Mike Pyle, Global Chief Investment Strategist together with Elga bartsch, Head of Macro Research, Kurt Reiman, Senior Strategist for North America and Tara Sharma, Member of the Macro Research Team, all part of the BlackRock Investment Institute, share their insights on global economy, markets and geopolitics. Their views are theirs alone and are not intended to be construed as investment advice.
Polls are suggesting a greater likelihood of a Democratic sweep in this week’s U.S. election. We are starting to incorporate themes we believe would outperform in that event, moving toward a more pro-risk stance overall despite last week’s market pullback. We debut an overweight in the U.S. size style factor, and upgrade broad emerging market (EM) and Asia ex-Japan equities to overweight.
Sources: BlackRock Investment Institute and MSCI, data as of Sept. 30, 2020. Notes: The bars show the weights of sectors on the MSCI USA Low Size Index minus those on the parent MSCI USA Index.
Large-cap technology stocks have driven U.S. equity market performance this year. We believe a repeat is unlikely in 2021, and see potential for smaller companies to outperform, especially in the case of a Democratic sweep that would result in significant fiscal stimulus. This electoral outcome also would likely lead to a new global minimum tax and more strenuous anti-trust review – which could weigh on large-cap tech and pharmaceutical companies. A boost in infrastructure spending could lend support to companies in industrials and materials – many of them small in size. We introduce an overweight in the size style factor in the U.S. market to capture our preference for smaller, high-growth companies. The chart above illustrates what underpins our view: The MSCI USA Low Size Index has a much higher share of industrials – and much lower exposure to information technology and communication services – than the parent MSCI USA Index. Meanwhile we downgrade minimum volatility to underweight, as we expect a cyclical upswing over the next six to 12 months – an environment where min vol typically lags in performance. This comes as U.S. earnings reports for the third quarter have beaten expectations.
We are also updating some of our regional equity market views. This includes upgrading broad EM equities to overweight. Positive spillovers to global growth from increased fiscal stimulus, more predictable U.S. trade and foreign policy and the prospect of a weaker dollar amid negative U.S. real rates in the event of a Democratic sweep would all bode well for EM assets, we believe. We also downgrade Japanese equities to underweight. That said, we are not outright negative on this market. We just expect Japanese stocks to benefit less than other Asian markets and EM in general from a recovery in global trade: A weaker dollar could send the Japanese yen up, putting pressure on the country’s export sector.
The evolving virus dynamics are another key factor. We are upgrading Asia ex-Japan equities and Asia fixed income to overweight, as China and other Asian economies have done a better job of containing Covid – and are further ahead in the economic restart. We expect this dynamic to continue over the months ahead. We are downgrading European equities to neutral. A resurgence in Covid cases has triggered lockdowns on local and national levels – albeit with more flexibility than earlier in the year – just as the economic restart shows signs of weakness. The renewed restrictions are already putting pressure on activity in the region. We still like euro area peripheral bonds due to the European Central Bank’s easing stance.
The bottom line: We are taking another step toward a pro-risk stance despite last week’s market pullback and the uncertainties just ahead. This follows our tactical move last week to downgrade U.S. Treasuries and upgrade their inflation-linked peers on a growing likelihood of significant fiscal expansion. A Democratic sweep outcome in the election would tip us to a more pro-risk stance overall, strengthening our conviction that a cyclical upswing will benefit risk assets over a 6-12 month horizon.
The key risk to our view: There is a material probability of an election outcome that would deliver much less fiscal stimulus. That’s why our moves to a pro-risk stance have been partial to date and granular in nature. There is also a chance of a contested election, but we believe there are mechanisms for resolving this. We prefer to look through any market volatility that a delayed result would likely bring and favor taking advantage of any selloffs in risk assets during this period of uncertainty to add to high-conviction positions. See our U.S. elections primer for key election scenarios and investment implications.
Market Updates
Past performance is not a reliable indicator of current or future results. It is not possible to invest directly in an index. Sources: BlackRock Investment Institute, with data from Refinitiv Datastream, October 2020. Notes: The two ends of the bars show the lowest and highest returns at any point this year to date, and the dots represent current year-to-date returns. Emerging market (EM), high yield and global corporate investment grade (IG) returns are denominated in U.S. dollars, and the rest in local currencies. Indexes or prices used are: spot gold, Datastream 10-year benchmark government bond (U.S. , German and Italy), MSCI USA Index, Bank of America Merrill Lynch Global Broad Corporate Index, MSCI Emerging Markets Index, J.P. Morgan EMBI index, Bank of America Merrill Lynch Global High Yield Index, the ICE U.S. Dollar Index (DXY), MSCI Europe Index and spot Brent crude.
Market backdrop
The current wave of Covid infections is still smaller than that of March and April, after adjusting for the increased testing capacity today. Yet an acceleration in hospitalization rates has triggered restrictions on local and national levels in Europe, though they are less stringent than during the initial wave. The economic restart has been quicker than expected, but the economic restart looks to face significant challenges in the near term. All eyes are on the U.S. election given the significant policy and market implications.
Week Ahead
- November 2nd: IHS Markit manufacturing purchasing managers’ index (PMI) for China (Caixin),Japan euro area, the U.S.
- November 3rd: U.S. election
- November 5th: Federal Open Market Committee meeting; Bank of England policy meeting
- November 6th: U.S. nonfarm payrolls
All eyes are on the U.S. election this week. Democratic nominee and former Vice President Joe Biden has held a steady lead in national polls over President Donald Trump, though in battleground states his lead is narrower. The outcome of the election will have significant implications for policies and markets.
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