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Market outlook 2017: better but not great

The post-financial crisis environment has been described by a number of start-stop recoveries – signs of recovery emerge, markets respond, but then something short-circuits the improvement.  In our view, however, there is little on the economic horizon to short-circuit the current recovery.

The global economy has entered 2017 with the headwinds from the 2015-16 slowdown and price deflation falling away. In 2017, financial conditions and fiscal policy all look supportive for growth in the major global economies.

" Financial conditions and monetary and fiscal policies all look supportive for growth in major global economies."
Mark Rider, Head of Investment Strategy & Portfolio Management, ANZ

After a couple of years of running at a 3.2 per cent pace, we expect global growth to accelerate by around 0.5 per cent with stronger growth in both the developed and emerging market economies. Overall, we start 2017 with more optimism than last year.

However, we consider potential growth to now be much slower compared with recent decades as population growth falls.

As such, we expect most developed-market economies will grow above this new lower-trend pace in the coming year which will drive unemployment rates lower and wages and inflation gradually higher - but not dramatically so.

Of the major three developed market economies only the US is likely to have inflation around target of 2 per cent, with Japan and the eurozone still around 1 per cent in 2017.

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BETTER, NOT GREAT

The net result of this mix of forces, which might best be described as ‘better but not great’, is that monetary policy easing cycles have ended in virtually all of our key markets of interest.

We believe the timing of the European Central Bank’s (ECB) taper will be important for bond markets generally. If we start to see a pickup in wage growth which is anywhere close to the rates historically consistent with near capacity levels of employment, then interest rates seem to be too low.

We expect growth to be led by the US, where growth has not just accelerated in the second half of 2016, but become more broadly based with a rebound in dwelling construction and a waning in the sizeable drag from weaker oil and gas investment supporting growth. There are also signs building of a solid recovery in US capital goods spending.    

Currencies

We expect the $A to continue range trading on the back of mixed fundamentals and on expectation the $US will level off.

Valuations of fair value for the $A are around 74 cents which is being supported by stronger bulk commodity prices, although we expect prices to moderate somewhat from their elevated peaks.

Historically, the $US tends to soften when the global outlook improves, and we expect this to eventuate.

We think the $US can stabilise through the first half of 2017 on the improved outlook but any signs the US Federal Reserve may need to lift rates faster could quickly translate to a surge in the greenback and a rotation to more defensive exposures to protect against downside risks.

Alongside improved growth has been a lift in overall inflation and we expect a further gradual pickup in coming months given the economy is close to full employment and growth is above trend.

The more positive US growth outlook had been building before the election of Donald Trump as US President. The initial financial market reaction to the prospect of a Trump presidency was consistent with the view he will be pro-growth and pro-inflation.

On the positive side of the growth ledger, President Trump has spoken of spending $US1 trillion on infrastructure, boosting military spending and cutting corporate and personal tax rates. On the negative side of the growth ledger are Trump’s trade and immigration policies.

In sum, while we expect a Trump presidency to result in a modest fiscal stimulus to the US economy from 2018 onwards, considerable risks exist.

RECOVERY

This year marks the fourth year of recovery for the eurozone economy but the region appears to still be hampered by slow growth, high unemployment, low core inflation and negative interest rates.

The European central Bank is expected to continue with its policy of generous monetary accommodation as there is little evidence of a sustainable pickup in core inflation and wage pressures.

Emerging market growth is expected to accelerate this year to around 4.75 per cent. A further slowdown in China is expected with GDP growth of 6.5 per cent.

A large part of China’s economic vibrancy is now coming from the services industries and domestic consumption instead of low-level manufacturing and investment. Elsewhere, Russia and Brazil emerge from recession and India adjusts to demonetisation.

Despite an improved outlook for growth, emerging market economies may still face challenges in 2017.

In 2017, we expect to see the Australian economy to almost completely shake off the drag from the wind-back in mining investment.    

Non-mining business investment is likely to grow modestly although housing construction is likely to level off after a period of strong growth. Export growth is set to remain solid as LNG export capacity comes on stream and services exports continue to benefit from the lower Australian dollar and rising household incomes in China.

Inflation is expected to remain well below the Reserve Bank of Australia’s 2 to 3 per cent target which should keep the cash rate on hold at the record low of 1.5 per cent.

The global economy has entered 2017 with the headwinds from the 2015-16 slowdown and price deflation falling away. All regions have lifted and a synchronised upswing is emerging – even if the stage of the business cycle varies widely between countries.

Mark Rider is Head of Investment Strategy and Portfolio Management at ANZ and will take over as Chief Investment Officer for ANZ Wealth Australia effective March 10 2017.

The views and opinions expressed in this communication are those of the author and may not necessarily state or reflect those of ANZ.

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