4.1||14.8||3.8||3.8||1.1||30-Yr. Fixed Mortgage||3.09|
|U.S. High Yield||6.16||-5.6||17.8||7.0||-2.1||14.1||5.0||5.0||0.0||Prime Rate||3.25|
Asset Class Returns (Sorted by Performance)