The global economy rebounded in Q3. This was largely a function of eased lockdowns and a resumption in normal economic activity. While unemployment has risen sharply, overall household income has been supported by fiscal transfers which have allowed consumers to maintain spending. Overall, we expect the global economy to continue to recover, with the potential for an acceleration as a vaccine becomes available.
The Fed formally adopted an average inflation targeting framework, which is further evidence of the Fed’s intention to keep rates low. Combined with structural trends, these policies suggest interest rates are likely to remain low for the foreseeable future.
Polls and betting markets continue to give the edge to former Vice President Biden to win the election. Over the short-term, a Democratic sweep would likely be a positive for the economy, as the first priority of a Biden administration would probably be to pass a substantial fiscal stimulus/COVID-19 relief plan.
Equity valuations continue to move higher, particularly in the US. However, equities continue to appear attractive versus government bonds, as the prospective equity risk premium is reasonable by historical standards. The challenge for investors is that high equity valuations and low interest rates will make it challenging to meet typical return objectives moving forward.
We retain a positive view on emerging markets and suggest overweighting them relative to international developed stocks. Trade tensions between the US and China remains a risk as is the ability of some of the smaller emerging market countries to control the virus and provide stimulus to support their economies. Nonetheless, EM economies, particularly in the Asian region, appear poised for a strong recovery.
While we remain constructive on investment-grade corporate credit, we currently see better value in securitized credit which has not recovered from the March selloff as much as investment-grade corporate bonds.
While high yield spreads have declined considerably since Q1 levels, continued economic recovery could lead to further spread contraction. We continue to think high yield bonds offer an attractive risk-to-reward.