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Mid-Year Outlook 2021

What does the economic future hold in a post-pandemic world? While global recovery is underway in many areas of the economy, the impact of the COVID-19 pandemic can still be felt across both developed and emerging markets.

J.P. Morgan Research analysts discuss their post pandemic outlooks and make their calls for the remainder of 2021, honing in on macro asset-classes and the U.S. consumer to examine the direction of future recovery.

Macro asset-classes

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Global Econ – Bruce Kasman
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“Global core inflation is expected to rise approximately 3% this year marking the largest increase in over a quarter century.” Bruce Kasman, Chief Economist

Global GDP rose at a strong 4.6% annualized rate pace in 1H21 despite an ongoing large COVID-19 drag that weighed heavily on growth outside the U.S.

We expect the COVID-19 drag to fade in 2H21, allowing for a strong 6.5% annualized rate rise in global GDP led by bounces in Europe and many Emerging Markets excluding China.

Transitory inflation pressures related to this growth bounce are expected to persist, with notable upward pressure in service prices in 2H21.

“Even though GDP growth likely peaked 2Q, economic activity will continue expanding briskly in the second half and this will give the Fed enough confidence to announce tapering by December.” Mike Feroli, Chief U.S. Economist

GDP: The economy should continue to rebound following the COVID-19 pandemic, though GDP may outpace jobs. Inflation: Inflation will remain high through early 2022, but we expect this to be transitory. Federal Reserve Asset Purchases: The conversation about Fed asset purchases will keep ramping up. Look out for tapering by 1Q22.

“Going into 2H, we recommend staying underweight emerging markets (EM) rates, neutral EM sovereigns, and overweight EM corporates, but have moved neutral EM foreign exchange from underweight.” Luis Oganes, Head of Currencies, Commodities and Emerging Markets Research

EM Growth: Growth is set to improve in 2H, while EM risk premia have limited room to compress.

EM Credit: Credit spreads can tighten an additional 20-25bp by year-end and deliver positive returns, compared to EM local rates which will likely end the year still higher. In EM credit we maintain long commodity exposures in sovereigns and stay overweight in the J.P. Morgan Corporate Emerging Markets Bond Index (CEMBI) as corporate fundamentals look robust.

Government Bond Index Emerging Market yields have moved in lockstep with U.S. Treasury yields despite the wide variations of yield moves at the country level. We are selectively overweight high yielding rates, including Mexico, Indonesia and South Africa.

“Emerging Markets Corporate High Yield default rates should be benign this year at 2.5% with recovery rates remaining elevated at over 40%. Gross supply should reach a record $550 billion. Select High Yield commodity credits in Asia and CEEMEA remain attractive, as well as bank subordinated bonds across the regions.” Yang-Myung Hong, Emerging Markets Corporate Strategy Research

“After an inconclusive 1H, the Fed’s unexpected hawkish pivot has the makings of a bullish watershed for USD. The shift in the Fed’s reaction function is most clearly bullish for USD vs. low-yielding reserve currencies. The historic sensitivity of currencies to U.S. Treasury yields has proven useful and should largely remain the case in 2H.” Paul Meggyesi, Global Head of FX Strategy

Currency Forecasts: We maintain a medium-term bullish view for 1Y EUR/USD at 1.16 but have lowered GBP/USD from 1.40 to 1.38 We also raise the USD/JPY forecast from 107 to 112 and USD/CNY from 6.35 to 6.45.

High-beta FX: Strong global growth and in some cases, hawkish central banks, should support cyclical FX. However, we don’t exclude the possibility of a broader-based rally in USD, especially given the challenge the Fed has set for the recovery trade in general.

“The Fed’s reaction function remains significantly more dovish than other easing cycles, and there remains room for inflation expectations to increase. Moreover, duration supply will remain heavy even as Treasury cuts auction sizes later this year, the pace of liability-driven investments and bank demand should slow, and valuations appear rich. We project 10-year yields will rise to 1.95% and the 2s/10s curve to steepen further by YE21.” Jay Barry, Head of USD Government Bond Strategy

Rate Hikes: Two hikes are now projected in 2023, and a significant number of participants see a hike in 2022 as well. If the Fed’s forecasts are realized, these hikes will happen against the backdrop of a tighter labor market, with inflation more persistently above target than at any other point in the last 30 years.

