This is an excerpt from our August 9, 2022 Morning Briefing.
Our basic premise about the outlook for the global economy through the end of 2023 is that a recession is more likely to occur in Europe and China than in the US. Of course, a global recession that starts abroad could push the US economy into a recession if it is already vulnerable to one. On the other hand, global investors might conclude that the US is the only major safe harbor from storms blowing around the world. If so, then their capital inflows could help to insulate the US economy from a global recession.
Granted, that would be an unusual development since economic booms and busts around the world tend to be synchronized ones. However, the US could buck a global recessionary cycle if enough global investors embrace our "TINAC" thesis–i.e., "there is no alternative country." Melissa, Jackie, and I believe that TINAC has already been in play so far this year given the strength of the dollar and solid net capital inflows. If TINAC continues to insulate the US from the troubles of the rest of the world, then our "Stay Home" investment strategy should continue to outperform the "Go Global" alternative, as it has since 2009.
Consider the following big picture:
(1) Leading and coincident indicators. This morning, the OECD will release its July leading indicators for its 36 member countries, which tend to have developed economies, along with a few for the big emerging market economies (EMEs) that aren't OECD members. The series starts in mid-1961.
June data show that the overall index fell from a recent peak of 101.0 in July 2021 to 99.5, the lowest reading since December 2020 (Fig. 1). Dominating the index are the US (99.4), Europe (99.3), and Japan (100.6) (Fig. 2). Generally, the business cycles of these major economies tend to be synchronized, but there have been times when one of the three major economies outperformed or underperformed the other two.
Similar synchronization can be seen among the major and minor European economies (Fig. 3 and Fig. 4). They all have been rolling over during the first six months of this year, with OECD leading indicator index readings either close to 100 or slightly below it. Both Australia (98.3) and Canada (99.6) are also rolling over (Fig. 5). And the same can be said of the BICs: Brazil (98.1), India (100.1), and China (98.3) (Fig. 6). (The BICs are not members of the OECD.)
The bottom line of the OECD data is that the global economy has been weakening during the first six months of this year but hasn't fallen into a recession so far. Neither the US nor any other major OECD economy stands out from the pack as a leader or a laggard.
(2) Global PMIs. We have access to the JP Morgan global purchasing managers indexes (PMIs) since January 2018 through July of this year (Fig. 7 and Fig. 8). Not surprisingly, the global composite PMI is highly correlated with the OECD's leading indicator. This global C-PMI has been falling in a sawtooth pattern from a high of 58.5 during May 2021 to 50.8 during July, the lowest since June 2020. So it too is signaling a global slowdown rather than a recession.
The global manufacturing PMI fell to 51.1 in July from 54.3 at the start of the year. The global nonmanufacturing PMI fell to 51.1 in July from 54.7 at the start of this year. All of these readings are consistent with a global slowdown. They might be pointing toward a recession, though certainly not definitively.
(3) Commodity prices. The same can be said about industrial commodity prices, especially the price of copper. Since the start of the year through Friday of last week, the CRB raw industrials spot price index is down 6%, while the nearby futures price of copper is down 20% (>Fig. 9). Copper is especially sensitive to housing and auto sales. The world economy may not be in a recession, but housing activity almost certainly is in a recession around the world. Auto sales have been depressed by a shortage of auto inventories because supply-chain disruptions have disrupted auto production.
Interestingly, the CRB raw industrials spot price index tends to track the Emerging Markets MSCI stock price index (in dollars) very closely (Fig. 10). The latter is down 19% since the start of this year through Friday. This relationship suggests that most emerging markets haven't emerged from their dependence on producing and exporting commodities.
(4) World production and exports. The CPB Netherlands Bureau for Economic Policy compiles monthly indexes of world industrial production and world volume of exports. Both are available from January 1991 through May of this year. The production index peaked at a record high in February of this year (Fig. 11). It is down 2.9% since then through May. The volume of exports reached a new record high in May.
(5) Capital flows. Previously, we observed that US private net capital inflows from overseas totaled a near-recent record high of $1.6 trillion over the 12 months through May, while official net capital flows were -$226 billion (Fig. 12). On balance over this period, private foreigners purchased $797 billion in US bonds, $331 billion in US bank liabilities, and $73 billion in US Treasury bills. They sold $162 billion of US equities. (See our Treasury International Capital System.)
This certainly helps to explain the strength of the US dollar index (ticker symbol DXY), which is up 18% since May of last year.
(6) Staying home. From a valuation perspective, the All Country World (ACW) ex-US MSCI was selling at a 32% discount relative to the US MSCI at the end of July (Fig. 13 and Fig. 14). From 2002 through 2015, the normal discount was 15% on average. The former tends to trade more like the S&P 500 Value index and is currently at a valuation discount of 20% to it rather than the normal discount of 0%-10% (Fig. 15 and Fig. 16).
From a fundamental perspective, both the forward revenues and forward earnings of the US MSCI have been significantly outperforming the comparable stats for the MSCIs of the Emerging Markets, EMU, and the UK (Fig. 17 and Fig. 18). The ratio of the US MSCI's forward earnings to the ACW ex-US MSCI's forward earnings has nearly doubled since early 2000 from 3.5 to 6.6 currently (Fig. 19). This certainly explains why the comparable ratios of the two stock price indexes (in both local currencies and in US dollars) remain on their strong uptrends that started in 2009 (Fig. 20). In other words, Stay Home continues to outperform Go Global. We recommend continuing to overweight the US in global portfolios.