Goldman Sachs - economic report_watermark

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Negative territory

Negative yielding sovereign debt, $ tn

7
	EUR
6	JPY
5
4
3
2
1
0
2014	2015	2016	2017	2018	2019

Germany: Yielding below Japan

German and Japanese yield curves, %

0.6
0.4
0.2
0.0
-0.2
-0.4
-0.6								DEM
								JPY
-0.8
-1.0
1	4	7	10	13	16	19	22	25	28

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	Stock prices have risen alongside falling interest rates…		…and the yield gap currently equals 380bp

3000				3.4
		S&P 500		3.2
2800		(lhs)		3.0
				2.8
2600				2.6
				2.4
2400
				2.2
2200		10-year		2.0
		US Treasury yield		1.8
		(rhs)
2000				1.6
				1.4
1800				1.2
2016	2017	2018	2019	2020

20 %
18 %
16 %
14 %
12 %
				S&P 500
10 %			earnings yield
8 %
6 %
4 %
2 %			US 10-year
			Treasury yield
0 %
1976	1982	1988	1994	2000	2006	2012	2018

Cyclicals vs. defensives are pricing US growth of ~1.5%...

…and policy uncertainty has weighed on equity valuations

110	Cyclical vs. defensive				5.0%
	US equity industry groups				4.5%
105		(lhs)
					4.0%
100					3.5%
					3.0%
95					2.5%
					2.0%
90					1.5%
			US Current
85			Activity Indicator		1.0%
			(rhs)
					0.5%
80					0.0%
2015	2016	2017	2018	2019	2020

	1000 bp		250
	900 bp
	800 bp		200
	700 bp
	600 bp	S&P 500 yield gap
		vs. 10-year US	150
	500 bp	Treasury
	400 bp
	300 bp		100
	200 bp	Economic policy
	100 bp	uncertainty index	50
		(3m avg, rhs)
	0 bp
	(100)bp		0
	2002 2004 2006 2008 2010 2012 2014 2016 2018 2020

The S&P 500 appears to be trading near fair value...

800 bp				The current yield
				gap is in line with
700 bp				model-implied
				levels, and we see
600 bp				it widening slightly
					by year-end
500 bp
400 bp
300 bp
				Modeled
200 bp			Actual
100 bp
					R2 = .69
0 bp
(100)bp
2002	2005	2008	2011	2014	2017	2020

…and we see the index moving largely sideways through year-end

			2020 adjusted EPS
		$175	$178	$181			$184	$187
yield)UST	525 bp	2500	2525	2575			2625	2675
gapYield 10Y-yieldEPS	475 bp	2675	2725	2775			2825	2875
				GS forecast:
	425 bp	2900	2950		3000		3050	3100
									Current
500	375 bp	3175	3225	3275			3350	3400	yield
									gap
(S&P	325 bp	3500	3550	3600			3675	3725
					GS EPS		Cons. EPS
					est.			est.

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Looking stretched

Historical percentile ranks*

MSCI EM PE
IG OAS
S&P 500 PE
HY OAS
			Post-crisis history
EMBI OAS			Full history: 1997-present
0%	25%	50%	75%	100%
	Cheap	Expensive

Risk up, bonds down

Global beta index*; US 10-year Treasury yield, % (rhs)

150

145

140

135

130

125

120

115

110

105

100

95

4.0

3.5

3.0

2.5

2.0

1.5

1.0

Global beta index (Cross-asset long only performance) 0.5 US 10-year yield (RHS)

90									0.0
2010	2011	2012	2013	2014	2015	2016	2017	2018	2019

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Defensive flavor

Cum. excess returns on a monthly rebalanced long-short strategy of broad HY vs. CCC-rated bonds, %; HY cum. excess returns, % (rhs)

14%	Long-short HY vs. CCC cumulative								58%
	excess returns, vol-neutral
12%	HY Cumulative excess returns (RHS)
									48%
10%
8%									38%
	Quality outperforms
6%									28%
4%									18%
2%
0%									8%
-2%									-2%
2010	2011	2012	2013	2014	2015	2016	2017	2018	2019

Performing at full-employment

Performance of long strong vs. weak balance sheet stocks before and after US unemployment dips below 4.5%

60%			1998		2006	2017	60%
50%							50%
40%					Quality		40%
30%					outperforms		30%
20%							20%
10%							10%
0%							0%
-10%							-10%
-20%							-20%
-12-10 -8	-6	-4	-2 0	2	4 6 8 10 12 14 16 18 20 22 24

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60/40 equity/bond portfolios had their best 1H in decades…

24%				60/40 portfolio YTD Return			3.6
20%				Sharpe Ratio (RHS)			3.0
16%							2.4
12%							1.8
8%							1.2
4%							0.6
0%							0.0
-4%							-0.6
-8%							-1.2
63	71	79	87	95	03	11	19

… but investors have also increased allocations to “safe” assets

2.0
1.5
1.0
0.5
0.0
-0.5
-1.0
-1.5		Risky assets
-2.0		Safe assets
		Risk appetite indicator
-2.5
-3.0
16	17	18	19

Equity fund flows have been as negative as during the GFC…

250
200													Money
150													Market
100													Govt
50													Credit
0
-50
-100													Equity
-150
-200
07	08	09	10	11	12	13	14	15	16	17	18	19	20

…while low-vol stocks have performed particularly strongly

40%
30%
20%
10%
0%
-10%
-20%
-30%	S&P 500 low vol index
-40%	S&P 500 low vol index vs. S&P 500
91	95	99	03	07	11	15	19

	Monetary policy has been the main driver of risk appetite…						…but better growth is likely needed to sustain the current rally
	10	TINA		Reflation Goldilocks	Growth	Fed	14			PC1: Global growth			6.5
	8	PC1: Global growth			slowdown dovish		12			Global CAI (RHS)			6.0
						pivot
		PC2: Monetary
	6						10						5.5
		policy					8
	4						6						5.0
	2						4						4.5
	0						2						4.0
	-2						0
							-2						3.5
	-4						-4						3.0
	-6						-6						2.5
	-8						-8						2.0
							-10
	-10
							-12						1.5
	-12						-14						1.0
	14	15	16	17	18	19
							07	09	11	13	15	17	19

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The CAPE uses a 10-year average of real S&P 500 reported earnings per share.

We define the start of a rate-hike cycle as the first hike after the policy rate has plateaued or been cut, using the discount rate from 1955-1971 and the federal funds rate thereafter. A rate-hike cycle ends either when the subsequent Fed move is a cut or when the policy rate is stable for the subsequent 12 months. We define a rate-hike cycle

as lasting more than one month and including more than one hike.