outlook 2017 - swissquote: trade markets with the swiss leader … · 2017. 1. 9. · 4.8% in 2017....

With 2017 here, we are perplexed by the faith that investors have placed in the current narrative, namely Trump + US Presidency = global wealth. This equation fails on so many levels, it is hard to know where to start. Our outlook for 2017 is contrarian in that we have limited belief in the ability of Trump as president to perform the fiscal and tax reform miracle – even with a Republican dominated house and senate – and thereby unleash growth, as vaunted in his tweets. Without the Trump-reflation trade, US economic acceleration becomes more controlled and the Fed normalization path becomes less steep. From a relative value standpoint, this allows other nations to catch up. This year will not be about total domination in USD and US assets, but general global reflation and rogue bouts of politically driven uncertainty.

Outlook 2017

Peter RosenstreichHead of Market Strategy

+41 58 226 29 06

[email protected]

Yann QuelennMarket Analyst

+41 22 525 93 47

[email protected]

Arnaud MassetMarket Analyst

+41 58 226 26 36

[email protected]

2Outlook 2017 - Swissquote Bank

Contents1. View from above 3 a. Global Growth 3 b. Reflation narrative is driving positive sentiment 3 c. Central banks sit quietly as pressure builds 4 d. Central bank outlook for the big four and the SNB 4 e. Emerging markets policymakers will stay busy 4 f. Central banks big bet of fiscal stimulus 5 g. Real risk is that fiscal aid fails to arrive or stimulates too much 5 h. “Trumponomics”, or “Collective Amnesia” ? 5 i. Political risk and anti-establishment movements 6 j. Protectionism and the ascension of China 6 k. China from an economic standpoint 7 l. Oil still suffering from oversupply 7

2. Key trading themes 8 a. Reflation 8 b. Stronger growth trend in equities 8 c. A sweet spot for high-yield credit 8 d. A rainbow-shaped USD curve and tactical FX strategies 8 e. Sell the hype 9

3. Summary 9 a. USA – All about Trump 9 b. Europe – Political uncertainty to cloud economic improvements 10 c. UK – Heading toward “Brexit-lite” 11 d. Switzerland – Watching neighbors cautiously 11

4. Macro Forecasts 13

5. Global Currency Forecasts 14


Global Growth

In broad terms, global economic recovery is on track and should strengthen in 2017. Growth contributions from both developed markets and emerging markets, supported by an improvement in cyclical demand, take precedence over loose monetary policy while reintroduced fiscal stimulus should marginally increaseje the global growth rate. But expansion could be hindered by faster Fed normalizations, political uncertainty and growing protectionism. To our mind, global growth could very well disappoint, as many of the recently theorized foundations driving optimism feel shaky. Recession risks have declined but not disappeared.

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Strong momentum from developed and emerging countries in H2 2016 has led to a revision in growth forecasts, suggesting that 2017 will see further acceleration. With meaningful upturns in the USA (2.20 y/y), UK (1.10 y/y) and Japan (1.1 y/y) and stability in the EU (1.4% y/y), global growth is expected to increase from an annual rate of 2.9% in 2016 to 3.4% in 2017. Faster emerging-market (EM) growth remains a steady driver of global recovery. China’s economic lag has been offset by advances in commodity-exporting nations as commodity prices have firmed. Projections suggest that EM GDP growth will accelerate from 4.2% to 4.8% in 2017. This optimistic base scenario actually has further upside risks if growth in Russia and Brazil stabilizes, the Indian economy accelerates, and demand for commodities increases further. However, major uncertainty is bred by the surge in protectionism, the rally in developed-market (DM) rates and event risk linked to the European and US political atmosphere.

Reflation narrative is driving positive sentiment

The efforts of DMs to drive inflation have at many points looked helpless. Yet after years of living with a constant deflationary threat, it would seem that reflation has finally gained traction. That said, we remain doubtful that much more progress will be made. The DM headline rate will make a marginal increase from 1.1% to 1.9% in 2017, while core inflation is expected to shift from 1.4% to 1.6% as labor markets tighten and wages rise. Based on our lackluster growth expectations, we remain below consensus in our bet that headline US or UK rates are not likely to overshoot central bank targets, while Japan and EU will likely grind reluctantly towards their stated targets.

Given general price dynamics, a sudden acceleration or even a “shock” is unlikely, indicating that central banks will remain skeptical of improvements and reluctant to act. EM nations, however, will struggle to generate inflation. Given continuing weak demand and low commodity prices, disinflation will remain a priority of EM central banks. Even nations such as Russia and Brazil having suffered from high rates of inflation should see a drop in prices. We expect EM inflation to decelerate from 3.4% to 3.2%. Meanwhile, the weak price dynamic will continue to weigh on DMs.

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Central banks sit quietly as pressure builds

Since the 2007 financial crisis, markets have been squarely focused on central bank policy. In our view, central banks have become the primary drivers of asset prices, the rock stars of the financial world, tasked with saving the capitalist world and moving markets with every random statement. Who can forget how ECB President Mario Draghi famously saved the EU by uttering the immortal words “whatever it takes”? This year, instead of attempting to stimulate economic activity, central banks will focus more on building an environment in which economic activity can thrive. This suggests central banks sitting back and watching rather than responding to every event. It will take some time for the market to wean itself off central banks, but we anticipate that meetings will have a lower and lower impact as the year progresses.

