December 20, 2018
Updated January 22, 2019
J.P. Morgan Research offers their key market and economy calls for 2019.
After a volatile end to 2018, tentative stability has returned to risky markets at the start of the new year, with investors seeing some reversal of the losses experienced in December. Growth momentum has slowed, but the deceleration phase should end before midyear with supportive and flexible policy actions—notably China easing and the Federal Reserve pausing. Recession risks, in the meantime, remain modest for the year ahead. Here, J.P. Morgan Research takes a look at what else 2019 might have in store.
More Upside Seen for Stocks as Earnings Stay Positive
Stocks had a tough end to 2018, after the worst December for U.S. equities in 50 years. In 2019, J.P. Morgan analysts expect corporate guidance to provide diverging outlooks for U.S. multinationals and domestic companies. Overall, S&P 500 companies should strike a more balanced tone and provide guidance for mid-single-digit earnings per share (EPS) growth for 2019, expanding to $173 this year from $165 in 2018. Buyback activity should remain robust with executions of around $800 billion this year which can contribute 2% to EPS growth, while reinvestment of dividends supports technical demand. This earnings backdrop, coupled with depressed valuation and investor positioning, should provide double-digit upside for equities with potential for the S&P 500 to reach 3,000 this year. The key underlying assumption here is for a U.S.–China trade deal to materialize. If there is no deal and trade escalation persists, earnings will likely face further downside. With the government shutdown now the longest in history, U.S. domestic politics could replace U.S.-China trade tension as a volatility generator for U.S. and potentially global markets.
U.S. to Moderate, Euro Area Drags to Fade
After delivering its second straight year of above potential GDP gains, higher inflation and interest rates in 2018, growth in the global economy is set to ease off slightly in 2019. J.P. Morgan estimates the global economy will grow 2.9% in 2019, on par with the 3% gain in 2018. “The U.S. economy posted a boomy 3.1% in GDP growth in 2018, a figure which is set to fall to a still-solid, but more moderate 1.8% in 2019, as fiscal, monetary and trade policies start tightening up,” said J.P. Morgan Chief Economist, Bruce Kasman. Recent disruptions in the euro area industry are expected to fade and the region is forecast to grow 1.7%, offsetting some of the moderation in U.S. growth. China on the other hand, is facing considerable challenge sustaining growth at around 6% as it deals with internal imbalances and external drag.
Brexit and Italy in the Spotlight
Political tail risks remain a headwind for European stocks. It is still unclear whether the current substantial Italian debt overhang is manageable and in the U.K., equities remain a lose-lose proposition as the probability for an orderly negotiated exit from the European Union has shifted to just 45% according to J.P. Morgan forecasts. The probability of a hard Brexit “no deal” in the first half of 2019 has also gone down from 10% to 5%, while the likelihood of an “Article 50 extension into the second half of 2019” has gone up from 0% to 10% according to the latest J.P. Morgan estimates.
China Faces Mounting Macro Headwinds
Growth momentum in China continued to weaken at the tail end of last year, as worse than expected economic data highlighted the slowdown taking place in the world’s second largest economy. Factory activity is weakening, industrial profits have contracted, imports and exports collapsed and credit growth continued to edge down despite recent monetary easing efforts. The authorities have pledged to take counter-cyclical measures to stabilize growth, with various monetary easing and fiscal support planned for 2019. While the temporary truce between President Trump and President Xi announced after the G20 meeting late last year has eased near-term trade tensions, non-tariff actions could be used more widely in the U.S.-China conflict. “We maintain our cautious view that the U.S.-China conflict may escalate again in the second half of the year and the economic impact could still be significant on China. Given the mounting macro headwinds, we expect further policy supports including one more central bank reserve ratio cut and further corporate tax reduction,” said J.P. Morgan Chief China Economist, Haibin Zhu. The government are expected to lower their growth target to 6-6.5% in 2019, with J.P. Morgan estimating 6.2%, down from 6.6% in 2018.
Emerging Markets Look Mixed
“After a challenging second half in 2018 for many Emerging Market (EM) economies, the carryover effect will likely result in a weak start to the year, but our forecast assumes that a cyclical pickup takes hold starting in the second quarter of 2019, followed by end-of-cycle pressures later in the year,” said J.P. Morgan Head of Currencies, Commodities and EM Research, Luis Oganes. Latin America is the one region with modestly faster activity forecast in 2019, as China is heavily contributing to the overall EM slowdown. Brazil in particular is poised to continue recovering, following the presidential election. In the equity market, EM stocks are expected to deliver double-digit appreciation, with Brazil, Chile, Indonesia and Russia as top overweight picks.
Oil Prices to Rise in First Half Before Following Growth Lower
After sharp falls seen in the oil price in the last quarter of 2018, J.P. Morgan forecasts a moderate recovery in oil prices from current levels in the first half of 2019. This view is based on the Organization of the Petroleum Exporting Countries (OPEC) cutting supply along with its non-OPEC partners, Iran sanctions, and lower growth in U.S. liquids supply. Later in the year, prices are expected to trend lower as global growth cools. Brent is expected to average at $73 per barrel in 2019 according to J.P. Morgan Research, with the average for 2020 seen at $64 per barrel. Meanwhile in metals, gold is expected to average $1,325 per troy ounce this year whereas base metals are expected to come under increasing pressure as the macro cycle rolls over.
Dollar is Down, But Not Out
The U.S. dollar (USD) had an unexpectedly strong 2019, with the greenback bouncing just under 9% from February lows, undoing the bulk of 2017’s dollar bear market. “This year brings smaller threats from the Fed and a trade war, but still the same late-cycle concerns around leverage and slowdown,” said J.P. Morgan Head of Cross-Asset Fundamental Strategy, John Normand. As U.S. growth eases off and the rest of the world catches up, J.P. Morgan analysts forecast the dollar will be less supported against the euro and other developed market currencies in 2019, particularly in the second half of the year. But this is not expected to result in a broad bear market for the USD generally. The British pound will remain volatile but should eventually move a few percent higher on the delivery of an orderly Brexit. The British pound will remain volatile but should eventually move a few percent higher on the delivery of an orderly Brexit with tail risk skewed to a double-digit rally in the event of a no Brexit.
Fed to Tighten at a Slower Pace
Though U.S. growth remains firmly above trend, the Fed has taken a risk management approach to monetary policy in the wake of tighter financial conditions. J.P. Morgan Research projects two hikes in 2019, while markets are pricing the Fed on hold for the balance of the year. Given a Fed that continues to tighten against the backdrop of increasing Treasury supply, J.P. Morgan forecasts 10-year yields will rise to 2.95% by the second quarter of 2019 and to 3.2% by the end of the year. The inversion of the yield curve, or the difference between the 2-year and 10-year Treasury yields, will also be closely followed in 2019. Since 1960, seven of the last eight yield curve inversions were followed by recession and the J.P. Morgan Fixed Income team expects it to turn completely flat in late 2019. In Europe, 2019 will be better than 2018 with 10-year German bund yields expected to hit 1%. In the U.K., as Brexit negotiations rumble on, J.P. Morgan Research is bearish on U.K. rates, with a baseline forecast of 1.75% for 10-year gilt yields in the second half of the year.