2020 Outlook: Upside May Be Harder to Come By Amid a Slow-Moving, Aging Cycle - Fidelity Institutional Asset Management
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LEADERSHIP SERIES
2020 Outlook: Upside May Be Harder
to Come By Amid a Slow-Moving, Aging Cycle
Watching for hopeful signs to start the year, but investors should
prepare for potential market rotations.
Dirk Hofschire, CFA l Senior Vice President, Asset Allocation Research
Lisa Emsbo-Mattingly l Director of Asset Allocation Research
Jacob Weinstein, CFA l Research Analyst, Asset Allocation Research
Cait Dourney, CFA l Research Analyst, Asset Allocation Research
Key Takeaways With the U.S. and global business cycles continuing
to mature, it will likely be challenging to replicate the
• The future trajectory of asset prices will likely
strong broad-based asset price gains and low volatility
depend on the evolution of three major factors
of 2019. However, it’s been a slow-moving cycle, and
—the business cycle, liquidity and market
it’s possible that the unspectacular but relatively steady
technicals, and asset valuations.
economic backdrop can last for a while longer. The
• The global business cycle remains in a mature following is our outlook for 2020.
expansion, with signs of improvement in some
areas and a generally modest pace of growth— Late cycle: Higher uncertainty, less
conditions that often precipitate heightened predictable asset return patterns
uncertainty and mixed asset market performance. The global economy remains relatively sluggish, but there
are signs that conditions are no longer deteriorating.
• The slow progression through the U.S. business
cycle could continue, amid low rates and a solid • Unlike during prior periods of global softening over the
consumer, but business conditions are mixed and past decade, China’s policymakers are emphasizing
earnings growth is under pressure. just enough fiscal and monetary support to maintain
stability but not to reaccelerate growth.
• With global monetary policy turning more
accommodative, incremental liquidity could • As a result, China’s industrial sector stabilized in early
continue to push asset prices higher despite 2019 but has not catalyzed a sharp rebound in Chinese
lukewarm fundamentals, but it’s possible that growth nor global trade and manufacturing activity.
easy-money policy may be nearing the limitations • However, measures of business confidence and
of its effectiveness. manufacturing in some countries are no longer
declining, indicating near-recessionary conditions in
• Elevated valuations in a mature business cycle
major European economies such as Germany and Italy
suggest that investors should expect below-
might be poised for an improvement.
average asset returns over the intermediate to
long term, but there may be relative opportunities
within certain asset categories.The U.S. is firmly in the late-cycle phase as evidenced by In general, stocks tend to outpace bonds during the
tight labor markets, challenged corporate profit margins, late-cycle phase of expansion (Exhibit 2).
and a yield curve that flattened and inverted (Exhibit 1). • Historically, about one-third of the time, equities
• During 2019, the Federal Reserve’s dovish shift toward declined during late cycle (and underperformed bonds),
rate cuts and balance sheet expansion helped soothe implying a much riskier profile than during the earlier
financial conditions. phases of the business cycle.
• This has been a prolonged, slow-moving cycle, and our • Since we first identified the full U.S. move to the
models have yet to register a significant increase in the late cycle in the fourth quarter of 2018, stocks have
near-term risk of U.S. recession. outpaced bonds, although bond returns have also
• However, we are cautious about the prospects for a been strong.
material upswing in the pace of U.S. economic growth. • As is often the case, equity performance has been
volatile this late cycle due to the steep drop in late
2018 before the sharp 2019 rally.
EXHIBIT 1: The U.S. and global business cycles are mature, but there are signs in some countries that conditions
are no longer deteriorating.
Business Cycle Framework
Cycle Phases EARLY MID LATE RECESSION
• Activity rebounds (GDP, IP, • Growth peaking • Growth moderating • Falling activity
employment, incomes) • Credit growth strong • Credit tightens • Credit dries up
• Credit begins to grow • Profit growth peaks • Earnings under pressure • Profits decline
• Profits grow rapidly • Policy neutral • Policy contractionary • Policy eases
• Policy still stimulative • Inventories, sales grow; • Inventories grow; sales • Inventories, sales fall
• Inventories low; sales improve equilibrium reached growth falls
Inflationary Pressures
Red = High
Spain
Brazil, Australia, Canada
France
U.S., Japan, South Korea
UK
Mexico, India
+ RECOVERY EXPANSION CONTRACTION
Economic Growth
–
China* Germany,
Relative Performance of Italy
Economically Sensitive Assets
Green = Strong
The diagram above is a hypothetical illustration of the business cycle. There is not always a chronological, linear progression among the phases of the business cycle,
and there have been cycles when the economy has skipped a phase or retraced an earlier one. * A growth recession is a significant decline in activity relative to a
country’s long-term economic potential. We use the “growth cycle” definition for most developing economies, such as China, because they tend to exhibit strong trend
performance driven by rapid factor accumulation and increases in productivity, and the deviation from the trend tends to matter most for asset returns. We use the
classic definition of recession, involving an outright contraction in economic activity, for developed economies. Source: Fidelity Investments (Asset Allocation Research
Team), as of Nov. 30, 2019.