Given our marginal upgrade in global growth and our balanced view on inflation dynamics, we expect central banks to err on the side of less policy intervention. However, their sideline stance will elicit mixed reactions from governments, increasing the pressure on their independence. A key rule of modern economic theory is central bank objectivity. The Federal Reserve is on a collision course with the Trump administration. Should the US economy accelerate, the Fed will be forced to quicken the pace of normalization consistent with Trump’s vision of 4% GDP growth. And with a number of Fed seats becoming vacant, including the Chair in 2018, Trump has the possibility to wield substantial influence.

In Europe, the European Central Bank (ECB) will be faced with a shifting political backdrop marked by conflicting agendas. The Bank of England (BoE) has enjoyed post-Brexit calm, but should inflation increase or economic data worsen, calls for monetary policy action will be deafening. In Japan, by shifting to yield targeting the Bank of Japan (BoJ) is handing the control of monetary policy over to the ministry of finance since they last manages the supply of Japanese government bonds. Back in Europe, the overvalued Swiss franc continues to damage Switzerland’s export-driven economy. Further deprecation of the CHF against the EUR will call for action on the part of the Swiss National Bank (SNB), yet with a balance sheet of over 100% annual GDP there will be public pushback against additional expansion. Worldwide, as populist ideology gains ground, the possibility of using legislative adjustments to reign in central-bank independence grows.

Central bank outlook for the big four and the SNB

We suspect that in 2017 central banks will err on the side of less action rather than more. Despite the December Fed meeting that marginally increased the policy rate forecast, we are anticipating two hikes in 2017. Barring a politically generated “shock”, we expect the ECB to shift to normalization by tapering asset purchases from today’s €60bn, extending but significantly reducing the QE program in Q4 2017.

The BoJ has exhausted its monetary policy, its efforts now limited to micro-tuning. With inflation grinding higher, it is unlikely that the BoJ will remove the yield pin in 2017. Our positive view of the UK economy combined with expectations for an “ultra-soft” Brexit suggest that the BoE’s next move will be upwards, though the risk remains that Article 50 could trigger economic disorder, leading to a 15bp rate cut but stopping short of negative rates. The challenge for the SNB will be stubborn inflation and uncertainty in Europe, forcing the EUR-CHF rate lower, combined with a lack of policy options. The SNB continues its forex intervention to smooth EUR-CHF movements and hold the 3-month Libor rate range in negative territory.

Emerging markets policymakers will stay busy

With global growth improving, inflation concerns declining and the Fed policy path more cautious than expected, EM central banks will shift towards cutting policy rates. The People’s Bank of China will remain restrained on worries of capital flows and the credit bubble. We expect the Bank of Russia, the Central Bank of Brazil and the Reserve Bank of India to aggressively cut rates so as to support growth. As is also the case for the Bank of Mexico, FX pressure and an unexpected shift in capital flows will likely be the chief concern in a year dominated by event risk. The Turkish Central Bank is faced with the complex task of convincing the market of the country’s independence by increasing rates while resisting political demands to decrease them.


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Central banks big bet of fiscal stimulus

With DM central banks driving monetary policy towards the point of exhaustion while others are beginning to normalize, the nagging question was what would fill the void, especially since the economic recovery remains timid by historical standards. Any remaining taboos over fiscal stimulus were stripped away first by Brexit and then by Trump’s election. A recent call from the G20 – and supported by NGOs such as the IMF – pronounced the death of fiscal austerity. To stimulate growth, deficit spending is the new QE. Many would argue that fiscal austerity ended in 2015, led by China’s expansionary spending plan, but the strategy is only now gaining the full favor of policymakers.

Markets are bracing for big spends to lessen the effect of monetary policy tightening. In his Autumn Statement, the British Chancellor of the Exchequer prepared the markets for fiscal expenditure as a means of offsetting Brexit-induced weakness. In Japan, the BoJ’s use of yield targeting indicates a greater reliance on fiscal stimulus, especially considering that Prime Minister Abe has yet to accomplish real structural reforms. European governments are likely to shift towards more pro-growth initiative to manage persistently weak growth and low inflation, as well as escalating political uncertainties. Germany in particular has considerable fiscal flexibility and could initiate expansionary fiscal policies ahead of the 2017 elections. Of course, it was President-elect Trump who stole the spotlight, kick-starting a risk rally with a plan to spend $1 trillion over ten years.

Yet markets seem blissfully unconcerned by the uncertainty of the details, timing and effectiveness of that plan. We have significant concerns about the real-life effect of aggressive stimulus at this phase of the business and policy cycle. Fiscal stimulus in DMs provides a feel-good strategy in the short term but generally fails to increase productivity and sustainable growth in the medium term.

Real risk is that fiscal aid fails to arrive or stimulates too much

The disconnect between political objectives and monetary policy has considerable conflictual potential. Should governments find the political capital to pass fiscal spending, this could lead to a surge in inflation should growth and inflation momentum sustain further gradual improvement – as we predict – while keeping central banks on the sidelines. Meanwhile, governments unleashing the “fiscal beast” could cause inflation to overshoot corresponding central bank targets. While DM central banks have expressed their willingness to accept higher inflation they will not stay inactive for long. The risk is that central banks get caught behind the curve, triggering a more aggressive monetary policy response.

