DREXEL UNIVERSIY
LeBow College of Business
The Global Economy and the US Markets
PRESENTED BY
GEORGE TSETSEKOS Dean Emeritus and Francis Professor of Finance March 26, 2014
“Linked” Markets…Amplify Crisis
US Subprime Crisis
EZ Sovereign Debt Crisis
Global Crisis
Global and U.S. GDP Growth 2000-16 Annual %
Transition: From Crisis to Stability Crisis in US ďƒ Global Amplification Policy Responses
Stability Transition
Challenges during the transition
ďƒźNormalize monetary conditions ďƒźHandle risk/volatility
Transition in USA: From Crisis to Stability Crisis in US ďƒ Financial Crisis ďƒ Low Growth and Unemployment Policy Responses Monetary Easing
Stability Transition
Home Prices Rise, Helped by Low Inventory
Auto Sales on the Rise
Core Inflation Remains Contained
Net Worth Climbs as Debt Burden Plummets
S&P Index Performance 2013
Overall Market Performance
Unemployment is Declining
Slow Recovery in USA Spending Levels still Low
Stalled Velocity of Money Supports Low Inflation Outlook
US Monetary transition and global impact
Possible Risks with the reduction of the Fed’s buying program in the near term:
Long-term rates could overshoot Sharp increases in Bond yields Volatility Higher rates may impact investment vehicles
Transition: From Crisis to Stability EU response
Crisis in US Banking Crisis in EU Sovereign CrisisAusterity Policy Responses
Stability Transition
Common Currency EuroZone 17 Countries
Transitional Issues in the EZ 1. Core Countries vs. Periphery 2. Excessive Corporate Debt 3. Developing Institutions/Architecture of EU
EU: High Unemployment is problematic
Unemployment and domestic demand in the periphery Unemployment Rate (%)
Domestic Demand (volume)
Key Concerns for the Corporate Sector
• Capital flight to safer Euro-zone countries • Private capital has been replaced by public sector flows • Liquidity in the core is not recycled in the periphery • Funding asymmetries (corporate costs are very high) • Current account imbalances
Flows in Euro Zone Area Cumulative from 2009Q4 in % of GDP
Challenges for the Corporate Sector in the Eurozone
• • • •
High Corporate Leverage Credit Tightening Revenue and profits contraction Global Competitiveness
Corporate Debt
Debt - 2002Q1=100
Debt as % of GDP
Corporate Fundamentals
Real Long-term Rates are still high in the EZ
Real Progress in the Euro Zone? Tail risk of break-up/FRAGEMTATION appears very low Euro zone recovery VERY SLOW in light of persistently high unemployment and structural imbalances Greece is moving into recovery, encouraging market optimism and foreign investment CONSOLIDATED PRIVATE DEBT, % OF GDP EUROSTAT MACROECONOMICS IMBALANCE PROCEDURE SCOREBOARD
•GREECE’S ANNUAL GDP GROWTH FORECAST
•Source: GK Research, “Ideas,” September 20, 2013 , World Bank and European Commission (Greece GDP)
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Euro Area Increases in interest rates in US • Credit is hindered by financial fragmentation • Corporate debt is owned by firms with weak debt servicing capacity; debt overhang • Banking system will experience loan losses • Need for Bank Re-Capitalization • Weak corporate and bank balance sheets • Asymmetric impact
Emerging Markets and China
Interest Rates and Capital Flows to EM
Volatility and EM Capital Flows
High Volatility
Low Volatility
EM Growth has decelerated
Growth Forecast for China Average 7% in next 5 years
China Exports Have NOT Recovered
China’s Consumption is lower than BRICs/EM
Leverage is Concentrated in a Few Sectors in China
Emerging Markets
Potential Risks • • • •
Bond outflows will place at risk corporate borrowing Financial stability concerns Economic growth is slowing Market liquidity is at risk
The Japanese experiment (Abenomics)
• Japan has enacted its stimulus/QE • Fiscal and structural reforms • The risk of deflation is persistent
JAPAN: Money Supply and GDP
Global Outlook: Cautiously Optimistic US: Economic Recovery Poised to Continue at Moderate Pace » A number of important metrics beat expectations last week •
Strength in job growth, GDP, auto sales, manufacturing while unemployment fell below 7.0%
» FOMC has decided to begin tapering » Grand rotation may have begun; money flowing out of bonds and into equities – RISK ON! » A resilient consumer is well positioned to support recovery
Euro zone: GDP Growth Improving, More Work Ahead » Promising strides for EU, structural imbalances remain » Valuations in Europe compelling; pointing toward economic improvement
EMs: Still a Source of Global Growth » Near-term growth has slowed, but secular stories remain intact » Growth of EM middle class important long-term theme
Global: Dominant Theme of Synchronized Global Expansion » Global manufacturing numbers improved significantly » Recent positive data for Eurozone, Spain, UK, Japan, Indonesia, India, Canada, Australia, Malaysia and Taiwan » Global economic growth; good for the U.S.!
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US Equity Market Performance
Rising rates Led to Sideways Market
Sector Allocation Considerations for Rising Interest Rate Environments •During Periods of Rising Interest Rates… •Cyclical sectors •historically outperform defensive sectors
•Past performance is no guarantee of future results. Source: Wells Capital “Confidence Runs Through Stock Market. Sectors shown have material differences and represent segments of the S&P 500. Daily fluctuations in specific market sectors are often more extreme than fluctuations in the overall market.
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Cointegrated Global Markets
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