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.


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