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Equity Research; Feb 2019

Key recent developments more positive for 2019

A few factors have calmed nerves delivering a strong start to 2019:-

a) A drop in US Treasury yields along the yield curve

19th January 2019

14th February 2019

Source: www.bloomberg.com

The ongoing drop across the US yield curve indicates short-term expectations of the path of US interest rates in 2019 have become subdued. The Federal Reserve has stressed it will remain “patient” and data dependent which investors have interpreted as pausing on its previous guidance of two rate hikes over 2019. The central bank appears to be taking a more cautious view of the US economic expansion given the GDP slowdown ex USA.

This is a change from December 2018 when investors rightly concluded that the hike to Federal funds and “autopilot” balance sheet reduction amounted to the central bank applying brakes to the economy. For now the pressure on the brakes appears to be off.

b) “Quantitative tightening” (“QT”) ($50bn of asset sales per month) has the potential to increase yields. For now worries about QT have abated, but this is a moving part for 2019.

c) The other positive is the buzz around the now resumed Sino-US trade talks and indications that both sides want to conclude a trade deal quickly.

d) Investors are convinced the ECB will not move on interest rates during 2019 as evidence mounts of slow EU conditions, principally in the larger economies of Italy, France and Germany.

US imbalances will be an issue in 2019

Some commentators, including former Fed Chair (1987-2006) Alan Greenspan have warned that the US budget deficit is spiraling out of control and cuts to “entitlement programs” are essential to correct US structural imbalance.

We now have a picture of just how much red ink the US is generating.

The debt load and structural imbalances is a key recurring challenge that could prompt a loss of confidence in US assets and higher rates.

Key conclusions for 2019

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