In May, we continued with our global Stagnation outlook for the twelve-month forward period. The outlook for the world economy is improving and world trade has picked up. Manufacturing conditions in advanced economies are improving and point to a rebound in economic growth in Q2.

The recovery in the euro-zone has gained momentum after being captivated by the closely-fought first round of the French elections in April and the second round on May 7 that brought considerable relief. The flash composite PMI for the euro-zone stayed at its highest level in six years and the composite PMIs for Germany and France reached six-year highs1.  As the remaining European Union nations present an increasingly unified front ahead of the upcoming “Brexit” negotiations, the medium-term economic outlook for the U.K. weakened while the prospect of a big win for Theresa May’s Conservative party in a general election slated for June 8th helped the British pound strengthen.

The U.S. looks set to hold back from extreme protectionist policies, and any changes to NAFTA seem slow to materialize. Although the Trump administration claims that external trade is a drag on economic growth, for the past five years the monthly trade deficit has been broadly unchanged in dollar terms. That said, the goods trade deficit widened slightly in April, as exports declined by 0.9% m/m and imports increased by 0.7% m/m2. The decline in exports was driven by a 7.5% m/m slump in automotive exports and a 4.5% m/m fall in consumer goods exports3.

The slowdown in Q1 GDP growth to just 0.7% annualized resulted from lower government spending and inventories4. Investment spending added 1.7% to growth, its largest contribution in five years5. The recent weakness in inflation and the political dysfunction that threatens to delay tax reform have resulted in only a modest decline in interest rate expectations. Monetary policy looks set to diverge from other major economies as the U.S. Fed continues to prepare investors for future rate hikes. Headline CPI inflation remains elevated, yet core inflation was unexpectedly weak in both March and April, bringing the three-month annualized core inflation rate to a six-year low of only 0.6% in April6.  The headline unemployment rate declined to a 10-year low of 4.4% in April, a level that would typically cause the Fed to behave hawkish7. However, wage growth remains at a low of 2.5% year over year8.

U.S. Equity markets were positive this month with the S&P 500 gaining 1.0% and S&P 600 Small Cap gaining 0.9%. International equity markets performed well in April with S&P Developed Ex-U.S. BMI and the S&P Emerging BMI both up 2%.

April results for U.S. fixed income returned to positive territory, with the S&P Preferred Stock index as the top performer, up 1.2% for the month. All the aggregate’s components had positive returns; S&P Taxable Municipal Bond Index up 0.9%, and S&P Investment Grade Corporate Bonds up 1.2%. The S&P U.S. High Yield Corporate Bond Index returned 1.1% for April.

Commodities performed poorly, driven by continued weakness in Energy, while the current increased level of geopolitical risk resulted in gold prices benefiting from the asset’s status as a safe haven.

We rebalanced the portfolio models in May to reflect our continued Stagnation outlook. Across all models, we lowered exposure to U.S. Small Cap and Canadian Equity, added to European Equity and a new position in Long-term U.S. Treasury Bonds. Financial conditions have become more accommodative since late last year, even though the Fed has hiked its policy rate twice during that time and our shift in the direction of long bonds reflects our view that this will not be unwinding in the near-term.

We will continue to monitor the data for growth signals from employment, consumer spending, business sentiment, Fed policy, the yield curve, inflation, and global economics. Our focus is on protecting portfolios from downside risk, and we believe that our investment process is working to achieve that goal.

Deborah Frame, President and CIO
Data Source: Bloomberg


[1] Capital Economics, Global Economics Data Response. May 23, 2017.

[2] Capital Economics, US Rapid Response. May 25, 2017.

[3] Capital Economics, US Rapid Response. May 25, 2017

[4] Capital Economics, United States Chart Book. May 17, 2017.

[5] Capital Economics, United States Chart Book. May 17, 2017.

[6] Capital Economics, United States Chart Book. May 17, 2017.