How equity markets are increasingly adapting to lower growth prospects
Across major economies, GDP growth and inflation have continued to trend downwards. Policies pursued by central banks have failed to stem this trend. This, in turn, has convinced them to adopt unconventional monetary policies - such as negative rates and quantitative easing - which have given the stock market a boost that is historically unparalleled. On top of this, developed economies have become so "financialised" that they are now beholden to rising financial markets. That explains why central bankers have so few qualms about giving those markets a helping hand. Investors have thus learned to take economic setbacks of every kind in their stride. The economic hit caused by the draconian response in China and elsewhere to the threatening spread of coronavirus is just the latest example.
A closer look at the overall state of play can provide additional insight into current market behaviour
The problem today is that neither Trump nor Boris Johnson has the power to stop the inexorable downward trend in global economic growth. (You can't crimp capital spending across the board for ten years without having to pay the price.) The Trump administration is well aware of this and has shaped its economic policy accordingly. Treating the world economy as if it were a shrinking pie, the US government has been openly exploiting its position of strength to capture a growing share of the pie at the expense of the country's trading partners. This is unabashed protectionism or, to put it more exactly, mercantilism. Rejecting the idea that free trade can be beneficial to all, mercantilists view global economics as a zero-sum game. The only thing that matters is to be a winner. Now, the mercantilist philosophy developed in eighteenth-century Europe had an underwhelming track record. The competing nationalist policies inspired by such thinking produces nothing but losers in the long run. (One might also add that those policies can also create major tension between countries engaged in never-ending trade wars). But in the short run, they are quite popular with voters who believe they will wind up on the winning side. One can reasonably suspect, by the way, that Boris Johnson's attitude towards the EU at the bargaining table in 2020 might be based on an overestimation of the British economy's position of strength.
Though equity markets in general are literally sponsored today by highly supportive monetary policy, it's easy to see why the US market is most likely to come out ahead. Ongoing central-bank largesse has stimulated an American economy that was already more vigorous than its rivals. It also means that the federal government has no trouble financing a budget deficit currently equal to nearly 5% of GDP. Last but not least, Trump's trade policies have attracted foreign capital to the US rather than elsewhere. It's also easy to see why growth stocks, which are largely immune to a grim global economic climate, are still riding high and why investors have continued to favour the greenback even with mounting US deficits. And now the coronavirus outbreak in China - with Asia bearing the brunt of the economic cost - is shifting even more capital into safe-haven assets in the United States and bolsters the US economy further.
Someday perhaps, central bankers will feel worried enough about their run-away policies to dial them back, as they tried to in 2018. And some day certainly, investors will begin to doubt that a bull market for equities fuelled by a constantly increasing money supply - despite the outlook for shrinking global economic growth - can go on indefinitely. But until that day comes (and no one can predict when it will), investors would be well-advised to make sure the companies whose stocks they hold or plan to buy have a demonstrated ability to generate earnings.
Didier Saint-Georges is managing director and member of the Strategic Investment Committee at Carmignac
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