photo: OTA Photos
Key takeaway – As predicted, the markets are down and a mild global recession is on its way. Monetary policy remains accommodative, but interest-rate divergence increases volatility. Investors face a difficult environment: most markets remain overvalued and risks are tilted to the downside. After years of complacency, financial stress is rising and market-liquidity is getting tighter. In this context, capital preservation via a defensive asset allocation is priority. Yet, unusual portfolios – less liquid and more volatile – are likely to perform better than conventional ones.
As predicted, the markets are going through a correction. As forecasted in October and November, asset prices are falling in both developed (DMs) and emerging markets (EMs). Market participants are worried about the health of the global economy and feel less protected by central bank (CB) policies. As the sharp correction enters bear-market territories, rising risk-aversion and higher volatility could broaden the contagion.
Are we in a bear market? A cyclical bear market is underway across most equity indices. The S&P Global 1200 index is down 17.9 percent from its May 2015 record-high and 10.2 percent since the beginning of the year. DM bonds are sought after, yet again. How long will this last? Since 2009, all corrections have been followed by swift bull-market resumption. This time, asset prices seem to be correcting a long-standing misallocation of capital; as they re-align to fundamentals, a quick bounce-back looks unlikely. Indeed, a bear market can be an opportunity for properly-equipped investors, but falling asset prices are likely to hurt (an already fragile) real economic activity.
The global economy is still weak, the odds of a mild global recession are rising. Global growth will decline to 2.6 percent in 2016 (from 3.1 percent in 2015), stifled by balance sheet adjustments and a sluggish pace of implementation of structural reforms. In DMs, aging populations, low productivity growth, high (public and private) debt, and reduced policy options hamper the recovery. The ongoing deceleration in systemically-important EMs constitutes a bigger-than-expected drag on global growth and keeps depressing commodity prices. Lethargic investment and consumption (despite near-zero or negative interest rates) and fast-shifting exchange rates are signs of an ongoing economic and financial realignment – consistent with the secular stagnation hypothesis.
Monetary policy remains accommodative, but has started to diverge – increasing volatility. For years, CBs repressed financial volatility – and boosted asset prices – by providing liquidity to markets stressed by risk-events. In 2016, CBs will maintain a highly accommodative stance but policy-divergence (i.e.: the US Federal Reserve (Fed) is tightening when other CBs across the world are adopting negative interest rates) will make them less able to act as volatility-repressors. Increasingly, monetary-easing will not guarantee (even low levels of) economic activity, and macro-liquidity will not consistently translate into market-liquidity. As most markets transition from a low-to-higher volatility regime, financial instability becomes the base-case.
The risks are tilted to the downside … There is no scarcity of risks (Table 1). War and IS in the Middle East, the refugee crisis and Brexit in Europe, Russia’s ambitions, and frictions in Asia are examples of geopolitical tensions that – if poorly handled – could disrupt confidence, depress trade and financial flows, inhibit tourism and enhance market uncertainty. China’s protracted, “managed” hard-landing is the elephant in the room. In the US, the Fed hiked rates while growth was starting to decelerate. USD appreciation has tightened global credit-conditions, especially in EMs, and induced a reversal of international capital flows, with adverse effects on corporate balance sheets. EMs are at the beginning of a deleveraging cycle that is likely to spill into DMs, impacting the real economy. Meanwhile, ample good-supply and insufficient demand – along with falling commodity prices – are creating disinflationary pressures in the US, and the risk of deflation in Europe. As oil prices decline, yields (and spreads) on energy-sector-debt increase, exposing credit markets to default risks. Policy mistakes, due to wait-and-see attitude or political deadlock, could induce a hard-to-escape recession.
Table 1. Global risks, market impact and likely positioning
Source: Author’s elaboration, 2016. Note: *bbl = oil barrel. **2015 (est.) Saudi Arabia budget balance: -18.4%. *** TARP = Troubled Asset Relief Program.
… while stock and bond markets remain overvalued. The disconnection between (stock and bond) markets and economic fundamentals is due to abundant macro-liquidity and repeated CB intervention. Price-to-earnings ratios (PE) are still expensive: at end-January 2016, the PE of the S&P Global 1200 index was 16.4, 82.2 percent above the pre-crisis average of 9.0 (1997-2007 period). Through 2015, S&P 500 stocks were trading at 17.4 PE – the highest since 2009. In 2016, disappointing earnings are pushing the markets down, and price-to-book value ratios (PB) are starting to look fairly valued. Due to large CBs purchases of government bonds and low inflation, bonds’ yields are at multi-century lows. The JPM Global Aggregate Bond index is currently up 0.03 percent from its January 2015 peak and 3.7 percent since the beginning of the year. Lower demand for commodities is depressing prices: the RICI benchmark is down 33.5 percent from its May 2015 peak and 9.1 percent since the beginning of the year.
