SEI Investments : 2019 Economic Outlook

Hello, I'm Jim Solloway, Chief Market Strategist and Senior Portfolio Manager in SEI's Portfolio Strategies Group. Today I will be sharing our expectations for the global economy and financial markets over the next year.

U.S. economic growth appears set to ease a bit in 2019, but we still see fairly solid conditions ahead.

Breaking U.S. GDP growth into its cyclical and non-cyclical components, first we can see that cyclicals have been logging respectable year-over-year gains of more than 5% for the past several quarters.

Second, the non-cyclical components also appear rather healthy. Their rate of change has picked up from the near-zero readings recorded for several years following the global financial crisis.

Catalysts for this acceleration include the improving economic position of U.S. households as labor markets tighten and real wage growth accelerates; increased government spending has also helped.

With a new divided Congress, any fiscal-policy agreement made during a period of political gridlock will likely mean slightly more federal-government spending - not less.

The vibrant performance of the U.S. economy in 2018 hardened the Federal Reserve's resolve to normalize its federal-funds policy rate. Fourth-quarter volatility increased, at least in part, on concern that the central bank would go too far and tip the economy into recession. We view this response by investors as an overreaction.

The Fed now projects only two quarter-point rate hikes in 2019, followed by one additional increase by the end of 2020. We think the central bank will raise rates less than that over the next two years. But the important thing to remember is that monetary policymakers are adopting a wait-and-see approach and have ended their nearly automatic quarterly rate increases.

Overseas, there's reason for optimism in emerging markets, starting with valuations. The price-to-forward-earnings ratio of the MSCI Emerging Markets Index collapsed from 13 times at the end of January 2018 to 10.5 at year-end.

What could trigger a turnaround? In the past, it has been China.

Comparing the year-over-year change in the MSCI Emerging Markets Index performance versus China's total financing shows that big debt expansions in China typically lead to big gains in emerging-market equities.

China's growth was slowing even before this year's trade battles with the U.S.

It certainly would be a big positive for both China and the U.S. if the threat of tariffs was negotiated away, but we're not holding our breath.

On the contrary, the U.S.-China economic relationship will likely continue to deteriorate as the Trump administration seeks to level the playing field. When push comes to shove, the Chinese government will likely get even more aggressive in easing lending constraints if the situation warrants.

The sheer ferocity of the fourth-quarter stock-market correction - with the worst peak-to-trough drop in the S&P 500 Index since 2011 - is reminiscent of other times in the past eight years when risk assets sold down hard, only to turn around and hit new highs.

In the week before Christmas, more than 90% of multi-cap stocks were trading below their 200-day moving averages, as measured by Ned Davis Research Group.

Such a large percentage has been reached less than 2% of the time since 1981, typically near the tail-end of a correction or bear market.

Looking at the five relevant episodes since 1981 - when the data first became available - the price of the S&P 500 Index averaged 20.3% higher one year later.

We see an important risk-on opportunity developing in equities and other risk assets. SEI believes a rebalancing of assets back toward undervalued equity and higher-yielding fixed-income classes is an appropriate and timely response.

Thank you and happy new year!