1. The first theme is that we believe macro uncertainty will be higher than it was in the first half of 2018, and will be a more dominant driver through the rest of the year. In markets, risk premia are increasing, and investors are increasingly responding asymmetrically to headlines: good news is having slightly less impact than bad news.
This uncertainty is rising against the backdrop of a relatively strong outlook for global growth. Yet the uncertainty is still there. While our two-year growth forecast remains intact, the dispersion around that forecast has increased. We expect growth, but we’re also seeing wider tails and lower peaks in terms of how high growth can get.
2. The second important theme centres on rising interest rates and a stronger U.S. dollar, which are contributing to tighter financial conditions, especially in the U.S. Given that it’s the driver for global growth right now, that’s a headwind. For Canada, which has a small open economy highly dependent on trade, any slowdown in the U.S. will likely be amplified here. We’re not at the alarm stage yet, but we expect concern to rise over tighter financial conditions in the second half.
3. The third theme relates to how investors can respond. Simply put, the case has strengthened for building portfolio resilience. From a fixed income perspective, that means paying attention to maintaining a balance between credit and rates, and being more attentive to the pricing of risk premia as it relates to credit exposure. There will likely be opportunities. For example, the stronger U.S. dollar has led to a bloodbath in Emerging Market debt. We could see spreads get much wider if the trend continues; in a relative value sense, Emerging Markets are still discounting quite a bit of negative news. At some point, investors might want to take on some exposure.
In short, think about resilience, but keep an eye out for opportunities.
Aubrey Basdeo is a Managing Director and Head of Canadian Fixed Income for BlackRock. He is a regular contributor to The Blog in Canada.