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February 7, 2018
After a stellar 2017 and an even stronger January, risk assets have undergone a sharp pullback in the last week. Initially triggered by higher rates as markets repriced inflation expectations higher, the episode evolved into a technical spout of volatility exacerbated by programmatic strategies. The pullback is healthy, after a highly unusual stretch of market tranquility. [more]
marcos.arana@db.com matthew.luzzetti@db.com michael.hsueh@db.com 7-Feb-2018 thehouseview@list.db.com http://houseview.research.db.com Deutsche Bank AG/London The views expressed above accurately reflect the personal views of the authors. The authors have not and will not receive any compensation for providing a specific recommendation or view. Investors should consider this report as only a single factor in making their investment decision. Prices are current as of the end of the previous trading session unless otherwise indicated and are sourced from local exchanges via Reuters, Bloomberg and other vendors. FOR OTHER IMPORTANT DISCLOSURES PLEASE VISIT HTTP://GM.DB.COM MCI (P) 083/04/2017. Deutsche Bank Research The House View Snapshot Macro views World  We expect global growth to accelerate to +3.9% in 2018, marginally faster than 2017 which was the fastest in a decade, with the improvement led by the US and emerging markets. We expect the Eurozone to continue growing above potential, but do not anticipate any further acceleration. In China, we expect growth to slow, and are more worried about inflation and financial risks than consensus.  This remains a very robust and broad-based economic backdrop. However, 2018 should mark the peak of the current cyclical expansion, and growth should decelerate from 2019. United States  G rowth to accelerate in 2018 to +2.7 %, the fastest pace since 2015, boosted around 0.3 - 0.4pp by Trump’s tax reform. W e not e upside risks to this estimate given the potential for increased fiscal spending if Congress ends up raising its spending caps in the FY 2018 budget.  Grow th momentum remains very strong. Fourth quarter 2017 GDP printed below our expectations, but the miss was attriobutable to inventories and we expect growth to compensate this quarter.  Dollar weakness (7% depreciation on a trade - weighted basis in 2017) shou ld add a few ten th s of a percentage point to both inflation and growth this year. Eurozone  E urozone growth has risen to the fastest pace in a decade . We forecast +2.3% growth for 2018 , in line with consensus . We expect growth to decelerate in the secon d half of the year as tailwinds fade.  The current pace of growth is far above our estimate of potential growth , which is around +1.0% . Cyclical momentum will naturally decline as output gaps close ; financial conditions will tighten as the ECB withdraws accommodation ; the boost from net exports will fade as Asia decelerate s; and the strong er euro will drag on growth .  German wage negotiations point to wage rises at the high - end of the range which should boost policymakers’ confidence that tightening labour markets will lead to higher inflation.  The political agenda remains busy, with Germany’s government formation, Brexit negotiations, the Italian election and the debate on EU reform. On all fronts, though, our baseline scenario is for little fundamental ch ange or macro impact . China  China’s economy to continue decelerating in 2018. We forecast +6.3% growth vs. +6.9% for 2017. We see risks balanced on both sides. Fiscal and monetary policies will remain tight and investment will continue to slow. This wi ll be partially balanced by strong wage growth and consumer spending.  Assuming growth decelerates as we expect, PBoC should ease monetary policy in H2 (we see two RRR cuts) to prop up growth again.  We expect the renminbi to remain roughly stable versus the PBoC’s trade - weighted basket , and strengthen vs. the dollar . Capital controls are also tighter than we expect.  We see two major risks to our base case. The first is inflation: core inflation reached a 6 - year high in 2017 and could rise further this quarter ; this could prompt PBoC to raise rates (in the past we have seen hikes when CPI reached +3.0%). The second is financial stability on the back of high leverage in the financial sector. The system has grown more complex, credit quality has deteriorated, and IMF stress tests showed potential capital shortfalls. Emerging Markets  EM growth to remain broadly positive in 2018, but regional cycles becoming more differentiate d : Latin America in a more favourable cyclical position than most of EM Asia and , to a lesser extent , CEEMEA .  Robust fundamentals of strong momentum, favourable external environment will continue sup porting continued portfolio inflows. A weaker dollar offsets rising US rates.  The key negative challenge is one of political risk escalation, given a charged event calendar this year. Monetary Policy  Fed : expect 4 rate hikes in 2018, more than FOMC guidance (3) and than market pricin g ( 2.5 ) .  ECB : slow exit to continue. No new measures until mid - year; QE to end in 2018, first hike in mid - 2019.  