Reflation to Normalisation

Brandywine Global quarterly letter 1Q 2017

Reflation to Normalisation

Last September, Brandywine provocatively suggested there were ‘stirrings’ of an end to financial repression as U.S. households appeared to stop deleveraging while, in China, the slide in output growth came to a halt. Since then, the shift in investment narrative has been quite astounding.

The times of low yields backing secular stagnation seem behind. The global economy is rebounding and the price of risk assets has increased, despite the generally higher yields. The US, EMs (China), Europe and Japan seem to support the trend.

Is this reflationary bout really sustainable? Or will the world relapse again, as it did in previous attempts to reflate the world economy in 2009, 2012 and and 2015/15? 

This time seems different because:

•US households have stopped deleveraging and Chinse growth has stopped weakening. There are no signs of re-leveraging, but the absence of deleveraging is positive.

•Central bank support continues, unlike previously, when the Fed first attempted to end its monetary stimulus in 2013 and the European Central Bank lifted interest rates in 2011. Support is now ongoing and if removed, very gradually.

•Improvement in wage and employment growth, globally.

•Headline inflation is likely to retreat, given the lower energy prices, which should have a positive impact on spending power.

•EMs have improved their Balance of Payments deficits.

 

However, there are 3 main risks:

1.US booming sentiment: Fast growth could be bond bearish, although investors are beginning to price in that the new Administration's pro-growth policies may take a while to materialise. 

2.China: The country is still rotating away from a manufacturing into a consumer economy, but it is underpinned by public stimulus. 

3.Geopolitical risks in North Korea and Middle East remain.

Top

IMPORTANT INFORMATION: All investments involve risk, including loss of principal. Past performance is no guarantee of future results. An investor cannot invest directly in an index. Unmanaged index returns do not reflect any fees, expenses or sales charges.

Equity securities are subject to price fluctuation and possible loss of principal. Fixed-income securities involve interest rate, credit, inflation and reinvestment risks; and possible loss of principal. As interest rates rise, the value of fixed income securities falls. International investments are subject to special risks including currency fluctuations, social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets.

The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, guarantee of future results, recommendations or advice.  Statements made in this material are not intended as buy or sell recommendations of any securities. Forward-looking statements are subject to uncertainties that could cause actual developments and results to differ materially from the expectations expressed. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed. Information and opinions expressed by either Legg Mason or its affiliates are current as at the date indicated, are subject to change without notice, and do not  take into account the particular investment objectives, financial situation or needs of individual investors.