Investors face a difficult environment. To perform, markets across the globe need sustained growth and rising company earnings. Over the past six years, however, historically-low real interest rates and asset-price bubbles supported economic performance (at the macro level) and market returns (at the micro level). In the economy, debt-accumulation avoided a depression but brought about chronically-below-potential growth and lower profits. In the markets, investors were forced out of low-yielding cash and returns were boosted by capital gains and not by dividend yields – as investment income declined. In the summer of 2015, after years of complacency, data started signaling market-risks ahead. Given reduced bank intermediation market-liquidity declined, financial conditions got tighter and credit spreads widened. Today, the markets are increasingly doubtful of CBs ability to maintain financial stability. While EMs weakness is spreading into DMs, economic inter-dependence increases systemic risks and market co-movements; as a result, volatility and financial shocks became more recurrent and the probability of black swans is higher than in the past. Going forward, given increased financial market volatility, traders will perform better than long-term fundamental investors, more likely to book lower returns than in recent years.
Where to invest? Capital preservation via a defensive asset-allocation is priority, but investors should not privilege excessive liquidity. Unusual portfolios – less liquid and more volatile – are likely to perform better than conventional ones.
- In the equity markets, caution is needed. Since early 2009, stocks performed strongly (Table 3) and many investors’ portfolios overweight equities. Going forward, earnings growth will soften, especially in EMs, and stocks are likely to drop torturously until the Fed is forced into more QE. Taking fundamental directional bets (i.e. via long-only funds) is likely to prove disappointing. Ideally, to combine steady income and capital appreciation, preference should go to undervalued companies that pay sound dividends, such as value large-caps with strong balance sheets and a focus on domestic (rather than EM) sales. Blue chips income-producing multinational brands are likely to do well, as a significant share of their revenues is linked to the relatively-inelastic rise of the EM middle-class. Small-caps and mid-caps are better avoided, particularly in EMs. In terms of country allocation, US and QE-supported European markets are likely to outperform EMs. Japanese equities are among the least expensive in DMs. India has the best outlook in EMs. However, investors should differentiate their portfolios through stock picking rather than country selection. Financials are likely to suffer. Small luxury companies, healthcare providers (including insurance and pharmaceuticals) and the consumer sector are likely to generate returns.Safety can be obtained with health care, where spending is increasing above inflation and new-drug approvals are on the rise. The tech segment should keep outperforming.
- In the bond markets, 2016 conditions (geopolitical and market instability, low growth, low inflation, and high liquidity) support the demand of high-quality fixed-income. In other words, investors looking for safety and liquidity will keep yields down and prices up. Given severe safe-asset shortages brought about by the ongoing quest for financial safety, core sovereign bonds (UST and German Bunds) will benefit from slowing economic growth, risk-off episodes, and further reductions in long-term interest rates. Still, in absence of systemic shocks, investors should privilege high quality, high-yield corporate credit (investment grade only, BB rated); EM bonds denominated in USD, although riskier, could deliver even higher returns. Preference should go to a “buy to hold” strategy, with profit-taking in case of yield-reducing liquidity-injections by CBs. In terms of country allocation, QE-supported European (with Italy and Spain on the lead) and Japanese fixed-income are likely to over-perform the US, where – amid USD strength and credit weakness – financial conditions are tightening and the Fed is unlikely to raise interest rates as announced. Inflation-linked bonds show more risk than returns. The distressed energy and mining sectors are likely to create credit risks, drive volatility up, and originate contagion. In EMs, concerns about China’s large debt load will persist.
- Illiquid assets, such as private equity and real estate are to be considered (of course, only if fully understood, properly priced and professionally executed). Upcoming macroeconomic conditions (growth deceleration, subdued inflation, distressed valuations) will create entry-price opportunities in most sectors. Technology – e.g. efficiency-enhancing management systems, bio-technology, robotics – remains an obvious choice. In the real estate sector, investors are starting to take on debt to fund purchases; after years of ‘equity deployments’, the project-financing cycle is entering a “debt phase”, particularly in Europe, where interest rates are likely to remain low and further ECB QE-injections could transform real estate into a fixed-income play. In most Tier-1 cities across the world, rental income and lease rates allow for structuring real estate acquisitions into a bond-like investment, with stable yields locked in ex ante.
