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MARKET OUTLOOK

The world is currently witnessing perhaps the biggest crowded trades in 25 years. These can be seen to have the usual elements of excess: popular misconceptions, non-sustainable drivers, extreme valuations and delusion. We are referring here to the world’s long bet on U.S. financial assets (and also the U.S. dollar) and long-term bonds.

In the case of global bonds (some US$17 trillion of which are trading with negative yields), the current situation may qualify as a form of global mania. Yet it is unfamiliar and strange, not built on euphoria and greed but on recessionary outlooks and residual trauma from 2008. These do not operate upon rational perspectives, but mostly emotions.

A common refrain among bond investors is that plunging yields point to a looming recession, but very little economic data supports this assertion. Despite the ongoing trade war and other headline risks, most high-frequency indicators point to stabilizing and increasing growth heading into 2020. The only evidence of an imminent bust is the behavior of the bond market itself.

Meanwhile policymakers around the world are shifting into high gear, but it is now central bankers that are insisting the burden must be shared by fiscal policy. This is a big shift in the post-crisis period and must be monitored closely.

In the meantime, equity dividend yields are now much higher than 10-year sovereign bond yields almost everywhere in the world. This calls for a major transformation in portfolio construction: Broadly, reducing Western sovereign bonds while increasing global stock exposures.