Yields: Yields are at the low end of their range and valuations are still rich relative to the drivers in our fair-value framework (exaggerated by technical). We remain bearish on 10-year Treasuries.

“Bearish steepening will seep into the curve. Tapering comes well before lift-off, and may be over faster than expected. Even with tapering, more reserves will flow to banks, more cash to money markets. The overnight reverse repo program (ONRRP) will only be a soft floor.” Alex Roever, Head of U.S. Rates Strategy

“Although U.S. High Grade is currently at its YE21 target and 2018 tights, we should still see tighter spreads and more compression in U.S. High Yield and emerging market (EM) credit markets, which generally remain 5-10% wide of year-end targets and 10-15% wide of their 2019 tights. Demand-side technical remain strong and default risk remains remote.” Stephen Dulake, Global Head of Credit Research

U.S. High Grade: The sharp slowdown in total debt growth and faster Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) growth is contributing to improved leverage and coverage.

U.S. High Yield: Revenue and EBITDA are above pre-pandemic levels on a constant-portfolio basis. Leverage has begun to turn down and this trend will accelerate in coming quarters.

U.S. Loans: Leverage remains elevated, driven by the gaming and transportation sectors. Trends for loan-only issuers are stronger than for issuers with bonds and loans.

“Commodities demand broadly will likely continue to undergo a meaningful shift through 2021. As vaccinations begin to sustainably break the link between COVID-19 infections and mobility, we will see a shift in the driver of growth from metals-intensive goods to more energy-intensive services.” Natasha Kaneva, Head of Global Commodities Strategy

COVID-19 Recovery: Improved mobility will maintain demand recovery for oil. This raises more caution on the demand prospects for base metals.

Oil Demand: Global oil demand should be inflecting higher by around 4.6 mbd over the course of summer, a recovery stronger than the 2019 seasonal bounce by more than 2.7 mbd.

U.S. production is not expected to rise until late 2021, so expected increases in OPEC+ and Iranian production will be absorbed by the anticipated demand lift, while inventories continue to be drawn from.

This environment will likely keep Brent oil prices at an average of $74/bbl in 2H21, peaking at around $80/bbl by year-end.

“Unless the equity fund flow picture slows materially from here, our equity demand/supply analysis implies further equity upside for this year.” Nikolaos Panigirtzoglou, Global Markets Strategy

Equities: The retail impulse into equities accelerated this year with the YTD annualized pace of equity fund buying globally tracking above $1 trillion, the highest on record by far. Assuming the YTD pace of equity fund flows continues into the second half of the year, this would lift the projected equity demand/supply improvement for 2021 from $1.1 trilion to $1.3 trillion.

Bonds: We believe the YTD annualized pace for bond fund buying is tracking $1 trillion, matching the record high of 2019. This would represent an improvement of around $300 billion in bond fund demand vs. 2020 which translates to a $1.3 trillion deterioration in the global bond supply-demand balance this year. This in turn implies upward pressure on Global Aggregate Bond Index yields of around 40bp for 2021. Current YTD increases are around 27bp, which is just over 60% of the increase implied by the supply-demand analysis.

Cryptocurrency exchanges currently hold approximately $65 billion in on-boarded assets.

The metric reflects how much cryptocurrencies are available for collateral in smart contracts, demonstrating the scale of decentralized finance.

The programmable blockchain space is one of the fastest growing and most competitive as protocols race to improve their security, scale and transaction speed.

These protocols aim to replace traditional centralized infrastructure across the spectrum with decentralized platforms that would allow users to avoid the use of third parties.

“Substantive U.S. equity outperformance versus the rest of the world has made its share near 60% in world markets.” Jan Loeys, Long-Term Strategy

Short-term momentum remains strong however, history teaches us such bull runs are set to reverse in the coming decade. Investors should target a long-term U.S. allocation of no higher than 50%.