- Commodities’ abundant supply and weak demand are likely to bring about very moderate returns. Low global inflation and USD strengthening will remain headwinds for performance. Commodity prices are close to unprecedented lows: the CRB Commodity Index is currently at early 1970s levels. Struggling EM economies will continue to depress oil and commodity prices, and vice-versa. There is potential for additional near-term downward pressure on oil prices due to geopolitical risks and concerns on storage capacity.
- Over the next couple of years, apprehensive investors are likely to maintain higher-than-usual cash Cash could work as both an insurance against sharp downturns and the required seeding-capital to quickly size opportunities. Still, in the longer-run keeping liquid portfolios will result in low returns: the “negative carry” of holding liquid assets is due to forgoing the potential income (and possibly capital appreciation) of other, riskier asset classes.
- In the currency markets, with the (soon-to-be muted) start of the Fed tightening cycle, the interest-rate differential between the US and EMs has strengthened the USD and further weakened EM currencies, reducing the USD value of EMs domestic assets. If tail risks materialize, investors will further retreat to the USD, the world’s primary trading and reserve currency and global safe haven. ECB monetization should weaken the EUR, but – if the global economy stabilizes – the USD could decline in value to 1.20 against the EUR. The Swiss franc (CHF) is likely to maintain its purchasing power. The UK pound (GBP) appears oversold on Brexit fears and the Canadian dollar (CAD) looks undervalued. Slowing world trade, spare capacity, continued commodity weakness and concerns about China will put depreciating pressures on EM currencies, making Asia especially vulnerable. The Chinese renminbi (CNY) is at risk of further devaluation; the Korean won (KRW), Taiwan dollar (TWD), and Singapore dollar (SGD) are under pressure.
The indicative portfolio shown here below (Table 2) attempts to crystallize the above.
Table 2. Asset allocation
Source: Author’s elaboration, 2016.
 From “Weak Economy, Strong Markets: A Paradox That Might End in Tears”, October 2015: “When CBs start tightening, a bear-market correction will ensue.” (…) “Increasingly, the market will question both the health of the global economy and the ability of CB policies to maintain financial stability, and will struggle to keep in equilibrium (…); the risk of a market correction is rising.” (…) “Once macro-liquidity is withdrawn at the global level, market illiquidity will eventually bring about a cyclical bear market (-20 percent, at least).”
 From “Ten Questions for the Global Economy”, November 2015: “(…) when CBs start tightening, a bear-market will ensue and asset prices will decline to match fundamentals”. “In the long run, equities will suffer, bond yields rise and commodities fall.”
 A “market correction” is a 10 to 20 percent price decline over two weeks. A “bear market” is a 20 (or more) percent price decline over two-month, across multiple market indexes. Because of falling prices, investors anticipate losses and a widespread fear and pessimism makes the negative sentiment self-sustaining.
 US: the DJIA is down 12.5 percent from its peak (record high) of May 2015 and 8.1 percent since the beginning of the year. EZ: the Eurostoxx 600 is down 23.3 percent from its peak (record high) of April 2015 and 13.2 percent since the beginning of the year. Japan: the Nikkei 225 is down 24.7 percent from its peak of June 2015 and 17.4 percent since the beginning of the year. China: the Shanghai Composite index is down 46.5 percent from its peak of June 2015 and 21.9 percent since the beginning of the year. India: the Nifty is down 19.8 percent from its peak of March 2015 and 9.4 percent since the beginning of the year. Russia: the Micex index is down 8.0 percent from its peak of November 2015 and 2.4 percent since the beginning of the year. Brazil: the Ibovespa index is down -30.1 percent from its peak of May 2015 and 6.4 percent since the beginning of the year. Source: Bloomberg, 2016.
