This quarter we discuss our work navigating a global equity rotation from defensive-driven leadership to cyclical-driven leadership.

  • We analyze economic growth trends and our belief that we are in the closest thing to a synchronized global upturn that we’ve seen in years.
  • We discuss three liquidity shocks are impacting asset prices: China devaluing the yuan, divergent monetary policies, and changing US money market fund rules; and
  • We look at how far cyclicals have run, making us attuned to any potential flare-up in liquidity shocks.

A Rotation To Cyclical-Driven Leadership? – Gavekal Knowledge Leaders Strategy

  • All year we’ve been trying to navigate a rotation in the global equity markets from defensive driven leadership to cyclical driven leadership and from a US focus to a non-US focus.
  • Economic growth trends have been supportive of emerging market and developed market cyclicals. The EM economies began to turn up last year, and the DM economies have followed up this year. We are in the closest thing to a synchronized global upturn that we’ve seen in years.
  • At the same time there are three liquidity shocks which are impacting asset prices: 1) China devaluing Yuan, 2) divergent monetary policies and 3) changing US money market fund rules. So far this year, economic growth trends have prevailed over the liquidity shocks.
  • With the Chinese Yuan breaking out on the downside, liquidity shocks may influence asset prices more than fundamentals in the near term.

About a year ago we saw the first signs of an upturn in growth in the emerging markets, led by Brazil.

Cyclical-Driven Leadership

Emerging markets relative growth momentum turned up first, and now most countries are experiencing rising growth.

Cyclical-Driven Leadership

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Developed markets growth turned up next, with the US gaining a lot of momentum this year.

Cyclical-Driven Leadership

For the first the time in years, all developed countries appear to be experiencing a synchronized global upturn in growth.

Cyclical-Driven Leadership

It has been several years since the US grew at a 2% annualized rate for three quarters in a row.

Cyclical-Driven Leadership

  • Economic trends suggest that a rotation into non-US stocks, especially DM Asia, is fundamentally supported. If synchronized global growth continues on its current trajectory, we suspect cyclical stocks may continue to outperform over the longer term.
  • The Chinese Yuan has broken out on the downside, suggesting pressure on commodity prices, cyclicals, rising LIBOR rates and volatility, and falling US Treasury rates. Liquidity shocks may negatively impact cyclical assets in the short term.
  • We have gradually reduced our counter-cyclical US exposure this year in favor of non-US cyclicals and DM Asian counter-cyclicals. We expect to continue on this path, striving to get the timing of the rotation right.

Article by Steven Vannelli, CFA

See the full PDF below.

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