“Trumponomics”, or “Collective Amnesia” ?

Our big bet in 2017 is that Trump as president will have only a marginal effect on the US or global reflation story. The build-up in equity valuations based on Trump suggests significantly aggressive expectations on Trump’s fictional policy. We remain perplexed by the complete lack of common sense in the markets’ analysis and how they have instead chosen to charge full steam ahead into the Trump pro-growth scenario. First of all, Trump has never held public office and has no policy experience, so extrapolating policy from a few, limited bullet points is an ineffectual exercise. Secondly, Trump’s scattershot remarks are inconsistent and often contradictory, suggesting the policy unpredictability to come. With their short-term memory, the markets have forgotten Trump’s volatility in the election cycle, not to mention a 40-year history of business failure. And Trump’s top appointees have less government experience than most administration members since the 1960s. And yet despite all this, the markets have


fully bought in to Trump’s fiscal stimulus and tax reform, owing in part to a Republican sweep of the Senate and Congress and the desire to quickly vote in a policy mix underpinned by the use of fiscal and structural stimulus to drive growth.

We highly doubt that a figure as divisive as Trump, who lost the popular vote and has the lowest opinion rating in the last 35 years, will find zero resistance to this radical and costly policy. The likelihood is that markets are misreading price action. When yields are pushed up by China selling US treasury, people stridently proclaim it as a sign of growth expectations. Yet breakevens are not pricing in the same excitement over inflation. When US stocks are bolstered by rising oil prices, people ascribe the trend to Trump’s pro-growth policy. Perhaps it’s only a reflection of the water and not Nessie. Without the Trump factor, the outlook for the US economy is solid enough, but no reason for the Fed to slam on the brakes, supporting a shallow and slow tightening cycle (two 25bp hikes).

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Political risk and anti-establishment movements

Heading into the New Year, the phrases “rise of populism” and “political event risk” are on everyone’s lips. And, naturally, Europe is set for a bevy of elections in 2017. Draghi must certainly be dreading December 31. After the surprise results of Brexit, the US presidential election and the Italian referendum, faith in traditional polling has disappeared, leading to extra uncertainty over political events. While countries each have their

own idiosyncratic differences, most of them remain positive about the relationship with the EU, despite the rise of Eurosceptic parties.

In France, Marine Le Pen’s National Front party will do well in the first round of the presidential election but is unlikely to score meaningful results in the second round as Alain Juppé’s Les Republicains party gleans votes from the Socialist party and the Left. The yield spread between French 10-year bonds and German bunds has fallen from the 32-month high reached in late November as market concerns over a nationwide populist wave have waned. Even after Berlin’s terrorist attacks, polls say that Angela Merkel’s CDU/CSU party has a strong lead, indicating another grand coalition. A similar trend can be seen around Europe, with anti-EMU parties including the AfD party in Germany, the Freedom party in the Netherlands and the Five Star Movement in Italy garnering more headlines then actual votes. We believe elections in Europe will have a small effect on asset prices despite generating substantial buzz.

Protectionism and the ascension of China

Two key trends are likely to collide with unintended consequences in 2017. First, anti-trade rhetoric and the introduction of protectionist measures are surging. According to the World Trade Organization, the introduction of protectionist trade measures is proceeding at its quickest pace since 2008. This has led to five consecutive years of slowdown in global trade, resulting in sub-optimal global growth. Second, the rise of populist-leaning political behavior generally makes a scapegoat out of international trade. As US president, Trump is likely to take protectionism to heady levels. On the campaign trail, he famously swore to tear up the NAFTA, TPP and TTIP trade agreements, threatening to turn inwards. His creation of a National Trade Council led by Peter Navarro, a known critic of China, indicates that hardline trade policy specifically focused on China was not just electioneering banter.

While details of the US-China trade confrontation remain vague, what has become clear are China’s efforts to endear itself to regional trade partners. President Obama’s “pivot to Asia” was purely military and diplomatic, and Trump is unlikely to provide a trade-related helping hand to regional allies. China has been quick to swoop and fill the void left by US uncertainty. China’s international trade diplomacy


is becoming increasingly proactive in its pursuit of regional agreements that come with direct investment and diplomatic outreach via the One Belt, One Road initiative. Judging from reactions, the efforts have been significantly positive.

The China-led Regional Comprehensive Economic Partnership (RCEP) is viewed as an opportunity to revive Asian trade organization as the demise of the TTP is imminent. Unlike the TTP, which was global and excluded China, the RCEP is based purely on regional economic integration and trade liberalization, which will serve to rejuvenate economic development and strengthen regional cooperation. We believe that while DMs will focus on the domestic economic situation in China, this last will use regional trade fears over US political uncertainty to cement its grip over Asia. An above-growth-trend Asia will increasingly decouple from DMs, providing strategic equity investment opportunities. Strong USD and weaker regional currencies will support corporate earnings alongside a reflationary shift.