 Most bond indexes are at their peak. Global: the JPM Global Aggregate Bond index is currently up 0.03 percent from its peak of January 2015 and is up 3.7 percent since the beginning of the year; US: US Treasury Bonds are up 1.1 percent from their peak of January 2015 and 3.2 percent since the beginning of the year; EZ: the Germany Sovereign Bond index is currently down 0.8 percent from its peak of April 2015 and is up 3.3 percent since the beginning of the year; Japan: the Japan Sovereign Bond index is currently up 2.2 percent from its peak of December 2015 and since the beginning of the year; China: the China Local Sovereign index is currently up 0.8 percent from its peak of December 2015 and since the beginning of the year; India: the India Local Sovereign index is currently up 0.5 percent from its peak of December 2015 and since the beginning of the year; Brazil: the Brazil Local Sovereign index is currently down 2.5 percent from its peak of July 2015 and is up 3.7 percent since the beginning of the year; Russia: the Russia Local Sovereign index is currently down 1.2 percent from its peak of December 2015 and since the beginning of the year. Source: Bloomberg, 2016
 In 2010, fears about the US deficit brought about a -15 percent correction. In August 2011, a downgrade of US credit rating from AAA to AA+ by S&P led to a slide in global equity markets; in particular, worries about a US Treasury default caused a 19.5 percent fall in the S&P. In October 2011, the write-down of Greek-government debt played a crucial role in triggering the Cyprus financial crisis of 2012-13, with two of the largest banks losing approximately EUR4.5bn (more than 25 percent of Cyprus GDP), resulting in significant damage to the Cyprus economy. In 2012, the Euro-crisis caused two corrections: -10 percent in the spring and -8 percent in the fall. In 2013, US Federal Reserve tapering and a US government shutdown hit the S&P by -6 percent. In 2014, war in the Middle East and Ukraine brought about a -8 percent correction. In August 2015, concerns of slowdown in China brought about a global market correction, with the S&P Global 1200 down -12 percent in the summer 2015 and -6.1 percent in the first week of 2016.
 For years, negative short-term real-interest-rates made funding cheap and diminished the value of safe heavens. Via carry trade, capital was allocated to assets markets rather than to the real economy, boosting asset prices. This misallocation of capital needs to be absorbed by bubble-disinflation: often, bear markets do the job.
 The definition of “global recession” has evolved over the years. Until 2009, the IMF did not have an official definition but informally used the 3 percent benchmark in a number of papers and communications. The 2009 WEO (page 11 box 1.1) provided the following definition: “A decline in annual per‑capita real World GDP (purchasing power parity weighted), backed up by a decline or worsening for one or more of the seven other global macroeconomic indicators: industrial production, trade, capital flows, oil consumption, unemployment rate, per‑capita investment, and per‑capita consumption.”
 Should most EMs enter in recession, DMs will be unable to prevent a global slowdown. If the US were to decelerate, the first ‘post-2008 global recession’ would ensue. The US economy is vulnerable to the global economic slowdown (see endnote 12).
 The current level of corporate debt in DMs stands at USD 18.3tn and in EMs at USD 4.8tn. Government debt in DMs has increased from USD 29.9tn (2008) to USD 43.6tn (2014) and in EMs it has increased from USD 3.1tn (2008) to USD 7.1tn (2014). External debt in DMs has increased from USD 18.8tn (Dec, 2008) to USD 24.3tn (Dec, 2014) and in EMs it has increased from USD 1.4tn (December 2008) to USD 2.3tn (Dec, 2014). In DMs, the US and the EZ have the highest amounts of outstanding corporate debts with US corporate debt at USD 8.4tn and EZ corporate debt at USD 8.9tn, followed by Japan at USD 1.0tn. Among BRIC economies, China has the highest corporate debt of USD 3.8tn, followed by India and Brazil: USD 0.4tn, Russia: USD 0.2tn. Source: Bloomberg, 2016.
 Most countries compete for export-markets via currency depreciation and for investment inflows and employment generation via a favorable regulatory environment. Yet, to grow there is the need to invest (Europe and USA) and to change the development model, i.e. the composition of gross domestic product (GDP – China, Turkey, several EMs, even Japan). Across most DMs, governments should encourage household consumption and corporate investment in plants, equipment and people.
