The second quarter of 2020 has seen a divergence between the investment world and real economic conditions. Despite a recent uptick, the global economy is still contracting: the IMF has just downgraded its global GDP forecast to -4.9% from -3.0%.
Yet the picture for the investment world is quite good. Stock markets have regained their feet and surged after plunging 30-40% in March. Two factors have led risky asset prices to recover:
1. Continued stimulus: Since February, the balance sheets of the four major central banks (the US, Europe, Japan and England) have swelled by US$4.5 trillion. As well, a flurry of stimulus measures by the US Federal Reserve, including the purchase of corporate bonds, has meaningfully improved liquidity in the credit market.
Notably, on June 15 the Fed said it would begin buying corporate bonds directly. We see this as a signal that it intends to do whatever it takes to support the market whenever signs of trouble emerge.
2. Rebounding economies: Many countries have begun the cautious process of reopening their economies, leading to a revival in economic indicators. The global composite purchasing managers’ index, as well as other important gauges such as US jobs and retail sales data, plus Chinese economic indicators, rebounded in May. Preliminary figures for June also look promising.
US economic growth momentum appears better than either the market or we had expected. This reflects the resilience and flexibility of the US economy and effective stimulus measures by both the government and the Fed.
On the other hand, China’s recovery, though gradual, is slower than we expected. The primary cause may be the half-hearted stimulus measures, as Chinese authorities want to see a more organic and gradual recovery.
Looking forward, we forecast that the global and Thai economy will bottom out in the second quarter, economic revival will continue in the third quarter, and the fourth quarter may bring positive year-on-year growth.
Nevertheless, we see the world economy contracting by 2.3% and Thai GDP down 5.8% this year. We may see some rebound in 2021-22, after a vaccine is found and distributed. Nevertheless, the “new normal” economic growth rate will be lower than before.
Our projection is materially different than that of the IMF. The latter’s main assumption is that there will be persistent social distancing and/or lengthier lockdowns in several economies, which will lead to a lengthier slowdown.
However, given the better knowledge health authorities now have, governments may choose to partially shut down activity in areas where they see the virus returning, while rigorously testing, tracing, isolating and treating infected patients. This will allow partial opening of the economy while actively managing and controlling the spread of the virus.
Although we see most economies bottoming out in the second quarter, looking forward, there may be some downside risks:
1. Less economic stimulus, especially in the US. Although gigantic compared with the 2008-09 crisis era, the Fed’s purchases fell to $441 billion in May from $1 trillion in March and April. Reduced bond purchases mean liquidity injected into the market and the economy may shrink. Nevertheless, we believe that whenever it sees factors that could sap market confidence, the Fed will step in to reassure investors.
2. Rising numbers of newly infected patients. Surges in Texas, Florida, California and Arizona this month have raised concerns about US economic reopening. However, we believe there is no reason to panic. In some areas, such as California, the rising figure reflects increased testing. Some states that have overcome devastating outbreaks, such as New York, are starting to restrict travel from other infected states, along with other measures such as mandatory mask wearing, to reduce risk.
3. The risk of a cold war between the US and China. As we mentioned last month, an election-year cold war could be used to boost President Trump’s popularity by stirring up nationalism. If the US economy is staggering or the president’s chances of re-election seem slimmer, he may resort to a cold war. That would hurt the economies of the US and China, as well as the rest of the world.
Against the backdrop of a gradual recovery even as economic risks linger, investors need to remain extremely cautious. The focus should be on sectors that have a long-term future, such as technology, healthcare and sectors that benefit from a low-interest-rate environment, such as real estate.
