Getting Late, but Still Time for a Drink ...

One of the most widely discussed themes in the plethora of “2015 outlooks” that have passed my desk is where we are in the cycle. In itself, the question yields a number of important limitations on the level of insight [1], but it is a logical narrative to impose on the current market environment. The financial crisis is a distant, but still-potent memory, and the sovereign debt crisis in the Eurozone has been put on hold, but still has the potential to wreck the “timeline” for most investors if it were to rear its ugly head next year. 

Without getting into too much detail, the vast majority of big sell-side research house focus on two overall themes. Firstly, we are currently mid to late in the cycle and a constructive stance on the economy and risk premiums/assets. This view varies from very bullish versions (JPM and DB) to more cautious stories (MS). Secondly, the cyclical divergence which has characterised asset prices and monetary policy this year is in its infancy and will remain a key theme next year. A continuation of the bull market in the dollar, strong global excess liquidity are but some of the obvious themes that can be derived from this view. 

My view in the nutshell is currently close to the consensus perception of global cyclical divergence and mid-to-late cycle dynamics in the OECD, which is slightly uncomfortable but I can’t really force myself to deviate too much from it. Risks around such a relatively benign call are well-known; a revival of the Eurozone debt crisis, an accident in China, a panicking Fed crashing the US economy, a severe crisis in one or more of the most vulnerable EMs. But all of these have been covered, debated and perused to almost desperation. As a betting man, I would still put my money on a crisis in non-financial corporate debt markets as the next big crash that pushes the global economy into recession. It will probably be a confluence of EM corporate USD debt and corporates in the U.S./U.K. But the dollar probably has to rise longer and harder as well as the Fed probably needs to start inching up rates before the reality dawns on this sector. I reiterate that the increasing stress in the US high yield energy sector is an important, if also by now widely recognized, threat to watch next year. 

The alternative global panic scenario is really the one that is almost too painful to contemplate. A failure of Abenomics and a loss of faith in one of the major OECD bond markets which pushes up yields faster and more violently than central banks can and will act (or perhas a loss in confidence of central banks themselves). It could happen, but no need to go to work every day expecting to be run over by a bus. We kind of know how this will look too, and any signs of Tapering Tantrum price action in the U.S., the U.K, the Eurozone or Japan would force me to hit the bunker quickly. 

Meanwhile, it is getting late, but keep dancing. You still have time for a drink before the bar closes.

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[1] – Asset price and economic cycles vary greatly across countries and markets and may even have seen a structural break since the crisis. I.e. the lenghth of the current cycle is an endongenous variable determined largely by the way you interpret the impact of the financial crisis and its long-run aftermath. Secular stagnation, full recovery etc.