 The EU and Japan are stagnating and will not uphold global growth. The EZ – because of its reliance on net exports (in 2015, the current account surplus was 3.7 percent of GDP) – will suffer the global downturn. To compensate for a weak domestic demand, the EM slowdown is leaving the EZ even more reliant on exports to both US and UK. The US will find it difficult to continue growing and lift the rest. In the Q4 2015, GDP slowed from 2 percent in Q3 2015 to 0.7 percent. A stronger USD made US goods more expensive and declining crude prices brought about a fall in oil investment, eroding demand for drilling-related equipment. As a result, exports dropped 2.5 percent. Investment fell 2.5 percent as energy companies cut spending (in the mining sector, investment dropped by more than a third in 2015). The boost from cheap energy to consumption is still a promise: consumer spending, which makes up about two-thirds of GDP slowed to 2.2 percent in Q4 2015 from 3 percent in Q3 2015. In December, retail sales and industrial production disappointed, down 0.3 and 0.4 percent, respectively. Data from the Institute for Supply Management showed factory activity contracting for the second straight month. In January, the US economy created 151,000 jobs (below market expectations of 190,000). Private payrolls added 158,000 jobs while the government lost 7,000 jobs. December was revised down by 30,000 jobs to 262,000, and November was revised up by 28,000 to 280,000. The last three months have averaged 279,000 new jobs, the previous three months 192,000 and the six prior months 220,000. The unemployment rate declined marginally to 4.9 percent in January 2016 (market expectations: 5.0 percent) from 5.0 percent in December 2015, largely because of job gains in several industries. For Q1 2016, the Atlanta Fed estimates real GDP growth at 2.5 percent. In the US energy sector, some of the weakest companies were heavy borrowers with a significant amount of high-yield paper outstanding. A slowdown in China should not particularly affect the US: trade channels are limited (US exports to China represent less than 2 percent of GDP), and so are financial linkages. The main effect of would be through lower commodity prices.
 A strong fiscal response is unlikely due to severely constrained fiscal spaces, high debt levels and a lack of political will. On the monetary side, interest rates are near zero, CBs’ balance sheets are larger-than-ever, and the effectiveness of unconventional policies is widely questioned.
 Brazil and Russia are in the middle of a multiyear recession. China is suffering a managed hard-landing, rebalancing from: a) investment to consumption; b) exports (i.e. external) to domestic demand; and c) manufacturing to services. In China the authorities are focused on risk-containment and have the fiscal and monetary resources to stimulate the economy, but the risks of policy missteps is high. Equity and currency markets will remain volatile. Debt to Gross Domestic Product (GDP) climbed to 250 percent, many of the loans held by regional banks are non-performing. Quite a few countries in the Middle East and Gulf Cooperation Council (GCC) are in economic distress. China’s slowdown, if policy authorities lose control of the renminbi exchange rate and suffer a devastating capital flight, can derail the world economy and equity markets off the rails for the rest of this decade and create a structural bear market lasting many years.
 All else equal, and given the objective of full employment of capital and labor, in a growing economy the equilibrium-real-interest-rate is high, reflecting prospective return on capital investments. In a recessionary economy, the same rate is low, reflecting limited investment opportunities.
 The world’s main CBs have expanded their balance sheets significantly: in the US, from USD 2.2tn (December 2008) to USD 4.4tn (January 2016); in the EZ, from USD 2.4tn (December 2008) to USD 3.0tn (January 2016); in Japan, from USD 1.0tn (December 2008) to USD 3.3tn (January 2016); in the UK, from USD 0.3tn (December 2008) to USD 1.2tn (December 2014); in Switzerland, USD 0.2tn to USD 0.6tn (December 2015); in Brazil, from USD 0.4tn (December, 2008) to USD 0.7tn (November 2015); in Russia, from USD 15.8bn (December 2008) to USD 22.3bn (January 2016); in India, from USD 0.1tn (December 2008) to USD 0.2tn (December 2015); in China, from USD 3.4tn (December 2008) to USD 4.8tn (December 2015). Source: Trading Economics, 2016.
 In both DMs and EMs, cheap money created a culture of complacency. Abundant liquidly – putting creative destruction on hold – kept governments, banks and companies afloat but brought about zombie-entities, which deliver low growth. Healthy banks and corporations are on hold, lacking confidence to make significant business and investment decisions, since sales, profit margins and corporate earnings might suffer. Commercial banks, slow to heal from the 2008-crisis, crowded out private-sector credit. With slow economic growth, revenue and corporate earnings stagnate. Today, policy makers can afford delaying structural reforms, entrepreneurs borrow to re-finance their debts and back their own shares, not to invest in the real economy.
