Skip to main content

Well, who would have thought that barely more than three months ago (when the markets seemed to be falling apart) that we would then go on to see: the best first-quarter start to any year for the S&P 500 since 1998; oil prices up 32 per cent while posting its best start to any year since 2002; the Chinese stock market at a 10-month high; and a renewed surge in corporate bond issuance after the freeze we saw in November and December of last year?

All this attests to two things: just how fast things change today in the global financial market and just how powerful the central banks are to this day. This rally in risk assets can easily be traced to the early moves by the Chinese central bank to aggressively ease monetary policy (along with some fresh fiscal stimulus). And don’t forget about the dovish tilt by the Federal Reserve to the point that two pledged rate hikes at the final rate-setting meeting of 2018 have been obliterated, while the money markets are now beginning to price in a rate cut by the end of this year.

And it’s not just the Fed, because every central bank on the planet has turned from hawk to dove, from the European Central Bank to the Bank of Japan to Australia, New Zealand and, of course, Canada.

What this has done is create the conditions for flattening yield curves and lower interest rates everywhere. This, in turn, has spelled a dramatic improvement in liquidity conditions, which is why the financial markets, broadly speaking, are taking on more risk even with the global economy back on its heels. We did see some moderately better Chinese manufacturing data, but the Japanese, European and U.S. economies remain very subdued. ‎To a large extent, this is what the bond markets have been responding to with this latest dive in yields – downward revisions to global growth and inflationary pressures that are subsiding everywhere, curiously, even with the price of oil back above $60 a barrel.

So, while some pundits talk about this divergence between the stock market and government bond market, it’s really that both universes are reacting to a different set of circumstances. Stocks are reacting to dovish central banks and the Fed’s pivot is especially positive for the emerging markets since this has meant a capping-out of the U.S. dollar rally, which is another sign of improved global liquidity. Bonds are responding to sluggish economic growth and inflationary pressures, which are now fading globally.

If there is going to be a situation where stocks and bonds end up converging, it will be when the question over whether the first-quarter soft patch in the U.S. economy and corporate earnings was just a brief affair, owing to bad winter weather and the government shutdown, or something longer lasting and more nefarious. By late May or early June, when we start getting ‎the second-quarter data flow, we’ll get a better handle on this.

My early read from the leading indicators tells me that insofar as any of this recent rally has been predicated on the view that the U.S. or global economy is set for any durable reacceleration, we could be in for a bit of a letdown in the months ahead. I get asked frequently as to whether my macro views have changed and the answer is no. If anything, the vast majority of the incoming data at home and abroad and the cascading downward growth forecasts from the likes of the World Bank, OECD and IMF dovetail with my forecast that even if we avert an outright recession, risks to the economic outlook are still squarely to the downside. Financial markets spent much of last year (especially in the fourth-quarter meltdown) focusing on the disease, which was the shift from synchronized world growth to synchronized world slowdown. Now, they have turned their focus this year towards the cure, whether that be actual policy stimulus in China or anticipation of Fed-induced interest rate cuts in the United States.

But it’s important to stick to what we know instead of guess work. We know that central banks will no longer be tightening, all the leading inflation indicators at my disposal have peaked and rolled over for the cycle, and as such interest rates will likely continue to be benign. One of the biggest developments this year has been that we are back to over $10-trillion (yes that is with a T) of global bonds trading at a negative yield. That volume of negative-yielding bonds just six months ago was sitting closer to $7.-trillion, so this is a huge 30-per-cent increase. So, safe income is once again increasingly in short supply, and this ‘scarcity value’ means that the asset mix and portfolio construction should be aimed at deriving a reliable cash-flow. In turn, this means a barbell of non-cyclical dividend-paying stocks and high quality long duration bonds will make perfect sense even if the economy underperforms expectations through the spring, which I see as a likely scenario.

David Rosenberg is chief economist with Gluskin Sheff + Associates Inc. and author of the daily economic newsletter Breakfast with Dave.

Follow related authors and topics

Authors and topics you follow will be added to your personal news feed in Following.

Interact with The Globe