22020 OUTLOOK: UPSIDE MAY BE HARDER TO COME BY AMID A SLOW-MOVING, AGING CYCLE
Three areas to monitor: Glass half-full or However, corporate confidence remains in the doldrums,
half-empty? and business conditions are consistent leading indicators
Whether the next big move will be an improvement or of overall economic activity.
deterioration in asset markets will likely depend on the • Capital spending slumped in 2019 amid weak growth
evolution of three major factors—the business cycle, and trade-policy disruption, although recent sentiment
liquidity and market technicals, and asset valuations. indicators suggest business confidence may no longer
be deteriorating (Exhibit 4).
Business cycle: Slow and steady could continue, but
earnings growth under pressure • The de-escalation of the U.S.-China tariff confrontation
The U.S. cycle has been slow and long, and it may could provide some boost to business sentiment,
continue to extend. although the apparently narrow scope of the deal is
unlikely to completely clear the air and spur investment
• The consumer remains in solid shape amid tight
activity on its own.
employment conditions.
• U.S. elections in 2020 will likely act as an additional
• Lower interest rates have kept consumer debt service
layer of uncertainty casting a shadow over capex
manageable and boosted housing activity (Exhibit 3).
decisions.
EXHIBIT 2: The performance of stocks vs. bonds is generally EXHIBIT 3: Lower interest rates have helped stimulate the
mixed during the late stage of the business cycle. housing market.
U.S. Equity less Investment-Grade Bond Cumulative New Housing Permits
Performance in the Late-Cycle Phase (1950–2019)
Current Late Cycle Year-Over-Year (3-Month Moving Average)
Beginning of Late Cycle = 100 25
130
20
120
15
110 10
100 5
90 0
-5
80
-10
Apr-15
Jun-15
Aug-15
Oct-15
Dec-15
Feb-16
Apr-16
Jun-16
Aug-16
Oct-16
Dec-16
Feb-17
Apr-17
Jun-17
Aug-17
Oct-17
Dec-17
Feb-18
Apr-18
Jun-18
Aug-18
Oct-18
Dec-18
Feb-19
Apr-19
Jun-19
Aug-19
Oct-19
70
0 2 4 6 8 10 12 14 16 18 20 22 24 26
Months
Past performance is no guarantee of future results. U.S. equities represented
by the S&P 500 ® Index. Bonds represented by the Bloomberg Barclays U.S. Source: U.S. Census Bureau, Haver Analytics, Fidelity Investments (AART), as
Aggregate Bond Index. Source: Standard and Poor’s, Bloomberg Finance L.P., of Oct. 31, 2019.
Fidelity Investments (AART), as of Dec. 6, 2019.
3The bull-versus-bear battle may ultimately be determined Liquidity and market technicals: Sentiment not
by the trajectory of corporate earnings growth. stretched, but monetary easing less helpful
With global monetary policy turning more
• As shown in Exhibit 5, market consensus expectations
accommodative and many of the growth challenges
for 2020 earnings growth are around 9%, which
well known, the bull case for market technicals is that
would be a big rebound from the steadily reduced
incremental liquidity continues to push asset prices
expectations for 2019 (now around 1.5%).
higher despite lukewarm fundamentals.
• With corporations facing extremely tight labor markets,
• Bullish investors argue this has always been an unloved
it’s difficult for earnings growth to meaningfully
bull market, with cash-rich investors positioned
accelerate without a material improvement in the
conservatively due to the memory of 2008 market
global economic backdrop.
losses.
• As a result, we expect profit growth to potentially act
• The supply of publicly traded stocks and sovereign
as a fundamental headwind for stocks in 2020.
bonds has shrunk due to share buybacks and central
bank purchases.
EXHIBIT 4: Capital investment spending has been subdued, EXHIBIT 5: Investors expect earnings growth to meaningfully
but business sentiment may have bottomed. reaccelerate in 2020.