China from an economic standpoint

We are slightly more positive on China than the markets, with expectations that the economy will expand 6.6% in 2017. Monetary policy has become less accommodating to cool the real estate market, which had been lingering in bubble territory. However, continued infrastructure stimulus and an improving global economic backdrop will offset any domestic slowdown. In addition, improved regional relationships will bolster exports. China’s reflation situation will remain benign, with headline CPI expected at 2.0% as aggregated demand slows. The PBoC will halt interest rate cuts in 2017, shifting its focus to interbank liquidity and credit to manage rising housing-market fears and discourage RMB outflows. With a less accommodating monetary policy, further fiscal stimulus will be harnessed to make up for weaker growth. Yet the risk remains that overzealous tightening could have severe negative ramifications for the housing market and domestic debt, with the USD-CNY policy divergence between the USA and China along with lower expected investment returns set to generate further outflows. We expect the pace of CNY depreciation to slow, mainly due to the PBoC’s appreciation of “optics” rather than capital outflows. This focus will also relate to growth if the government pledges to keep GDP above 6.5% at next year’s National Party Congress and if a new Politburo Standing Committee were to

be formed. We anticipate further management of short-term interest rates to discourage a mass exodus. The risk to our “stable China” theme is clearly President Trump, with a dash of broader protectionist behavior. Judging from Trump’s Twitter account, China remains on his radar. We remain skeptical about Trump’s ability to deliver on many of his pledges concerning China (45% tariffs, labeling China as a currency manipulator), but trade is one of the few areas where action can be taken without congressional backing. Given current tensions, a full-blow trade war is only a late-night tweet away.

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Oil still suffering from oversupply

The slow rebalancing of commodities will delay further price appreciation. The improved global economic environment has reduced the oil supply glut, keeping prices depressed, yet the fundamental rebalancing of oil continues to underpin the market forecast. The efforts of refiners to exploit cheap prices have restricted renewed demand while the fixing of production disruptions has put additional supply back online. With plenty of excess capacity from dormant rigs, non-OPEC supply, incentivized investment and shale alternatives (which have renewed production as prices have inched higher), supply overhand will continue to keep prices depressed. We anticipate only a marginally higher crude price in the $50-60 range. We see limited risk to our downside forecast, but a coordinated OPEC does pose an upside risk. The production agreement between OPEC countries and non-OPEC countries together with verbal intervention has boosted prices while shifting sentiment. Markets are now closely


scrutinizing deal specifics and execution. There has already been a pushback by Nigeria and Libya, while Russia and Mexico are donating supply cuts based on naturally occurring production decreases. There is significant skepticism on this desk and within the market as to OPEC’s ability to deliver productions cuts that meaningfully affect long-term prices. Sustainable rebalancing will require more substantial production cuts to below the ceiling of 32.5m barrels. The risk is that an erosion in OPEC credibility and investor disappointment will weigh on prices.

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Key trading themes

ReflationEven with our below-market expectation for the pace of inflation, reflation trade will continue to affect a broad spectrum of fixed-income assets. In the US and Europe, inflation-linked bonds and floating rates are still underpricing in most expectations for the pace of inflation. The US treasury curve will continue to steepen as macro fundamentals improve and potentially accelerate should Trump introduce his expansionary fiscal regime. Our view of a less aggressive Fed policy path should encourage corporate earnings and limited defaults, making corporate debt more appealing than sovereign rates.

Stronger growth trend in equitiesThe reflationary theme also stands to benefit US and Asian equities, where growth dynamics should encourage corporate earnings. DM corporate earnings are expected to rise 6% on sustained easy monetary policy and fiscal stimulus. While on a relative basis European equities look more

attractive than US, the moderate growth outlook and political uncertainty will keep investors in the US. Stronger growth momentum in Asia, a strong USD and increased regional inter-dependence boost the appeal of equities. With Japan and China both expected to shift toward fiscal expansion, leading the reflation experiment, Asian equities should be a primary beneficiary of the trend. Prime Minister Abe will make further progress in combining monetary policy with fiscal expansion while the strong USD will have a positive effect on earnings for Japanese stocks. Regardless of the effectiveness of Trump’s policy, we believe that the US will become more focused on domestic matters, allowing Asia to tighten regional economic and political interconnectivity.

The post-election rally is making valuation feel stretched with P/E ratio on S&P 500 at its highest since the dotcom bubble. Yet, corporate earnings growth is forecasted over 10% so there is still further upside potential. Stabilization in growth, an improvement in oil prices and most critically, a continued accommodating monetary policy will be the core drivers. Should Trump find even marginal success, fiscal stimulus, lower corporate taxes and a confident US consumer should push the current bullish rally. Concerning sectors, weaker regulations and idiosyncratic conditions in financials, energy and healthcare should outperform.

A sweet spot for high-yield creditGlobal yields have rallied, allowing investors to find value with less risk. The net result has been the steady rotation into higher-grade short-term DM paper, narrowing the differential between DMs and EMs and making the carry trade less attractive. Pockets of value remain in US, European and select EM credit as the spread is not wide enough to end all yield-seeking behavior. Despite FX risks, the conditions are appropriate for a selective EM approach. We also believe that growth – particularly in the Ems – will lower default risk, making the broadening of income sources an important tactical strategy.

