Larry Summers: Rates will stay lower for longer than you think

Today's FT has an opinion piece of Lawrence Summers:

Real rates in the US will only increase mildly because of the following reasons:

1. Real rates are trending down for 20 years.
2. As rates rise in the US, foreign capital is attracted which will strenghten the dollar and in turn reduces demand for traded goods.
3. Low rates have already pulled demand forward, resulting in lower levels of demand for the future (e.g demand for cars).
4. Regularitory pressure is inhibiting lending to small and medium sized companies.
5. Inflation is getting more difficult to measure as services such as healthcare where quality is hard to measure
6. Most importantly is that global growth outlook is too weak for a rate hike of the usual 300 - 450 basis points. The markets expect a more realistic increase of 100 basis points.

Central bankers have less tools in their cupboard than they assume.

Investments and Demographics

BCA Research has published a special report about the economic implications of an aging global population:

• Global population growth has nearly halved over the past forty years and the labor force is expanding very slowly. 
• Health among the elderly in the OECD has been improving, but not quickly enough to compensate for the secular impact of aging.
• The reduced labor force participation rate among the 16-24 age cohort is reflective of deep social changes that won’t be easily reversed.
• A smaller potential workforce will not turnaround the slowdown in real wage growth because of technological destruction.
• An aging population and economic growth in the developing world will create an almost insatiable demand for health care services and products.
• Entitlement will increase as government revenues will be under pressure. Taxes have to rise.
• A more serviced based economy will have less need for energy.
• A smaller workforce means also a slower growing economy, as Japan is already experiencing.

BCA November Forecast

Latest Forecast from BCA:

• The monetary tailwind for global equity prices is strengthening, but the earnings support is weakening.
• It might be necessary to inject more fiscal policy into the mix to rekindle activity.
• Learned behaviors are still supportive of risk assets and more QE in Europe/Japan can be expected.
• Even if the Fed does raise rates in December we doubt more than one or two more will be in the cards.
• Stay neutral on equities, but position defensively and remain long duration in the bond markets.

BCA September Global Market Outlook

Keypoints of BCA Research's latest Report:

• Markets are expecting too much of policymakers who are behind the curve.
• The Fed is unlikely to raise rates in September, given the recent market volatility.
• This is not just a repeat of the 2013 taper tantrum as it reflects very real concerns about global growth.
• Stay neutral on equities, overweight in Japan and Europe and underweight in the emerging markets.
• Further fiscal ease in China and additional exchange rate depreciation would be a game changer for both the emerging market and global view.
• A non-technical recovery, driven by improved perceptions of global growth, could produce a sustainable recovery in high-beta sectors such as Energy, Materials and Industrials.

Outlook Q3 2015 (BCA)

BCA Research has hosted yesterday a webcast and focused on two hot spots of the global economy:

• China: The meltdown of equity prices in the past weeks was dramatic, but stabilized in the last few days and, the market is still up 44% year to date.
  
  Shenzhen Stock Exchange A Shares (ThomsonReuters)
  
  Only a small percentage of the population is invested in the stock market, so the influence on the real economy will be negligible. However, the economy is slowing down because of sinking exports, which is bad for commodity and energy exporters elsewhere. Moreover, commodity exporters are suffering from increased production capacity globally. Thus, stay underweight emerging markets, commodity/energy producers, and other importers to China.
• Greece / Europe: The impact of the Greek economy is of no importance to Europe and much less globally. The real question is: Is Greece an outlier or an omen for bigger problems in the Euro area. So far facts are inconclusive: On the one hand, only Greece suffered a depression and a contraction of nominal GDP of 25% in the last 5 years, which could lead to the conclusion that the tragedy in Greece is an exemption in Europe. On the other hand, one could argue that the high debt in Italy will depress Italy's future growth, because of the austerity measures that will be implemented to bring down debt. With Italy's size this would pose an existential threat to the Euro.

Implication for Asset Allocation:
Small overweight of stocks relative to bonds, and favor developed markets over emerging markets. US equties are expensive relative to European and Japanese stocks. Although Japanese stocks profited from the yen devaluation, the are heavily exposed to China. Furthermore, stay overweight defensives vs. cyclicals because global growth is slowing.

BCA Research on Greece

Marko Papic of BCA Research has sent out today a short report about implications of the greek crisis:

• Greece can  cause a correction in the context of high valuations (in the US) and upcoming Fed tightening.
• Things that went wrong this weekend in Greece? Policymakers are playing a “two-level” game, with domestic politics influencing international bargaining. As with previous euro area crises, market and socio-political turbulence is required to get policymakers to overcome domestic opposition.
• There is no timeline for future events. The key date going forward is the €3.5 billion redemption Greece owes to the ECB on July 20. That is it.
• The ECB will pull the plug on Greece:if the July 20 payment it is owed is not fulfilled.
• The upcoming referendum is not a vote on euro area membership: The referendum is important, but a ‘No’ vote does not preclude an agreement. Athens has two weeks between the July 5 referendum and the July 20 ECB redemption to get a deal. In fact, the odds are in favor of a ‘Yes’ vote.
• Greece would exit the euro area by printing drachmas.
• ‘Grexit’ could not produce substantive contagion beyond sentiment. It is a source of volatility in the short term, but a buying opportunity for European peripheral equities in the long term.
• Greece woud not be better outside the euro area.
• Geopolitical you Ramifications of the crisis: Positive for European integration, negative for Greece, and neutral for Russia.
• Investors should  prepare for short-term volatility, and look for long-term opportunities