Bonds are a better bet than stocks over the next year, according to a widely followed U.K. economics forecasting firm.
The S&P 500 and other stock markets are likely to lose ground in coming months as they grapple with stubbornly slow global growth, according to London-based Capital Economics, which hosted a conference in Toronto on Tuesday. But bond prices, which move in the opposite direction to interest rates, should benefit as central banks, including the Bank of Canada, cut rates to support sputtering expansions.
“Growth will slow most everywhere over the next 12 to 18 months,” group chief economist Neil Shearing told the audience. But, no, he added, this will not be a repeat of the financial crisis.
Unlike the 2008 downturn, which was rooted in one massive problem of housing-related debt, the current sluggishness reflects a host of national or even local problems, he said. Earthquakes and typhoons in Japan, faltering export growth in Germany, fiscal woes in Italy, slower credit growth in China and past interest-rate hikes in the United States are among the culprits.
If these combine to drag on global growth in coming months, as Capital Economics expects, corporate profits will suffer and stock prices will come under pressure. The forecaster predicts the S&P 500 Index in the United States will finish the year around 2,300, nearly 20 per cent lower than it now stands. Other global stock markets will also suffer double-digit losses.
Bonds, in contrast, should do well as interest rates slide. The yield on the 10-year U.S. Treasury bond, the most widely followed global benchmark for long-term interest rates, will fall to 2.25 per cent by year end from its current level around 2.45 per cent, Mr. Shearing predicted.
Canadian interest rates will follow suit as a cooling housing market chills the economy, according to Stephen Brown, senior Canada economist at the forecaster. He is not calling for a housing collapse, but rather modest decreases in home prices in key markets such as Toronto and Vancouver, where home prices have soared beyond the reach of most households.
Even a restrained downturn is still likely to have significant ripple effects, however. Residential investment has accounted for more than 7 per cent of Canada’s gross domestic product (GDP) in recent years – well above the long-term average of 5.8 per cent – so any slowdown in that sector leaves a large gap to be filled, especially with oil prices still too low to prompt a new burst of oil-patch investment.
“The full effects of the housing downturn are yet to be felt,” Mr. Brown said. To offset the impact of the housing slowdown, he predicts the Bank of Canada will have to chop its current policy interest rate of 1.75 per cent by more than markets expect. He expects the rate to tumble to 1.25 per cent by the end of this year and 1 per cent by the end of 2020.
On a more upbeat note, other speakers noted that the China-U.S. trade war is likely to have smaller effects than many investors fear. Exports to China amount to less than 1 per cent of U.S. GDP.
From China’s perspective, the impact is limited as well. The loss to China from current U.S. tariffs amounts to only 0.3 per cent of GDP, they said.
But that doesn’t mean China is set to roar again. While short-term drags on the Chinese economy are fading, any rebound will be small, according to Capital Economics’ forecasts. The size of the Chinese work force has peaked and Beijing has grown wary of the costs of unrestrained stimulus.
Combined with the fading stimulus from tax cuts in the U.S. economy, the Brexit mess in the U.K. and a still challenging outlook for the euro zone economy, the forecast for the world as a whole is continued slow growth against a backdrop of restrained inflation, Mr. Shearing said.