A rainbow-shaped USD curve and tactical FX strategiesBuy USD was the dominate trade in 2016 as expectations for Fed interest rate normalization drove expectations while event risk supported the USD in periods when US data looked soft (i.e., the start of 2016). In 2017, a further period of policy divergence in central bank policies, exacerbated by “Trumponomics” aimed at accelerating economic growth, should keep traders on the dollar. As


the USD nears a 14 year high, we suspect that we are close to exhaustion given current themes. However, our contrarian view expects Trump reflation to underwhelm and US cyclical weakness to decelerate the Fed’s path to normalization. The opportunities will come in volatility generated from disappointment. It will take a long while for a bullish USA to give up this Trump reflation trade. Surges in EM volatility on expected taper tantrum will provide tactical asset allocation opportunities. In the G10, as the USA struggles to meet the requirements for three hikes, the ECB, BoE, Riksbank and BoJ will be slowly shifting towards tighter policy, allowing for currency gains in H2 2017.

We are particularly focused on EM currencies and with global interests still at historically low levels, the search for yields will continue. Higher yielding EM currencies with low correlations to US political uncertainty (i.e. distanced from Trump’s Twitter feed rant) will continue to appreciate. HUF, PLN, INR and MYR are all exhibiting a low correlation to US political risk. However, CNY and MXN will continue to bear the brunt of Trump’s nascent policies (MXN is particularly exposed on two fronts: trade & immigration).

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Sell the hypeDespite the return of volatility to normal, pre-election levels, the attention of the markets is firmly set on detecting the next tail event. Yet tails should only occur in line with orderly scheduled events such as political elections. We view this thinking as a failure to understand historical patterns and as embracing the lazy analytical trend in financial markets. There is a growing risk of policy mistakes, high debt exposure in EM nations and geopolitical

risk (i.e. protectionism), but nothing with a date on it. Broad asset diversification will lower correlation risk during potential spikes in volatility.

In this environment, rogue, yet unjustifiable, volatility will define the year. However, because we expect hype to outsell real changes, we would sell the tails. Mean reversion strategies aimed at taking advanced market hysteria and hedging strategies to protect portfolios will become extremely important to the protection of investors’ assets. Gold can also be used to smooth periods of market stress with the additional benefit of limited inflation protection.

USA – All about Trump

GrowthThe leading economic data suggest that the lagging data having generated so much expansion optimism have peaked. While the US economy continues to perform well, the acceleration is slowing. The primary question is what effect President Trump will have on the economy in a cyclical downturn. The markets are wagering that Trump will move quickly on January 20 to provide a boost in fiscal stimulus, comprehensive tax reform and trade policy. With a unified Republican Congress, knocked off balance by the unexpected rise of Trump and fast-track trade authority, the new president is unlikely to face a serious challenge on policy.

As suggested earlier, we remain skeptical of this narrative and believe Trump’s lack of policy vision will hinder its successful completion. While infrastructure spending and tax reform will have a pro-growth effect, the impact of the trade platform is more uncertain. Tax reform, which has bipartisan support, will likely provide the strongest impact. Trump is unlikely to be able to build comprehensive tax reform. We anticipate a corporate tax rate of 20% at the lowest, and not the 15% pledged. Regarding trade, we could see a blind punitive tariff, as threatened by Trump on the campaign trail, rather than the destination-based cash flow tax that forms the bedrock of Paul Ryan’s tax plan. Uncertainties generated by trade policy will offset advantages gained in other areas.

We do not expect the unemployment rate to fall much further, owing to the overhang in the participation rate. In the current environment, jobs are expected to be low-skilled and easily accessible to most people. This should boost interest in reentering the workforce rather than tightening capacity. These


pressures on personal income will stagnate and are unlikely to translate into freewheeling consumer spending. In addition, policy uncertainty from the White House will not only affect business investment but also consumer sentiment, which is currently at a high level. The lack of wage inflation will keep the Fed on the sidelines.

InflationA marginally higher pace is expected for headline and core inflation. Stronger growth and inflation expectations will place upwards pressure on inflation, however, and subdued energy prices, a pause in wage inflation and a strong USD will weigh on prices. Core PCE is unlikely to push above 2.0% unless our view on Trump proves to be incorrect.

Monetary PolicyLike ourselves, the Fed has not priced in the impact of Trump policy, instead taking a wait-and-see approach. Late-cycle stimulus generally has a watered-down effect on activity, so a magical acceleration in growth appears unlikely. As such, rather than attempting to get ahead of the curve, the Fed will likely wait until policy translate into data. With low unemployment and tightened capacity, the PCE heading toward a 2% threshold and GDP grinding higher, the Fed will make two rate hikes in 2017 (rather than the predicted 3 hikes) and three in 2018. There is the risk that a faster pace of hikes aimed at slowing the economy might cause President Trump to move on the Fed’s independence.

XFactorThe strong USD could hinder everyone’s plans. The currency has increased around 4% since the US election, cutting $75bn off GDP. Estimates are that the US loses approximately 5,300 jobs for every $1bn added to the trade gap. Manufacturing jobs are especially at risk as a stronger dollar makes US goods less competitive in global markets. Trump’s strategies on economic reflation and tax reform to stimulate manufacturing together with Fed hikes will likely exacerbate the strong USD trend. An overvalued USD will derail the US economic recovery.