CFO Survey: Outlook for Capital Spending (Next 12 Months) S&P 500 Earnings Growth Estimates
2019 2020
Year-Over Year Change
Year-Over-Year
10%
15%
8%
6%
4%
10%
2%
0% 9.2%
-2%
-4% 5%
-6%
-8% 1.4%
-10%
0%
Sep-08
Sep-09
Sep-10
Sep-11
Sep-12
Sep-13
Sep-14
Sep-15
Sep-16
Sep-17
Sep-18
Sep-19
Apr-19
May-19
Oct-19
Mar-18
Apr-18
May-18
Oct-18
Dec-18
Jan-19
Jun-19
Jul-19
Aug-19
Sep-19
Nov-19
Dec-19
Jun-18
Jul-18
Aug-18
Sep-18
Nov-18
Feb-19
Mar-19
Source: Duke Fuqua School of Business/CFO Magazine, Haver Analytics, Source: Bloomberg Finance L.P., Fidelity Investments (AART),
Fidelity Investments (AART,) as of Dec. 11, 2019. as of Dec. 6, 2019.
42020 OUTLOOK: UPSIDE MAY BE HARDER TO COME BY AMID A SLOW-MOVING, AGING CYCLE
The bearish argument is that easier monetary policy is development that might slow the previously ample
hitting the limitations of its effectiveness, and cracks in flow of private equity money to new firms (Exhibit 6).
financial conditions are already beginning to show.
Valuations: Weaker absolute return outlook, but ample
• Thus far, typical widespread late-cycle tightening relative opportunities
of credit and financial conditions has yet to occur in
After a decade-long appreciation of asset prices,
the U.S., in part due to the Fed’s move to an easing
elevated valuations suggest that investors should expect
posture.
lower asset returns over the intermediate-term compared
• Some financial stress is evident in lower credit-quality to long-term historical averages.
tiers, including the rise in credit spreads among triple-
• High equity price-to-earnings ratios and low bond
C-rated high yield bonds and leveraged loans.
yields suggest returns of both stocks and bonds may
• U.S. banks tightened lending standards for commercial
be inhibited.
and industrial loans during Q4.
From an asset allocation standpoint, there may be
• The stock prices of technology companies that
relative opportunities within certain asset categories.
IPO’d this year have dropped an average of 40%, a
EXHIBIT 6: The median drawdown for large tech IPOs during 2019 has been approximately 40%.
Price Declines of Recent Large Technology Initial Public Offerings
Lyft Zoom Snap Tradeweb Pinterest Tesla Spotify Beyond Meat Uber
Smile Direct Dropbox Blue Apron Peloton WeWork Bond GrubHub CrowdStrike
Median
Stock Price Performance
0%
-10%
-20%
-30%
-40%
-50%
-60%
-70%
-80%
Mar-19
Apr-19
May-19
Sep-19
Oct-19
Nov-19
Dec-19
Jun-19
Jul-19
Aug-19
For illustrative purposes only. Past performance is no guarantee of future results. Source: Bloomberg Finance L.P., Fidelity Investments (AART), as of Dec. 6, 2019.
5• Decade-long trends of equity relative performance— Asset allocation implications
including U.S. stocks beating international equities and The world will begin 2020 in a mature expansion, beset
growth stocks outperforming value—may be getting by policy crosscurrents and an accommodative monetary
long in the tooth (Exhibit 7). backdrop. From an asset allocation perspective, this
• Relative valuations are attractive for international suggests the following observations.
equities (compared to the U.S.), and continued dollar
Patience is important
strength implies some foreign currencies may be
• It’s been a long, slow-moving business cycle and it’s
undervalued.
possible that pace will continue.
• The relative valuations of inflation-resistant assets
• The late-cycle playbook suggests maximum
also appear attractive; for example, low inflation
diversification in the face of greater uncertainty, which
expectations are priced into Treasury inflation-
is a good default position.
protected-security (TIPS) prices.
Caution is appropriate
• In the latter phases of the business cycle, the
EXHIBIT 7: U.S. equities have outpaced their foreign distribution of potential outcomes is generally less
counterparts for roughly a decade.
favorable than earlier in the cycle.
Equities Relative Performance: U.S. vs. Rest of World
• There is a litany of policy and political risks that
Relaive Return Index (2006=100)
may cap the upside for an improvement in business
200
confidence.
180
Readiness to adjust asset allocation
160 • Watching closely for a turn in the cycle will be
important, with a sharp rotation among asset classes
140 and sectors possible.
120
• Unloved asset categories whose relative performance
has trailed for years (for example, international versus
100 U.S. equities) may be poised to claim leadership.
80
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
Past performance is no guarantee of future results. U.S. equities represented
by the MSCI USA Total Return Index. Rest of world represented by the MSCI
ACWI ex USA Total Return Index. Source: Bloomberg Finance L.P., Fidelity
Investments (AART), as of Sep. 30, 2019.