“Our outlook remains positive for risky asset classes. We expect equities and commodities to have the highest return, and bond yields to move higher.” Marko Kolanovic, PhD, Chief Global Markets Strategist

Our pro-risk view is driven by the ongoing recovery from the pandemic, accommodative monetary stance from global central banks and still below-average positioning in risky asset classes.

Our highest conviction is in reflation, reopening, inflation and value trades (such as commodities, small caps, value stocks and cyclical sectors) over defensives, growth and low volatility segments.

We view the recent underperformance in these trades and bond rally as technically-driven, and we could use this as an opportunity to add exposure.

“Earnings recovery is accelerating, broadening geographically as the global business cycle advances deeper into the expansion phase.” Dubravko Lakos-Bujas, Head of U.S. Equity Strategy and Global Quantitative Research

S&P 500 Price Target of 4,400: The target implies a P/E ratio of 19.6x on 2022 earnings per share and 18x on 2023 earnings per share. This is reasonable given lower rates and a stronger growth environment compared to the pre-COVID period.

A CapEx Boom is Approaching: With an attractive demand and pricing environment, capital expenditure (Capex) is likely to grow further.

Value Continue to Outperform: Value has outperformed growth by 11.2% in 4Q20 and 13.4% YTD. We have consistently advocated for value-over-growth and we would argue for a more nuanced approach and greater differentiation within styles.

“Assets benchmarked to J.P. Morgan’s ESG Index Suite, JESG, increased by %25 in 1Q21 alone, and are now at $35 billion and should surpass $45 billion by year-end.” Gloria Kim, Global Head of Index Research

Inflows into ESG have accelerated with new fund launches raising over $10 billion since the start of the year.

ESG adoption is occurring at the company level across all sectors, not just the macro level, as COVID-19 has brought increased focus on the ‘S’ and the ‘G’ and increased shareholder activism.

Integration of sustainability issues into disclosures could transform business models. We see increasing investor interest in this space, as areas such as cybersecurity become more visible ESG topics.

“COVID-19 has been marked by U.S. and China exceptionalism. There is a long-term shift to addressing China as a strategic competitor underway as China reaches the size of the U.S. economy by the end of the decade.” Joyce Chang, Chair of Global Research

U.S.: The Biden administration is focusing on democratic principles, multilateral cooperation and a greener, more equitable future with fairer taxation, addressing China as a strategic competitor. Meanwhile, cyberattacks are on the rise as digital transformation has accelerated, with the U.S. calling for major democracies to protect national security interests.

International: COVID-19 has accelerated timelines to decarbonize and countries with net-zero pledges now account for 70% of global GDP. However, net-zero targets submitted to the United Nations as a nationally determined contribution (NDC) cover less than 50% of global emissions and only one-third of the global population.

Mid-Year Outlook: The U.S. Consumer

Consumer franchise

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Global Econ – Bruce Kasman
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COVID-19 drove a consumer spending shift to “nesting” categories in 2020. We expect increasing consumer mobility to drive a wallet normalization, with apparel/beauty the biggest beneficiaries, and home categories most at risk.

There is a positive consumer spending environment. We forecast personal consumption expenditures to be up +20% YOY in 2Q21 and +12% in 2H21. We also forecast strong growth (+10%) through 1Q22. This is due to economic growth and the consumer draining the high savings rates.

Recent Chase credit card trends are encouraging. Transactions have increased approximately 13% on average versus pre-COVID levels since early May. Supermarkets have proven resilient, with double-digit growth largely sustained into June.

We expect the clothing and footwear market to grow +21% YOY in 2021 (and +6% vs. 2019).

Denim was the standout category at our mid-April Retail Round-Up, having lagged in 2020 (-28%) as consumers focused on “preparation buying” for exiting the pandemic.

We anticipate a “normalization” of e-commerce penetration in 2021 (likely falling between 2019/20 penetration rates) as brick-and-mortar traffic returns.

Holiday optimism is growing, and a strong back-to-school period is expected.

A closed restaurant is almost always reopened as another restaurant, and we expect supply to be largely caught up by the end of 2022.

Casual dining is likely to regain most on-premise business while holding onto a permanent 5-10% uplift from off-premise. For quick service restaurants, holding onto ticket gains is key as the consumer pivots back to normalized single-order transactions.

