Updated: May 21, 2020
Source: J.P. Morgan; GDP-weighted MSCI by country
Pricing of negative rates in Fed funds futures persists. While we still view a negative Fed policy rate as unlikely, we believe that if it happens the benefits would outweigh the costs if the policy rate is only mildly negative or around -10 basis points or so and if it does not persist for too long, e.g. for more than a year or two.
Retail footfall has started to pick up in some European countries as lockdowns ease, with Germany and Switzerland showing an uptick, but the U.K. continues to lag the continent, with business sentiment worsening further over the past two weeks, according to our COVID-19 activity tracker of high frequency data points from across the globe.
Jimmy S. Bhullar, CFA
Overall U.S. data has trended worse than in most countries, as U.S. cases and deaths seem to have peaked but remain stubbornly high and are not steadily declining. Conditions are getting less severe in New York, but are challenging in New Jersey, Massachusetts and Michigan. While they have stabilized, new cases and deaths remain elevated and the economic impact of the virus could be more severe than most assumptions if they do not steadily decline. The opening of several states presents a key risk and could drive an uptick in cases.
The path to re-opening Australia has been set. The National Cabinet agreed on a framework for a staged lifting of restrictions, which should see all three re-opening steps completed by July. With caution and conservatism clear imperatives, the process will necessarily be slow. Tracking the ebbs and flows in the rejuvenation will be critical in assessing to what extent activity is picking up and which stocks and sectors stand to benefit.
The initial recovery from the COVID-19 shock will be strong but partial, leaving global GDP close to 4% below its pre-crisis path at the end of next year. Three related factors are likely to weigh on the recovery: the need for continued restrictions to fight the virus; the damage to household and especially business balance sheets from this year’s income loss and credit increase and the lack of effective coordinated policies to address the unique challenges ahead.
U.S.-China tension has re-emerged as a focal point of 2020 politics; potential risk spans trade, technology, finance and geopolitics. It is unlikely that China will be able to meet the purchase agreement in the Phase I trade deal, due to disruption from the COVID-19 pandemic. Export controls in technology will be tightened further and the financial sector will likely become the next battlefield. Taiwan, China and Hong Kong SAR could become sources of heated geopolitical confrontation.
U.S. retail sales nosedived a record 16.4% in April, a fair bit worse than expectations for a 12% decline. The hit to retailers from the pandemic was even more widespread than in March, as only online retailers were spared the pain of the stay-at-home economy. Given what we see in state-by-state restrictions, it’s reasonable to conjecture that April was the bottom for retail spending and May could see some modest increase in sales. What’s more important and more in doubt, is the vigor of any summertime recovery in consumer spending. The report on May 15 puts our estimate of April real consumption growth at around -14% and leaves annualized real consumer spending growth in the second quarter tracking in the ballpark of -50%.
On net, our supply/demand model still shows the first month of global deficit will occur only in August. On the production side, we have removed a cumulative 2.3 million barrels per day (mbd) for May-June. We continue to hold our estimate of 1.5 mbd of production curtailments in June and have trimmed back our July shut-in expectations by 500,000 barrels per day (500 kbd) to 1 mbd. All the while, we continue to downgrade our demand assumptions. We now see global oil demand bottoming out in April at 73.1 mbd, 26.2 mbd lower year-on-year and rebounding about 8% month-on-month to 78.8 mbd in May, still marking a year-on-year contraction of 19.8 mbd this month. Full-year 2020 oil demand is now forecasted to average 90.4 mbd, or 9.5 mbd lower year-on-year.
We have officially downgraded our recommendation for corporate credit to neutral. We expect that companies will be more likely to view dividends as a more politically acceptable means to return capital to shareholders. That implies lower leverage to offset the fact that dividends tend to become a very sticky fixed-charge unlike repurchase programs, which can be more easily suspended. We revisit U.S. banks in light of the discussion of negative interest rates and ongoing talk of potential dividend cuts; look at the recovery in China through the lens of the auto sector; ask how much of a strain low oil prices are exerting on Middle Eastern credit; and think about the potential implications of the latest flare-up of COVID-19 cases in South Korea.
We revise our forecast for 2020 high grade bond supply to $1.6 trillion, which would be a record outcome and 26% higher than the prior peak of $1.3 trillion in 2017. Non-financial supply is forecasted to be $1.12 trillion (71% of total supply), up 47% from the prior peak of $765 billion in 2016. Financial supply is expected to be $455 billion, which is still 11% below the prior peak of $514 billion in 2007. Our supply forecast is based on bottom-up expectations for each issuer and sector from our analyst team. Year-to-date, high grade companies have already issued $898 billion, so our revised forecast implies $680 billion from now until year-end. It is more difficult than usual to predict supply as the COVID-19 crisis is causing some companies to issue more due to cash burn and others to issue to build an extra liquidity cushion. Both trends are leading to the record supply year.
Neil Green, CFA
The J.P. Morgan Property Research team’s April survey asking recipients various questions on their experience of working from home received 474 responses. The absolute majority of all responses (96%) revealed they were working from home and 86% said they had been doing so for more than three weeks. The majority of responses indicated that their company already had work from home policies in place (57%), but nearly half (49%) had not been working from home before the lockdown. This, in our opinion, adds support to the view that the lockdown has been a potential paradigm shift event for office-workplace behavior.
Rajiv Batra and James R. Sullivan, CFA
MSCI Asia ex Japan dividends have grown at a 6% per annum (p.a.) over the decade, compounding ahead of earnings per share (5% p.a.) in the same period, with Singapore, Indonesia and Taiwan, China offering the highest yields among countries. Energy and real estate have been the highest among sectors. Changes in corporate culture, investor demand and regulatory changes have all been supportive factors. In an environment of ever-increasing negative-yielding bonds and high volatility, we think investors will place even greater importance on dividends in setting total return expectations. Bottom-up, we launch our ADIVA list of consistent dividend payers. This list has returned 10% p.a. in the last decade vs Asia Ex Japan’s 2%, but trades at a discount on a forward price-earnings ratio basis. We also present an interactive tool allowing customized screens to pick single stock dividend plays.
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