 In mid-December 2015, the Fed decoupled from other CBs by embarking on an announced interest rate hiking cycle, with “four rate-increases in 2016, reaching a federal funds rate of 1.35 percent by 2017”. Yet, the Fed tightening cycle will proof slower than announced and well below historical norms; in other words, in 2016 the Fed is unlikely to raise interest rates more than once. Meanwhile, the European Central Bank (ECB) and Bank of Japan (BoJ) will continue to ease by combining quantitative easing (QE) with negative rates. In June 2014, the ECB became the first major central bank to venture below zero and since December 2015 it charges banks 0.3 per cent to hold their cash overnight. In January 2016, the ECB announced “unlimited” action to boost Euro Zone (EZ) inflation. In January 2016, BoJ adopted negative interest rates (- 0.1 per cent). In February 2016, Sweden’s central bank (Riksbank) cut its main repo rate to – 0.50 percent, down from – 0.35 percent.
 Definition of “macro-liquidity”: broad money supply. Definition of “market-liquidity” (i.e. trading liquidity): ability to buy and sell financial assets with minimal transaction costs.
 Over the past 15 years, lending to EMs fueled growth. However, according to the Bank for International Settlements (BIS), this lending has “come to a halt”; going forward, deleveraging might financial market turmoil and a global economic downturn.
 Consumers postpone purchases in anticipation of even lower prices in future.
 The only effective policy tool seems to be a major injection of fiscal spending financed by CBs unconventional measures. To do so, CBs would have to extend bond purchases and push interest rates further into negative territories; these policies are still untested and could put financial stability at risk.
 The S&P 500 Index is at about 16 times its expected (next 12 months) earnings, below the 2015 peak (17.8) but above the historic mean (about 15). US: As of end-Jan 2016, the PE on the DJIA index was 15.0, 21.6 percent below the pre-crisis average of 19.1. EZ: As of end-Jan 2016, the PE on the Eurostoxx 600 was 22.2, 4.7 percent below the the pre-crisis average of 23.3. Japan: As of end-Jan 2016, the PE on the Nikkei 225 was 19.3, 51.1 percent below the pre-crisis average of 39.5. Brazil: As of end-Jan 2016, the PE on the Ibovespa index was 21.3, 34.1 percent above the pre-crisis average of 15.9. Russia: As of end-Jan 2016, the PE on the MICEX index was 10.0, 9.5 percent above the pre-crisis average of 9.9. India: As of end-Jan 2016, the PE on the NIFTY index was 19.8, 21.7 percent above the pre-crisis average of 16.3. China: As of end-Jan 2016, the PE on the Shanghai Composite index was 14.4, 60.1 percent below the pre-crisis average of 36.2. Source: Bloomberg, 2016.
 As of February 5, 63.0 percent of the S&P 500 companies have reported Q4 results, and earnings-per-share (EPS) recorded a 5.1 percent decline year-on-year. Profit margins, that had reached an all-time high in 2015, are pressured by a combination of limited pricing power and increasing wages.
 At end-January 2016, the PB of the S&P Global 1200 index was 2.0, 98.5 percent above the pre-crisis average of 1.0 (1997-2007 period). The PB on the S&P 500 Index as of end-Jan 16 is 2.6, 24.5 percent below the pre-crisis average of 3.5. US: As of end-Jan 2016, the PB on the DJIA index was 2.8, 25.1 percent below the pre-crisis average of 3.8. EZ: As of end-Jan 2016, the PB on the Eurostoxx 600 was 1.7, 21.8 percent below the pre-crisis average of 2.2. Japan: As of end-Jan 2016, the PB on the Nikkei 225 was 1.6, 18.8 percent below the pre-crisis average of 1.9. Brazil: As of end-Jan 2016, the PB on the Ibovespa index was 0.9, 19.1 percent below the pre-crisis average of 1.2. Russia: As of end-Jan 2016, the PB on the MICEX index was 0.7, 51.1 percent below the pre-crisis average of 1.4. India: As of end-Jan 2016, the PB on the NIFTY index was 2.5, 18.4 percent below the pre-crisis average of 3.1. China: As of end-Jan 2016, the PB on the Shanghai Composite index was 1.6, 56.5 percent below the pre-crisis average of 3.6. Source: Bloomberg, 2016.