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Europe – Political uncertainty to cloud economic improvements

GrowthThe European economic outlook continues to trend positively. Domestic demand led by consumer spending will likely drive growth forward. Despite excessive concerns, Brexit has not materially affected growth in the euro zone owing to the ECB’s expansionary monetary policy, looser fiscal constraints and the improving international backdrop. This trend should continue in 2017, pushing GDP growth up 1.5%. However, there are material risks of a “demand shock”, which could quickly disrupt our optimistic forecast. The Italian banking sector continue to undermine investor confidence by drilling down directly into flaws in the EU experiment. With public debt at 133%, an approved bailout package of €20bn and €350bn in non-performing loans, the number simply fail to add up. The form to be tak en by Brexit remains an unknown, while a busy election calendar and the corresponding rise of populist parties look set to generate stress in the financial markets.

InflationA steady improvement in the growth outlook, higher energy prices and a meaningful base effect will push headline inflation higher. Headline inflation is expected to climb to 1.3% and core inflation is likely to move up to 1.2%. The persistently high unemployment rate will limit gains in wage inflation.


Monetary PolicyThe ECB will further improve its outlook on continued economic recovery, paving the way for additional tapering. This will happen sooner than markets anticipate. After an unexpectedly hawkish ECB extended the asset purchase program in December – though on a reduced scale – the central bank will provide a more balanced tone in 2017. Barring a “shock”, it will gradually normalize policy rather than following guidance toward deeper native interest rates. Draghi will maintain his flexibility at each meeting but quietly head toward winding down QE, with the ECB focusing more on managing event risk, such as elections, than on mini-managing the economy. The bank will further tighten policy in Q4 2017 by all but phasing out QE purchases.

XFactorOf the plethora of risks facing the EU, political risk is the one that policymakers can protect against the least. The UK referendum and US elections highlighted the uncertainties stemming from dissatisfaction among voters, and uncertainties are even stronger concerning the upcoming elections in France, Germany and the Netherlands. We are not predicting another exit but it cannot be ruled out. Markets are currently not pricing in any extreme disturbance in the EU. While the populist movement in the US is likely to result in higher growth in Europe, political turmoil is liable to end in recession. Our base scenario is that, despite the hype, the status quo will prevail. In the end, positive feeling about the EU, fear of the unknown, general economic improvement and some well-placed fiscal spending will keep voters placated for now.

UK – Heading toward “Brexit-lite”

GrowthFears of a Brexit-induced economic collapse have clearly not materialized. Looser monetary policy, fiscal spending and sterling devaluation have insulated growth. The consequences of the weak GBP can be seen across the economy from consumer spending to manufacturing. Yet uncertainty in a post-referendum world will likely damage business investment and domestic demand.

InflationA weaker GBP, higher energy costs and mild growth will keep pressure on inflation. It is highly likely that CPI inflation will rise above the BoE target of 2.0% in 2017.

Monetary PolicyThe BoE focus will be squarely on managing a Brexit-related slowdown. The BoE will likely discount a forex-driven inflation overshoot should growth decelerate. Fiscal policy will provide further protection and keep the BoE on the sidelines. We do not expect the BoE Monetary Policy Committee to introduce any further rate cuts or launch additional QE, unless Brexit suddenly threatens to weaken the economy.

XFactorThe UK as a whole will be dominated by Brexit negotiations. Trade will suffer random spikes in volatility based on all things Brexit-related, while the future of the UK-EU relationship is anyone’s guess right now. The UK government is paying increasing attention to avoiding a sudden break, suggesting a “Brexit-lite”. In the most recent development, Prime Minister May agreed to publish her negotiation strategy and allow MPs to vote on the final exit agreement. Given these concessions, a “hard Brexit” looks less likely. In addition, the UK Supreme Court has asked the ECJ to rule on whether Article 50 is “irrevocable” and explore whether a more flexible interpretation of Article 127 is possible, thereby enabling the UK to leave the EU without automatically losing access to the single market. The markets fear of Brexit will be expressed through the GBP, reducing the risk premium significantly. Our base scenario is that the increased likelihood of a “soft Brexit” will result in GBP appreciation.

Switzerland – Watching neighbors cautiously GrowthDespite the unexpected economic stagnation, preliminary indicators are pointing to a renewed pickup in 2017, with positive developments in the global economy expected to provide momentum for the Swiss economy. Our expectations are for real GDP to come in at 1.6% for 2017. The KOF economic barometer now exceeds the long-term average, suggesting a resumption of economic growth. Domestic demand continues to weigh on growth but consumer sentiment has improved. Strong economic recovery will support job growth and a decline in the unemployment rate to 3.2% in 2017. Steady recovery in labor markets and a slight uptick in real wage growth should boost the purchasing power of households. So as a whole the Swiss economy is in good health, but the overvalued CHF continues to disrupt our positive outlook.


InflationA sizeable base effect and economic recovery has pushed headline inflation higher. We expect CPI inflation to break out of deflationary territory, rising 0.3% in 2017. However, the disinflationary influence of imported goods, due to a strong CHF, continues to keep the lid on any strong growth-driven impulse. The rebound in oil prices should serve to alleviate fears of a deflationary spiral, but shifting consumer-spending behavior continues to be a cause for concern. Domestically speaking, nominal wage development will be critical in price dynamics – though as a small open Alpine nation, external events will override internal improvements.