Labor availability is the number one risk for recovery, with approximately 1.4 million job openings (April 2021). Restaurants normally represent approximately 8% of total U.S. employment (2019). The industry must capture >20% of the approximately 5.4 million lapsed workforce (May 2021) to regain 2019 sector employment levels.

After years of share losses, food retailers retook significant share of food in 2020. Traditional grocery stores had generally lost share to mass, but as consumers consolidated shopping trips during the pandemic, food retailers took market share.

The food service recovery has not yet weighed on food-at-home sales. Food service spending increased 2% versus pre-pandemic levels in March and 4% in April. Despite the food service recovery, food and beverage sales for off-premise consumption accelerated.

Food-at-home consumption has remained persistently high, but we expect this to unwind. Relative to pre-COVID consumption levels, food-at-home was up %18 in March and 16% in April. We suspect that this is temporary, aided by pent-up demand and stimulus payments.

We expect stickiness in some consumer consumption behaviors in beverage, household and personal care products post-pandemic, though this will likely be below the pandemic peak, our survey of 600 U.S. consumers (household purchase decision makers) suggests.

In non-alcoholic beverages and snacks, consumers expect to increase purchases post-pandemic vs pre-pandemic.

That said, some declines in intention to purchase at home will likely be partially offset by increased consumption in the away-from-home channels.

In key home care, consumers expect to increase purchases in all 16 categories that we surveyed, with the strongest net purchase intentions in health and hygiene products.

Domestic air travel is outpacing initial forecasts. Security screenings in the U.S. are roughly 30% below 2019 levels, but with most international borders shut and most corporate travelers still grounded, the domestic leisure market is disproportionately driving the rebound.

Fare discounting is comparatively limited, showing that COVID-related travel impediments lay at the root of 2020’s crisis, a weak consumer or shifts in attitudes to air travel.

While COVID-19’s aftermath may take a toll on business traveler behavior, we do not believe any lasting consumer damage has been done. There may be an argument in favor of increased future spending.

We are seeing a return to the pre-pandemic trend of consumers buying experiences over things, with leisure travel rebounding much faster than business.

In Las Vegas, weekend occupancy hit 84% in April and total airline seats to McCarran Airport are expected to surpass 2019 levels by the fall. Leisure-heavy lower-end hotel brands in the U.S. have almost fully recovered.

Ski resorts performed particularly well in the pandemic. Visitation to Vail Resorts in the second half of winter ski season was down only 3% compared to this time in 2019. Early indications of ski pass sales for next season are strong.

Cruise line ticket prices have rebounded thanks to pent-up leisure travel demand.

This is aided by limited supply over the near-and-medium-term (given a methodical industry-wide phase-in of global ship operations).

We see ticket prices up roughly 5-15% above 2019 levels on a forward 12-month basis.

New home construction should remain robust over at least the next one to two years. Affordability remains favourable relative to history.

Existing home supply remains extremely tight, at roughly half of prior trough levels. This cycle’s demographics are more favourable than the last (18% more people on average are turning 30 over the next five years than did during the 1998-2005 period).

Repair/remodel demand should moderate in 2H21, especially DIY. Pending home sales (a two-to-three-month forward indicator of existing home sales) have moderated sharply since the end of 2020 and suggest a decline in existing home sales starting later this summer.

After an initial shock at the onset of the pandemic, the sale of new vehicles has consistently improved and recently strengthened to near the highest level ever.

Demand has been aided by changing consumer patterns (less spending on travel, dining, etc.), fiscal and monetary stimulus and more recently, the economic reopening and easing restrictions on commerce.

Supply chain constraints (semiconductor capacity) have prevented production of new vehicles from keeping pace with demand.

Used car inventories have been limited by a 50% plunge in repossession volumes in 2020 and auction volumes by a decline in lease returns.

Given these supply constraints and raw material cost inflation, we expect auto prices to continue to head higher.

There has been a meaningful shift in consumer willingness to purchase vehicles online as a result of the pandemic.

Approximately 40% of dealers see online sales growing meaningfully, while ≈35% expect to hit a saturation point and a quarter of respondents expect consumers to move back toward in-store shopping.

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