BoJ : not under pressure to act, no change expected in target short rate or yield curve control policy .  BoE : no policy change through 2018; risk is earlier tightening, with May hike possible .  PBoC : p olicy steady through H1 - 2018, followed by 100 bps of RRR cuts as growth slows in H2. Risk of policy tightening if infla tion surprises to the upside.  EM : regional divergence – tightening in Asia contrasts with room for rate cuts in LatAm . Distributed on: 07/02/2018 11:09:29 GMT 7T2se3r0Ot6kwoPa The House View: Snapshot (Continued) 7 February 2018 Key downside risks  Higher than expected inflation: prompts fast monetary policy tightening, disrupts markets.  Global growth disruption : global equity correction weighs on sentiment / wealth, triggers a recession.  China slowdown : higher inflation, a policy mistake, or financial stress leads to sharp growth slowdown, with global ramifications though trade, financial channels.  Fi nancial stability : tighter policy / slower growth causes financial sector instability, especially where leverage is high. Key themes  A healthy pullback : sell - off in risk assets is healthy and was long overdue. But fundamentals remain supportive and magnitude appears overdone .  Return of market volatility : as typified by the recent episode, p ullbacks and volatility will become more common as investors adjust to rising interest rates and capital is allocated out of risk assets and int o higher - yielding fixed income . But overall volatility will remain low.  Cyclical recovery reaches its peak : global growth will accelerate in 2018, but for many countries growth will plateau or decelerate in 2018. As such this ye ar should mark the peak of the current cyclical expansion, and growth should decelerate from 2019 .  Steady inflationary pressures : we expect inflation to start picking up more noticeably this year, as output gaps close. Leading indicators suggest prices will accelerate from Q2 in the US; we expect similar dynamics in Europe. In EM, energy and food prices may rise , partially attributable to positive base effects, pr essuring headline inflation.  The end of QE : 2018 (almost) the last year of QE. ECB purchase s should end in Q4; t he BoJ ’s volume of purchases has slowed amid its YCC framework ; t he Fed will continue to let its balance sheet runoff accelerate. The end of QE will significant , given the its earlier impact on term premia and risk assets . Market views Market sentiment  Pullback is healthy given extent of prior rally – but magnitude of sell - off likely overdone  Fundamentals remain strong and should continue to support risk assets  Significant scope for rates to sell - off without materially impacting growth / risk assets Equities  Constructive US. Current pullback should allow rally to resume, end - 2018 target of 3,000 for S&P 500 . Strong earnings on the back of strong growth, US tax reform, weak dollar  Cautious EU. Pullback also overdone . End - 2018 target of 395 for Stoxx 600 Rates  Strategically bearish in US and Europe as inflation will finally rise in the medium term and central banks will tighten more aggressively than currently discounted  Lower conviction on higher rates in short - ter m, given recent rise was faster and higher than expected FX  Broad USD downside. Weakness has further to go, even as Fed hikes push rate differentials further in favour of the US: wider twin deficit, record - high US asset valuations negative for inflows  EUR positive. Flipside of bearish dollar view; target EURUSD at 1.30 this year. Positive flows story  Bearish Yen. But risks are balanced and prefer to buy volatility than take a positional view Credit  Constructive short - term. Fundamentals and policy support remain steady for now, but as end of QE approaches in Europe and growth levels off, we expect credit to be pressured EM  Positive short - term, cautious thereafter. Positive macro to continue supporting EM inflows and asset valuations. Risks remain higher th an in 2017, given reduced central bank support, China’s deceleration, potentially stretched valuations Oil  Short - term risk. Limited upside from current levels as higher US supply meets rising global demand Key macro and markets forecasts Recent publications  The House View: A healthy pullback , 7 - Feb - 201 8  The House View: Happy holidays , 11 - Dec - 2017  The House View: Back to school , 17 - Sep - 2017 GDP growth (%) Central Bank policy rate (%) Key market metrics 2017 2018 2019F 2020F Current Q4-18F Q4-19F Q4-20F Current Q4-18F Q4-19F Q4-20F Global3.83.93.8 #N/A #N/A #N/A #N/A #N/A US2.32.72.3 1.8 US1.382.383.13 2.63 US 10Y yield (%)2.803.252.96 2.96 Eurozone2.52.31.7 1.2 Eurozone0.000.000.50 0.75 EUR 10Y yield (%)0.690.85 #N/A #N/A Germany2.22.31.8 1.2 #N/A #N/A #N/A #N/A EUR/USD 1.2381.281.35 1.40 Japan1.81.20.8 0.6 Japan-0.10-0.10-0.10 -0.10 USD/JPY 109.6120110 100 UK1.81.31.5 #N/A UK0.500.500.75 #N/A GBP/USD1.3951.381.42 1.47 China6.96.36.3 6.0 China1.501.501.50 1.50 S&P 5002,6953,000 #N/A #N/A Stoxx 600373395 #N/A #N/A Oil WTI (USD/bbl)63.45456 #N/A Oil Brent (USD/bbl)66.96062 #N/A Current prices as of 06-Feb-2018
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