Monetary PolicyThe Swiss National Bank is pretty much where it has been for the last few years: stuck between a healthy domestic economy and an overvalued currency that continues to import disinflationary pressures and the external risk environment. For another year the SNB will stay reactive to developments outside of its control. Barring any shocks across the border, the SNB will remain on the sidelines in 2017. It has lowered its 2017 inflation forecast, yet strong growth and higher oil prices indicate an upward swing in inflation risk and suggest the acceptance of greater flexibility in the EUR-CHF exchange rate. Given the recent change in wording at the quarterly monetary assessment, ongoing FX interventions will be limited to smoothing EUR-CHF volatility as FX reserves exceed 100% of annual GDP (FX reserves increased by CHF17.5bn in November, the largest monthly increase since January 15).

In theory, unlimited intervention is possible, or even a framework for forecasting a threshold for balance sheet expansion, but fiscal risk is a growing concern for the SNB and the public sector. Even today’s more diversified balance sheet, comprised 69% of government bonds (most of them euro-denominated), 20% of stocks and 11% of other bonds, still carries significant risk. Even a “soft floor” lacks credibility due to the expanded balance sheet and historical track record. The SNB could possibly lessen the stress on the balance sheet by further lowering interest rates. But a more negative 3-month Libor target range is unlikely owing to limited effectiveness in encouraging foreign deposit base outflows (as interest rate differentials are insufficient to encourage CHF liquidation) and to pressures on Swiss banks, savers and pension funds. Only in the unlikely event of a further ECB 10bp rate cut would we expect the SNB to follow, hesitantly, with a 15-20bp cut of its own. Moving forward, FX

intervention will remain the primary tool of monetary policy, but with decreasing conviction.

XFactorCurrency pricing will continue to dominate the outlook for Switzerland. Given the uncertain external outlook, and in particular European event risks, steady safe-haven flows will drive CHF demand. However, CHF has fallen out of favor with international investors seeking a safe haven although it remains attractive during periods of European stress. Past policy-driven intervention with a soft floor around 1.08 will give way to steady CHF appreciation. Risk aversion – the primary driver of CHF, specifically in the euro zone – will support CHF demand. Managing CHF strength has become a laborious exercise as Switzerland’s significant current account surplus at this point is nearly entirely sterilized by FX intervention. The increased balance sheet is constraining extensive FX intervention, pointing to a potential FX regime change. In addition, the US treasury has added Switzerland to its watch list of potential FX manipulators. With a protectionist US administration set to take power, the prospect of large scale SNB FX intervention is less likely. Should European political risk intensify and/or Italian-derived stress in financial markets increase, the SNB will have no real option but to stand by and watch CHF appreciation potential derail the economic improvement.

