Overall, our main market impression is that our core views and strategy are tracking nicely and require no major shifts. Risks from another growth shortfall are sufficiently balanced and allow us to stay with our main, growth/low-volatility theme within our portfolios.
Economically our view is, after a dismal first half, world and US growth should again return to an above trend 3% handle from the current quarter forward. Currently there are almost no hard activity data on Q3, but the monthly run rate into the quarter and forward-looking surveys are keeping us confident that we will finally get a quarter that meets or surpasses our forecast. Beyond the current quarter, we remain upbeat. We believe world and US economic growth has the ability to cruise forward at a comfortable 3% plus pace.
We continue to believe there is a heightened risk to bonds, and believe the first rate hike will happen one year from now. Once that happens, the “realization shock” will most certainly create a challenging environment for bonds.
We still have minor disappointment regarding the first half of the year. The unpredictable weather conditions simply knocked the economy for a loop. The markets have made a strong move to start the year, so we may be due to pull back. But, the economy is on firm footing and we continue to believe that a strong economy will lead to higher long-term equity prices.
The recent downward revision of US 1Q14 real GDP growth to -2.9% was clearly disappointing. With the US delivering its weakest non-recessionary outcome in the post-World War II era, last quarter’s global GDP gain of just 1.4% annualized is the lowest of the expansion. Incorporating this result into our forecasts sends a sobering message. At 1.5% and 2.6% respectively, US and global growth for the year are now projected to slow relative to last year to a pace that is below potential.
A global economy that is unable to expand above its potential under such enviable economic conditions contrasts with the narrative we wove at the start of the year. But, there are reasons for the disappointment. The message from global data we track pointed to global GDP accelerating in the second half of last year followed by some moderation at the start of this year. Specifically, these indicators correctly signaled multiple sources of disappointment; weak emerging market domestic demand, unusual weather and global inventory investment.
If there is any comfort to be taken from the economic lag, it lies in the recognition that policymakers and markets are generally discounting the message from GDP reports as an aberration. At the same time, even if 1H14 is a clear disappointment, we continue to take some signal from our global PMI and global GDP forecasts. This week’s surprising gain in both the global manufacturing and services flash PMIs for June suggests global real GDP is accelerating to 4.2% annualized pace this month. How much weight to put on this, following the negative errors in these trackers early this year, is a key question. For now, we are taking them as encouraging signs of rebound from a first quarter we would like to forget.