 Performance of major commodities: Brent: down 54.4 percent from its peak of June 2015 and down 17.1 percent since the beginning of the year; Gold: down 8.6 percent from its peak of January 2015 and up 11.9 percent since the beginning of the year; Copper: down 30.4 percent from its peak of May 2015 and down 4.1 percent since the beginning of the year; Aluminum: down 25.1 percent from its peak of May 2015 and down 1.7 percent since the beginning of the year; Corn: down 21.8 percent from its peak of July 2015 and up 0.6 percent since the beginning of the year. Source: Bloomberg, 2016
 Dividend yields in both the DMs and EMs have increased since Dec 2009: US: As of end-Jan 2016, the dividend yield on the DJIA index increased to 2.7, as compared to 2.6 as of end-Dec 2009. EZ: As of end-Jan 2016, the dividend yield on the Eurostoxx 600 increased to 3.7, as compared to 3.2 as of end-Dec 2009. Japan: As of end-Jan 2016, the dividend yield on the Nikkei 225 increased to 1.8, as compared to 1.5 as of end-Dec 2009. Brazil: As of end-Jan 2016, the dividend yield on the Ibovespa index increased to 4.8, as compared to 2.6 as of end-Dec 2009. Russia: As of end-Jan 2016, the dividend yield on the MICEX index increased to 4.7, as compared to 1.6 as of end-Dec 2009. India: As of end-Jan 2016, the dividend yield on the NIFTY index increased to 1.5, as compared to 1.0 as of end-Dec 2009. China: As of end-Jan 2016, the dividend yield on the Shanghai Composite index increased to 2.2, as compared to 1.2 as of end-Dec 2009. Source: Bloomberg, 2016.
 Facing tighter regulation (and a reduced market appetite for short-term earnings deviations), financial intermediaries cannot (and are unwilling to) provide liquidity and smoothening by buying on dips or selling on highs. In fixed-income markets, because of regulatory changes banks and brokers will be unable to act as bond-market intermediaries, absorbing volatility – as they did in the past.
 Capital has become an (often unpredictable) driving force, more influential and systemic than trade. The foreign exchange market grew to be the world’s largest market, with average daily trading volumes in excess of USD4 trillion (tn). Since 2009, CB monetary injections in open economies translated into core-to-periphery capital flows, which – while reducing volatility and giving the appearance of stability – further intertwined currency markets.
 Rapid cross-border economic, social, technological exchange enhanced interconnections, increasing resilience, but also fragility.
 “Tail risks” – low-probability, high-impact events that could have systemic consequences via negative feedback loops – could materialize, hampering the real economy and investor confidence.
 Because of excess liquidity, markets suffered from risk-myopia, i.e. financial agents rode “beta” with full leverage and without significant hedges, taking excessive risks for relatively low returns.
 Global equities can expect positive – but below average – returns only if economic growth were to sustain corporate profitability. It looks unlikely: in an economic environment with relatively low consumer demand from and weak capital spending, growing revenues is very hard.
 Over the past years, corporations increased earnings making use of financial engineering: buying their own shares back and making strategic acquisitions (where sales and administrative staffs can be cut) in order to increase earnings per share. They are also using inversions to decrease their taxes. So far these activities have increased the stock price.
 Domestically-exposed companies in the US, Europe and Japan could benefit from increasing domestic consumption.
 Table 3. Stocks have outperformed Bonds since the financial crisis.
Source: Bloomberg, 2016.
Note: Global Markets – Stock market performance: Dow Jones Global Index; Bonds performance: JPM Global Aggregate Bond Index. US – Stock market performance: DJIA; Bonds performance: Barclays Aggregate Bond Index. EZ – Stock markets performance: EuroStoxx 600; Bonds performance: Barclays Euro Aggregate Index.
 Regulators – by forcing institutional investors to invest in triple-A assets, while the supply of these assets has declined by 50 percent – are pushing real interest rate even lower. Yields on sovereign and corporate bonds, which pay a spread over government debt, have fallen in tandem. 10-year Treasury yields are at multi year lows: Germany 0.24; Italy 1.68; Spain 1.79; US 1.71; Japan 0.01; UK 1.42.
 Disappointing inflation data will likely lead the European Central Bank (ECB) to ease further in March. Another 10bps deposit rate cut, to -40bps is likely.
 UK rates have fallen sharply due to heavy market discounting of the potential for a UK rate hike over the next two years. Spanish bonds have underperformed due to the risk-off market sentiment and elevated concerns about the potential for Catalonia to successfully vie for independence.
 Primary target markets (i.e. long term secure investment in core markets) will continue to draw the most interest. Risk appetite, stable economic conditions, and low interest rates are likely to drive increased investment in secondary markets (i.e. opportunities in tier-two cities and in recovering markets).