0

0.5

1

1.5

2

2.5

01.01.14

01.06.14

01.11.14

01.04.15

01.09.15

01.02.16

01.07.16

01.12.16

TighterspreadisnolongerdissuadinginvestorsfromholdingCHF

EUR - CHF 3 month yield spread

Source: Swissquote Bank, Bloomberg Macro Forecasts


Macro Forecasts

Gloabl - G10 2016 2017 2018

US

Real GDP (y/y %) 1.6 2.2 2.3

CPI (y/y %) 1.3 2.3 2.4

Policy Rate 0.75 1.5 2.25

Euro Area

Real GDP (y/y %) 1.6 1.4 1.5

CPI (y/y %) 0.2 1.3 1.5

Policy Rate -0.4 -0.4 -0.2

Japan

Real GDP (y/y %) 0.9 1 0.9

CPI (y/y %) -0.2 0.6 1

Policy Rate -0.1 -0.1 0.1

UK

Real GDP (y/y %) 2 1.2 1.3

CPI (y/y %) 0.6 2.4 2.5

Policy Rate 0.25 0.25 0.25

Switzerland

Real GDP (y/y %) 1.5 1.5 1.6

CPI (y/y %) -0.4 0.3 0.7

Policy Rate -0.75 -0.75 -0.75

Sweden

Real GDP (y/y %) 3.1 2.2 2.3

CPI (y/y %) 0.9 1.5 1.9

Policy Rate -0.5 -0.45 -0.25

Canada

Real GDP (y/y %) 1.3 1.8 1.8

CPI (y/y %) 1.5 1.9 1.9

Policy Rate 0.5 0.5 1

Norway

Real GDP (y/y %) 0.8 1.6 1.9

CPI (y/y %) 3.6 2.5 2.1


Australia

Real GDP (y/y %) 2.4 2.6 2.7

CPI (y/y %) 1.3 2 2.2


New Zealand

Real GDP (y/y %) 3.4 3 2.6

CPI (y/y %) 0.6 1.7 1.9

Policy Rate 1.75 1.75 2

Emerging Markets - AXJ 2016 2017 2018

China

Real GDP (y/y %) 6.7 6.4 6.1

CPI (y/y %) 2 2.2 2.1


Hong Kong

Real GDP (y/y %) 1.7 2 2.4

CPI (y/y %) 2.5 2.6 2.5

Policy Rate 1 1.5 2

India

Real GDP (y/y %) 7.6 6.9 7.5

CPI (y/y %) 5 4.8 4.5


South Korea

Real GDP (y/y %) 2.8 2.6 2.5

CPI (y/y %) 1.3 1.8 1.7

Policy Rate 1.25 1 1


SingapoureReal GDP (y/y %) 1.8 1.7 1.8

CPI (y/y %) -0.5 0.8 0.5

Indonesia

Real GDP (y/y %) 5 5.3 5.5

CPI (y/y %) 3.5 4.2 4.4

Policy Rate 4.75 5.25 5.25

Malaysia

Real GDP (y/y %) 4.1 4.3 4.4

CPI (y/y %) 2.1 2.7 2.5

Policy Rate 3 3 3

Philippines

Real GDP (y/y %) 6.9 6.3 6.5

CPI (y/y %) 1.8 2.9 3

Policy Rate 3 3.25 3.5

Emerging Markets - CEEMEA 2016 2017 2018

Russia

Real GDP (y/y %) -0.5 1.1 1.5

CPI (y/y %) 7.1 5 4.4

Policy Rate 10 10 9.5

Poland

Real GDP (y/y %) 2.7 3.1 3.2

CPI (y/y %) 0.6 1.5 1.9


Czech Republic

Real GDP (y/y %) 2.5 2.5 2.6

CPI (y/y %) 0.6 1.8 2

Policy Rate 0.05 0.01 -0.1

Hungary

Real GDP (y/y %) 2 2.6 2.7

CPI (y/y %) 0.4 2 2.7


Turkey

Real GDP (y/y %) 2.6 3 3.5

CPI (y/y %) 7.8 8.4 8.2


Israel

Real GDP (y/y %) 3.3 3.1 3.4

CPI (y/y %) -0.3 0.6 1.6


South Africas

Real GDP (y/y %) 0.5 14 2.7

CPI (y/y %) 6.3 5.7 4.4


Emerging Markets - LatAm 2016 2017 2018

Brazil

Real GDP (y/y %) -3.4 0.5 2.5

CPI (y/y %) 8.8 5.1 4.7

Policy Rate 13.75 12.75 10.75

Mexico

Real GDP (y/y %) 2.1 1.7 2.2

CPI (y/y %) 2.8 3.9 3.5


Macro Forecasts



Global Currency Forecasts

G-10 Currencies vs. the U.S. Dollar Q1 17 Q2 17 Q3 17 Q4 17

Euro EURUSD 1.06 1.12 1.18 1.16

Japanese Yen USDJPY 114.00 110.00 105.00 100.00

British Pound GBPUSD 1.20 1.26 1.30 1.32

Swiss Franc USDCHF 1.02 1.04 1.06 1.08

Canadian Dollar USDCAD 1.37 1.45 1.40 1.35

Australian Dollar AUDUSD 0.72 0.76 0.80 0.82

New Zealand Dollar NZDUSD 0.69 0.72 0.76 0.78

Danish Krone USDDKK 7.02 7.00 6.90 6.80

Norwegian Krone USDNOK 8.60 8.20 8.10 8.00

Swedish Krona USDSEK 9.02 8.70 8.50 8.40

G-10 Currencies vs. the Euro Q1 17 Q2 17 Q3 17 Q4 17

Japanese Yen EURJPY 120.84 123.20 123.90 116.00

British Pound EURGBP 0.88 0.89 0.91 0.88

Swiss Franc EURCHF 1.08 1.16 1.25 1.25

Danish Krone EURDKK 7.44 7.84 8.14 7.89

Norwegian Krone EURNOK 9.12 9.18 9.56 9.28

Swedish Krona EURSEK 9.56 9.74 10.03 9.74

EMEA Currencies vs. the U.S. Dollar Q1 17 Q2 17 Q3 17 Q4 17

Hungarian Forint USDHUF 318.00 310.00 300.00 298.00

Icelandic Krona USDISK 116.00 115.00 112.00 110.00

Polish Zloty USDPLN 4.30 4.20 4.15 4.12

Russian Ruble USDRUB 66.00 64.00 62.00 58.00

Russian Ruble Basket RUBBASK 66.00 64.00 62.00 59.00

Turkish Lira USDTRY 3.40 3.50 3.40 3.35

Israeli Shekel USDILS 3.85 3.80 3.75 3.70

South African Rand USDZAR 15.25 15.00 14.80 14.70

Asian Currencies vs. the U.S. Dollar Q1 17 Q2 17 Q3 17 Q4 17

Chinese Renminbi USDCNY 6.80 6.70 6.60 6.55

Hong Kong Dollar USDHKD 7.76 7.76 7.76 7.76

Indian Rupee USDINR 68.00 67.00 66.00 65.00

Philippines Peso USDPHP 50.00 52.00 50.00 48.00

Singapore Dollar USDSGD 1.48 1.44 1.42 1.45

South Korean Won USDKRW 1230.00 1210.00 1170.00 1155.00

Taiwanese Dollar USDTWD 32.60 32.80 32.50 32.00

Thai Baht USDTHB 36.00 35.50 35.00 34.50

Viet Nam Dong USDVND 22800 22500 22450 22200

Latin American Currencies vs. U.S. Dollar Q1 17 Q2 17 Q3 17 Q4 17

Brazilian Real USDBRL 3.44 3.40 3.35 3.30

Mexican Peso USDMXN 21.00 18.00 17.00 16.00



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