13 Jan 2018 Economic and Market Forecast
Below are excerpts and annotations from an excellent economic forecast for 2018 from Wealth Management dated January 9, 2018. It is easy to read – more of a ten-point summary – and not long. The author, Bob Doll, senior portfolio manager and chief equity strategist at Nuveen Asset
Management, is considered by the experts I most respect as the best in the business, which gives it special weight.
Several things standout.
- Doll is generally bullish, but he sees a bumpy 2018, with a 5% pullback as a cleansing agent.
- The yield curve has flattened, but not inverted – good for long-term growth.
- Companies are expanding capex, but not stock buybacks. This is a strong indicator of future growth.
- He sees Dems taking the House in the mid-terms, but not the Senate. It true, Trump’s agenda has one year to run.
- At the growth rate Doll predicts (3%+), the Treasury will make money on the tax cuts rather than see the ten-year 1.5 Trillion deficit the Congressional Budget Office predicts. From other sources (primarily an article by Phil Gramm appearing in the WSJ) the tax cut revenue loss breakeven is 2.6% – so “maybe” there will be a lot of profit in the Government’s coffers? Tax cuts increasing revenue? No way. Better round up the usual suspects.
- Doll expects bonds to be down for the year, but not a lot.
Here is a summary of Doll’s 10 predictions for 2018:
1. U.S. real GDP will reach 3 percent and nominal GDP 5 percent for the first time in over a decade.
In addition, recessions start on average six years after we reach a new leading indicator peak, and we hit a new high in leading economic indicators in the second half of last year.
2. Despite ongoing protectionism, the global expansion continues with the fewest countries in recession in history.
The number of countries in recession is in the single digits, and it’s likely to remain low for some time. Doll said. “Ironically, that’s happened with global trade pretty flat. This is unusual. When we are in a global economic growth pattern—and in 2017 we achieved synchronous global growth—usually the fastest growing parts of most countries’ economies is foreign trade—imports and exports.”
3. Unemployment falls to the lowest level in nearly 50 years as wage growth is the highest since the Great Recession.
If you look at historic U-3 unemployment rates, it has moved down from the height of the Great Recession to the current 4.1 percent. When we clear the 3.9 percent level of a decade and half ago, Doll believes it’ll be clear sailing down to 3.5 percent.
4. The yield curve flattens, but does not invert, as the 10-year Treasury yield reaches 3 percent for the first time since 2014.
In the late 70s and very early 80s, we had five years in a row when rates moved higher. From 2014 to 2017, rates trickled higher, and Doll expects a more significant increase this year.
His reasons include the fact that the great monetary experiment is unwinding; the world is becoming less deflationary; central banks have moved from easing to normalizing to tightening; there’s robust economic data; capacity utilization rates are rising, especially labor; and bonds are expensive versus history. Author note: As bonds have been expensive for a number of years, we are not sure why Doll thinks it is now significant.
5. Stocks enjoy the longest bull market in history, but will experience a 5 percent plus correction after the longest period without one.
Stocks were up every month in a row for the last year; Sine August, this bull market has become the longest in history. And, not only have we not seen a 5 percent pullback, we haven’t even seen a 3 percent pullback in over a year. That’s unusual, abnormal and unlikely to continue.
Doll said. “We need to condition investors to realize that the good news is stocks have the highest long-term rate of return of any asset class, but there’s a price to pay for that extra return, and that is you’re on a roller coaster ride. And we’ve not seen much of the down part of the roller coaster. We will see it in some point in time.”
6. U.S. equity returns will lag earnings growth for the first time in six years, the longest streak in decades.
Since 2012, the S&P 500 total return has exceeded earnings growth, and Nuveen expects the pendulum to swing. 2018 earnings revisions are unlikely to remain as buoyant as 2017, and low volatility years are often followed by higher volatility years. Author note: Market volatility has been so low for so long, again we are unsure why Doll cites it as a changing factor.
7. Stocks beat bonds for the seventh consecutive year for the first time in nearly a century.
From 2012 to 2017, stocks have outperformed bonds because stocks went up significantly and bonds went up slightly. Doll expects stocks to continue to outperform, but it will be a year where stocks beat bonds because bonds will be down.
Doll said some people question whether stocks will get hit if rates rise. But a major de-rating of stocks is unlikely if growth and earnings are improving.
8. Corporate capital expenditures will increase at the expense of share buybacks.
Corporate capital expenditures have been light this business cycle, but Doll expects that to change this year. Doll’s reasons include companies’ strong profitability, low cost of capital, improved economic confidence, lowered corporate taxes, the repatriation of deferred foreign profits, and the expensing of capex in the new tax bill. With the tax reform, productivity could improve 2 percent.
9. Telecommunication services, information technology and healthcare outperform utilities, energy and materials.
Nuveen believes the telecommunications sector has a big yield premium, and that it’s currently under-owned. It could be a defensive play if the markets get choppy, and the best play is large network providers.
The information technology sector, meanwhile, has excellent earnings and revisions, global exposure and strong balance sheets. The best play here is software and credit cards.
Healthcare is the best positioned defensive growth sector, and the pipelines are improving,
Doll believes biotech and managed care are ways to play it.
10. Republicans lose the House and retain the Senate.
Doll expects the Republicans to lose 25 to 35 seats in the House, allowing the Democrats to recapture it. In midterm elections, the incumbent party tends to lose a lot of seats, he said.
In the Senate, he expects it will be a big fight and uphill battle for Democrats, who will be defending 25 seats. Republicans will be defending just 10 seats.