14,889,930,106,680 reasons to fear recession

Traders and investors will be glad to see the back of 2018. It’s been the worst rout since 1901, by Deutsche Bank AG’s reckoning, with almost every asset class delivering losses. The figures illustrate the backdrop to what went wrong this year – and hint at what could go better in 2019.

$14,889,930,106,680
That’s how much the total value of companies listed on the world’s stock markets has declined since peaking at $87,289,962,917,450 on January 28. In other words, almost $15 trillion has been wiped off the global equity market this year.
The list of potential motivations for the sell-off is long and includes rising geopolitical risks, the prospect of trade wars erupting, the risk that a slowdown in global growth that could degenerate into a worldwide recession, and the evergreen what-goes-up-must-come-down. But might it just be possible that investors start to take the view stocks have fallen far and fast enough to offer value next year?

Talkin’ About a Recession
It’s clear that one of the fundamental worries spooking investors is period of coordinated global growth that propelled stock markets higher in recent years is coming to an end. The R word is increasingly cropping up in news articles. But economists put chances of a recession in coming year at 15% in US and 18% in the euro zone. Even the Brexit-battered UK economy is only at a 20% risk, while for Japan the likelihood rises to 30%.

Curving to Inversion
Or perhaps not. One trend was omnipresent in 2018 – the relentless flattening of the yield curve in the US. Yields at the short end of the Treasury market pushed higher with every quarterly increase in the Fed’s benchmark interest rate. Longer-dated bonds danced to a different beat, particularly as the October equity shakeout drove a flight to quality.
A key question for 2019 will be how the feedback loop develops between the Federal Reserve’s policy intentions and the shape of the curve.
Quantitative Tightening
The Fed has been reducing its economic stimulus by not replacing the bonds it bought under its Quantitative Easing program as they mature.
But this “normalisation” is already taking its toll as the sharp equity market sell off in October showed. The Fed has a tricky choice to make in 2019 about whether it can persist both with hiking rates and reducing quantitative easing.

No Alarms and No Surprises
Economic surprise indexes are designed to be portents of the future. And for 2018 they largely did their job. US strength is waning and Brexit is taking a toll on the UK. In particular the third-quarter weakness in euro-zone growth, when both Germany and Italy turned negative, was well-flagged from as early as the first quarter.
For 2019 there is a more neutral outlook. Europe continues to be the worst performer – quite something considering the predicament the UK is in.

Europe Stumbles
Europe has seen growth falter this year, with Italy’s political crisis and Germany’s diesel vehicle emissions scandal taking their toll. Italy’s third-quarter growth was revised to -0.1 percent, beating only Germany. The prospects for 2019 are none-too-rosy. Europe remains in the sick bay of the developed world – just as the European Central Bank prepares to remove its monetary stimulus to the economy.

Relying on China
China came to the global economy’s rescue in the wake of the financial crisis, but it is starting to pay the price for increasing its debt to create additional GDP growth. Total social financing as a percentage of gross domestic product is flat-lining. Adding extra debt to boost the economy is becoming a less effective measure. It is not just the threat of a trade war with America that has pushed Chinese
equities down by 20% in 2018.

Finding Reverse Again
Japanese PM’s famous three economic arrows are failing to hit their mark. Debt that stands in excess of 250% of GDP is hampering all efforts to resuscitate inflation and sustainable growth in world’s third-largest economy. Third-quarter GDP contracted 2.5% on an annualised basis, the worst performance for four years.

Credit Squeeze
Companies with dollar bonds have seen their borrowing costs soar relative to those of the US government as the Fed has driven its benchmark interest rate higher this year. Investors have seen a corresponding slump in the value of the corporate debt they own.

Other People’s Money
It’s been a terrible year for the stocks of firms that manage other people’s money for a living. Fund managers tend to
invest in each other’s shares.

Happy Birthday to Euro
The common European currency celebrates its 20th birthday at the start of January. During the two decades of its existence, rumours of the euro’s demise have been proven to be greatly exaggerated.
The European debt crisis at the beginning of this decade posed an existential threat to the euro’s well-being. At several points in the past few years, Greece seemed on the verge of either quitting or being ousted from the project.
In fact, investors are close to the most relaxed they’ve been about euro fracturing in more than five years based on Sentix Euro Break-Up Index, a monthly gauge of investor concern about the threat. So let’s end by wishing euro many happy returns.

—Bloomberg

Mark Gilbert is a Bloomberg Opinion columnist covering asset management. He previously was the London bureau chief for Bloomberg News. He is also the author of “Complicit: How Greed and Collusion Made the Credit Crisis Unstoppable”