JPMorgan sees additional risks in the upcoming year after a very volatile 2018, in which the bull market managed to stay alive, but just barely. In their 23rd annual Long-Term Capital Market Assumptions report, the bank’s analysts noted, “2019 could prove to be a symbolic, possibly even seminal year. Should the U.S. expansion persist to the middle of 2019, it will set a new record for the length of a U.S. cycle.”
But amid such a lengthy expansion and the longest bull market on record for the S&P 500, the analyst reported that “cyclical risks are building, many economies are operating above trend with little slack, and asset valuations are elevated.”
Rising Risks are Weighing on U.S. Returns
|Asset Category||2018 Returns||2019 Returns|
|High Yield Bonds||5.25%||5.50%|
|Investment Grade Corporate Bonds||3.50%||4.50%|
Source: JPMorgan Asset Management, “2019 Long-Term Capital Market Assumptions”
What it Means
JPMorgan's report looks at how structural economic factors will affect asset returns over the next 10 to 15 years. Despite market risks, the bank's analysts remain optimistic, citing long-term forecasts of economic growth and equilibrium interest rates little changed from last year. The JPMorgan analysts expect to see a slight rise from 5.25% to 5.50% in a U.S. 60/40 stock-bond portfolio, mostly driven by higher bond returns. Meanwhile, they expect returns for U.S. large-cap stocks to decrease slightly.
“This S&P 500 bull market is the longest on record, with trough-to-peak gains almost twice the bull market average of the last 50 years”—JPMorgan
While unchanged from last year, the analysts expect U.S. real GDP growth, currently at 1.75%, to continue to lag behind global GDP growth of 2.50%. The analysts predict, however, that the U.S. economy and markets will also face the following cyclical risks that have been worsening over the past 12 months.
New risks and trends:
- U.S.-China trade war suggests that globalization may be hindered by trade protectionism;
- Normalization of U.S. monetary policy creates tighter global financial conditions, hastening the end of the bull market;
- Little upside pressure on price inflation leads analysts to believe that inflation may often fall short of central bank targets in future cycles;
- Government debt on central bank balance sheets could compromise central bank independence;
- Level of corporate leverage could accelerate an economic downturn;
- Higher indebtedness across the economy complicates the effectiveness of monetary policy;
- Estimated Sharpe ratio for U.S. Treasuries is now higher than for U.S. equities for the first time in a decade and consistent with a late-cycle economy.
While JPMorgan still maintains some optimism going forward, analysts at Morgan Stanley are noting the danger signs that arose from last month's global market selloff. In a recent “Quantitative Equity Research” report, the bank's analysts illustrate that stocks across the spectrum are down and have significantly underperformed in October.
“On sales to price, the most expensive decile of stocks (Top 1500 ex-Financials) is down almost 19%, but the bottom eight deciles are all down around 10-12%,” the analysts write. Such declines could suggest a buying opportunity but may also be indicative of a bull market turning bear.