62020 OUTLOOK: UPSIDE MAY BE HARDER TO COME BY AMID A SLOW-MOVING, AGING CYCLE
Authors
Dirk Hofschire, CFA l Senior Vice President, Asset Allocation Research
Lisa Emsbo-Mattingly l Director of Asset Allocation Research
Jacob Weinstein, CFA l Research Analyst, Asset Allocation Research
Cait Dourney, CFA l Research Analyst, Asset Allocation Research
The Asset Allocation Research Team (AART) conducts economic, fundamental, and quantitative research to develop asset allocation
recommendations for Fidelity’s portfolio managers and investment teams. AART is responsible for analyzing and synthesizing
investment perspectives across Fidelity’s asset management unit to generate insights on macroeconomic and financial market trends
and their implications for asset allocation.
AART Research Analyst Jordan Alexiev, CFA, also contributed to this article. Fidelity Thought Leadership Vice President Christie Myers
provided editorial direction.
7Information provided in this document is for informational and educational purposes only. To the extent any investment information in this material is deemed to be a recommendation, it is not meant to be impartial investment advice or advice in a fiduciary capacity and is not intended to be used as a primary basis for you or your client’s investment decisions. Fidelity and its representatives may have a conflict of interest in the products or services mentioned in this material because they have a financial interest in them, and receive compensation, directly or indirectly, in connection with the management, distribution, and/ or servicing of these products or services, including Fidelity funds, certain third-party funds and products, and certain investment services. Information presented herein is for discussion and illustrative purposes only and is not a recommendation or an offer or solicitation to buy or sell any securities. Views expressed are as of the date indicated, based on the information available at that time, and may change based on market and other conditions. Unless otherwise noted, the opinions provided are those of the author and not necessarily those of Fidelity Investments or its affiliates. Fidelity does not assume any duty to update any of the information. Investment decisions should be based on an individual’s own goals, time horizon, and tolerance for risk. Nothing in this content should be considered to be legal or tax advice, and you are encouraged to consult your own lawyer, accountant, or other advisor before making any financial decision. Investing involves risk, including risk of loss. • Past performance and dividend rates are historical and do not guarantee future results. • Diversification and asset allocation do not ensure a profit or guarantee against loss. • All indices are unmanaged. You cannot invest directly in an index. Stock markets are volatile and can fluctuate significantly in response to company, industry, political, regulatory, market, or economic developments. Foreign markets can be more volatile than U.S. markets due to increased risks of adverse issuer, political, market, or economic developments, all of which are magnified in emerging markets. These risks are particularly significant for investments that focus on a single country or region. Although bonds generally present less short-term risk and volatility than stocks, bonds do contain interest rate risk (as interest rates rise, bond prices usually fall, and vice versa) and the risk of default, or the risk that an issuer will be unable to make income or principal payments. Additionally, bonds and short-term investments entail greater inflation risk—the risk that the return of an investment will not keep up with increases in the prices of goods and services—than stocks. Increases in real interest rates can cause the price of inflation-protected debt securities to decrease. Index definitions Bloomberg Barclays U.S. Aggregate Bond Index is a broad-based, market value-weighted benchmark that measures the performance of the investment-grade, U.S. dollar-denominated, fixed-rate taxable bond market. Sectors in the index include Treasuries, government-related and corporate securities, MBS (agency fixed-rate and hybrid ARM pass-throughs), ABS, and CMBS. MSCI ACWI (All Country World Index) ex USA Index is a market capitalization-weighted index designed to measure the investable equity market performance for global investors of large and mid-cap stocks in developed and emerging markets, excluding the U.S. The MSCI USA Total Return Index is designed to measure the performance of the large and mid-cap segments of the U.S. market. With 640 constituents, the index covers approximately 85% of the free float-adjusted market capitalization in the U.S. Standard & Poor’s 500 (S&P 500 ®) is a market capitalization-weighted index of 500 common stocks chosen for market size, liquidity, and industry group representation to represent U.S. equity performance. Fidelity Institutional Asset Management ® (FIAM®) provides registered investment products via Fidelity Investments Institutional Services Company, Inc., and institutional asset management services through FIAM LLC or Fidelity Institutional Asset Management Trust Company. Personal and workplace investment products are provided by Fidelity Brokerage Services LLC, Member NYSE, SIPC. Fidelity Clearing & Custody Solutions® provides clearing, custody, or other brokerage services through National Financial Services LLC or Fidelity Brokerage Services LLC (Members NYSE, SIPC). © 2019 FMR LLC. All rights reserved. 911046.1.0
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