 In a broad portfolio they work as diversifier and inflation hedge. Precious metals will behave as a para-currency, with prices moving up and down in response to global real yields.
 Oil prices are put under pressure by: a) large inventories in storage facilities and tankers, which could be released on the market at any time; b) the unwillingness of Saudi Arabia to cut production; and c) additional supply coming from Iran and from producers that need the cash to pay down debt or to fulfill lease obligations. Conversely, oil prices could rise as a consequence of a lack of exploration for new reserves (as reflected by a two-thirds drop in the current number of drilling-rigs).
 1. MSCI US – measures the performance of the large and mid-cap segments of the US market; 2. MSCI EAFE– measures the equity market performance of developed markets outside of the U.S. & Canada; 3. S&P 100 – a sub-set of the S&P 500, it comprises 100 major, blue chip companies across multiple industry groups; 4. S&P 500 – the index includes 500 leading companies in the US and captures approximately 80 percent coverage of available market capitalization; 5. STOXX Europe 600 – a subset of the STOXX Global 1800 Index, it represents large, mid and small capitalization companies across 18 countries of the European region 6. MSCI EM Equity – it covers 23 countries representing 13 percent of world market capitalization; 7. Russell 2000 – is a small-cap stock market index of the bottom 2,000 stocks in the Russell 3000 Index: it is the most common benchmark for mutual funds that identify themselves as “small-cap”; 8. MSCI Europe Small Cap Index – captures small cap representation across the 15 Developed Markets (DM) countries in Europe; 9. MSCI EM Small Cap Index– includes small cap representation across 23 Emerging Markets countries; 10. Morgan Stanley Capital Int. EM Index– market capitalization-weighted benchmark index made up of equities from 29 developing countries; 11. BAML Global Government Bond Index tracks the performance of public debt of investment-grade sovereign issuers, issued and denominated in their own domestic market and currency; 12. JP Morgan Sovereign Bond Index– tracks DM and EM sovereign bonds; 13. Eurozone Sovereign Bond Index (Bloomberg, S&P) – measure the performance of EZ government bonds; 14. JP Morgan Corp. Bond Fund – is widely used as the benchmark for DM corporate bonds: it mainly invests in corporate bonds that are rated investment grade; 15. BAML US Corporate Master Index – is comprised of U.S. dollar denominated investment grade corporate debt securities publicly issued in the U.S. domestic market with at least one year remaining term to final maturity and an outstanding par value of at least $250 million; 16. BAML Sovereign Emerging and BAML Corporate Emerging Indices – track EM sovereign and corporate bonds, respectively; 17. LPX50 Listed PE Companies– is a global equity index covers the 50 largest listed private equity companies; 18. S&P listed PE index– comprises the leading listed private equity companies that meet specific size, liquidity, exposure, and activity requirements; 19. Thomson Reuters Private Equity Buyout Index – is made up of independent portfolios intended to track the return of the private equity universe by replicating movements in the Thomson Reuters Private Equity Buyout Research Index; 20. FTSE EPRA/NAREIT Global Real Estate Index– it is designed to represent general trends in eligible real estate equities worldwide; 21. Dow Jones Real Estate Titans 30 Index – includes 30 stocks selected based on rankings by float-adjusted market capitalization, revenue and net profit; 22. MSCI Core Real Estate Indexes– Series of indices covering global real estate sector; 23. Vanguard Global ex-US Real Estate Index ETF (VNQI) – invests in stocks in the S&P Global ex-U.S. Property Index, representing real estate stocks in more than 30 countries; 24. MSCI Emerging Markets Real Estate Index– captures the large and mid-cap segments across 23 Emerging Markets (EM) countries; 25. S&P GSCI Agriculture Index– a sub-index of the S&P GSCI, provides investors with a benchmark for investment performance in the agricultural commodity markets; 26. S&P GSCI Energy Index– a sub-index of the S&P GSCI, provides investors with a benchmark for investment performance in the energy commodity market; 27. S&P GSCI Precious Metals Index– provides investors with a benchmark for investment performance in the precious metals market; 28. S&P GSCI Industrial Metals Index– provides investors with a benchmark for investment performance in the industrial metals market; 29. RICI Agriculture, RICI Energy, RICI Precious Metals and RICI Industrial Metals are sub-segments of the Rogers International Commodity Index, a composite, USD based, total return index.