And the hits keep on coming. Shortly after every bank slashed global growth forecasts (with markets to follow) following the Brexit outcome, which virtually every sellside strategist is confident will unleash a modest recession in the UK in 2017, moments ago Bank of America released its latest global macro forecast., which was summarized as follows by Bloomberg.
- 2Y yield: 0.65% (3Q), 0.75% (4Q)
- 5Y yield: 0.85% (3Q), 1.00% (4Q)
- 10Y yield: 1.25% (3Q), 1.50% (4Q)
- 30Y yield: 2.00% (3Q), 2.25% (4Q)
BofA’s Shyam Rajan adds that yield curves should generally flatten as intermediate yields run out of room and 30Y “is the most attractive point to global investors” and that Yields should rebound during 4Q following U.S. presidential election (“general reduction in uncertainty,” prospect of “a fiscal put kicking in.”
Indicatively, here is a chart of the 10Y yield since the Fed’s bid to “renormalize” by hiking rates in December 2010:
As a reminder, US 10Y yields hit record lows of 1.39% in July 2012. This means that if BofA is right, the 10Y will trade inside by at least 14 bps in the next 4 months. And while BofA’s global economist head Michael Hanson has apparently not seen Rajan’s latest forecasts (Hanson still has the 10Y at 2.0%), his other forecasts are rather dire.
Markets: a large and persistent uncertainty shock
- Global markets sold off sharply following the UK vote to leave the EU, consistent with our view that Brexit is likely to yield a significant hit to the UK and global economies. Equity indexes worldwide are likely to endure sustained declines and heightened volatility, as uncertainty persists. Our European equity strategists see a 16% downside the Stoxx 600 that would push through the February lows. Our US equity strategists expect up to a 6-7% drop in the S&P 500.
- The US dollar and Japanese yen appreciated on perceived safe haven flows, while the GBP fell nearly 10% against the US dollar, to its lowest value since 1985. The euro also depreciated due to risk-off flows. Our FX strategists revised their forecasts for end-2016, with GBP weakening to 1.30 against the USD and EUR dipping to 1.05. In the near-term, JPYUSD may overshoot its 105 year-end forecast.
- A stronger US dollar, weaker global trade, and lower global interest rates all are negative for commodities (excluding gold), according to our commodities strategy team. They reiterate their call for WTI oil prices to slump to $39/bbl during 3Q and see gold reaching $1500/oz in a near-term risk-off environment.
Growth: downside surprise
- We expect the UK to quickly slip into recession following a vote to leave the EU. Political and economic uncertainty in the UK is likely to remain high, and the longer-term implications of Brexit for global growth may not be known for some time. Lower UK demand and higher uncertainty should reduce Euro area growth as well; we cut 2017 Euro area GDP growth forecasts to 1.1% from 1.6% previously.
- The spillover from Brexit to global growth is modest but not trivial, in our view. We have trimmed 0.2pp from our US GDP growth forecast for the next six quarters, bringing 2017 growth down to 1.8% from 2.0% previously.
- Tighter financial conditions and weaker global growth should slow EM economies as well. We have trimmed 0.2pp from forecasted Chinese growth for 2016, down to 6.4% from 6.6%. Greater uncertainty and less portfolio investment create downside risks for growth in India as well. In both cases, policy is likely to step in to help offset the shock; for now we maintain our 2017 growth forecasts.
So where does this leave BofA? Why in the same place it has been for the past 7 years – where hope is a strategy, hope that central banks will “pick up the pieces”
Policy: picking up the pieces
- Central banks that held their fire ahead of the UK referendum may soon deploy additional easing. Some fiscal stimulus is likely as well. In particular, we look for the BOJ and RBA to ease further at upcoming meetings, and the ECB to extend QE at its July meeting. We expect the BOE to cut rates by 50bp to zero in July and to expand QE by £50bn within the next few policy meetings.
- In light of global risks, we now expect the Fed to hike once this year, at its December meeting, with just two hikes in 2017 and 2018. Markets remain more pessimistic, with only a 15% chance of a December hike priced in and over a 10% chance of a Fed rate cut. Short of a US recession, we see a cut as unlikely.
- The PBOC should allow faster depreciation of the yuan against the USD. We now expect CNY to end 3Q at 6.80 against the USD and to reach 7.00 by end-4Q. Our Asian FX strategists foresee capital outflows and tightening financial conditions; our China economics team expects additional policy easing to offset.
That said, if the latest BIS annual report released over the weekend which slammed further monetary intervention by its board of directors actually means it this time, BofA will be severely disappointed.
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