A February 6th report from Barclays Equity Research suggests that the prevailing “bond market view” of a low-growth economy may not be taking into account factors such as the ECB QE program and lower oil prices that may provide an upside surprise to global economic growth.
Barclays analysts Dennis Jose, Ian Scott and Jason Hart explain their perspective: “This acceptance of the “bond market view” has seen yield investing make a comeback. Flows to Dividend Funds have accelerated over recent months. “Bond-proxy” sectors such as Staples and Healthcare have outperformed, and the premium paid for these sectors is at the highs seen during the sovereign debt crisis and the financial crisis. Such a dire economic outcome, however, sits at odds with both the improvements seen across a spectrum of global leading indicators, and the forecasts of our economists for an acceleration of Global GDP growth from 3.1% in 2014 to 3.4% in 2015.”
Leading indicator view versus bond market view
Jose et al. highlight that there is a growing a dichotomy between the “leading indicator view” and the “bond market view” of the global economy. The leading indicator view of the economy is offering a reasonably positive outlook for 2015, given recent improvement in a range of data. The bond market view is decidedly more negative.
Figure 1 plot the changes in the German 30-year bund yield and the economic data surprise index for the Eurozone. Of note, the two have clearly diverged. This could suggest that the German bund augurs economic disappointment in the near future, perhaps like the volatile summers of 2011 and 2012. This, however, does not jibe at all with the various positive surprises we have been seeing lately.
The Barclays report also points out that the bond market view seems to be a good bit more pessimistic than the leading indicator view even in the U.S. Jose and colleagues elaborate: “The recent compression in long-end yields suggests that a sharp decline in business confidence could be in the offing (Figure 2). However, similar to 2012 and 1993, both periods of European crisis, we believe the bond market may be crying wolf yet again.”
Market hasn’t figured it out yet
The analysts argue that the bond market view has investors mesmerized as they are apparently disregarding real improvements on the earnings front. They also note that cyclically oriented sectors are suddenly enjoying net upgrades to their earnings forecasts compared to defensive sectors. This trend is notable not just in the U.S., but also in Europe and most of the rest of the globe. Although investors have historically seen a turnaround in earnings estimates as time to buy cyclicals, this has not occurred to date.
In fact, Jose et al argue, “lower risk and higher yielding stocks appear to be back in vogue.” Figure 5 illustrates flows to Global Dividend Funds compared to all Global Equity Funds on a rolling six-month basis. The rate of inflows to Global Dividend Funds slowed significantly after August 2012 when U.S. Treasury yields hit bottom, but they have begun to move up smartly over the last few months.