One lesson learned from market turbulence during the COVID pandemic can be summarised as: there is value in staying invested. Missing the best days of returns by staying out of financial markets can prove particularly costly, as April has shown once again. Of course, this is only half the story: one can afford to miss the 10 best days if one also avoids the 10 worst days, which is why risk management is an essential part of our investment process.
It's also a half-truth that market activity reflects fundamentals, especially as fundamentals have been artificially inflated by public spending over the past five years. The COVID crisis would have been more damaging for financial assets without the stimulus plan(s) established by the previous Trump administration – 10% of GDP in direct aid to the economy for five weeks (10% of the year) of lockdown.
The current situation is comparable, with Trump’s ‘Big Beautiful Bill’ likely to send the US deficit deeper into the abyss. In such an environment, financial asset returns increasingly appear less interested in future fundamentals in favour of their current strength. After all, why focus on the future when all that matters for markets is the current state of the economy?
This week, Simply put examines this shortening of markets' investment horizon and asks if markets have shifted from being ‘forecasters’ to ‘nowcasters’?
Read more: Could high yield bonds become a more important asset over the next decade?
An increasingly short horizon
A simple way to challenge this idea of the market’s investment horizon becoming shorter is to calculate the correlation between economic growth and asset performance. Based solely on US data, both for economic growth and financial assets, Figure 1 presents the performance of stocks (S&P500), AAA bonds, the excess returns of BBB bonds, as well as commodities and the dollar over different periods, ranging from the ‘ugly seventies’, the subsequent period of disinflation, the Great Financial Crisis and its aftermath, and the recent five-year period that commenced with the COVID crisis (2020-2025).
In each case, we compare the correlation in real-time (growth and performance over the reference period) as well as with a lag, to measure whether financial markets are predictive or not. Focusing purely on stocks, we note1 that:
- Generally, future or current growth shows a higher correlation with stock returns than past growth – underlining the generally predictive nature of financial markets
- During the earliest three periods, the correlation tended to increase, rising from 9% to 76% (!) for the 2008 crisis period; However, the latest 2020-2025 period has seen this correlation decline to just 37% (lower than the periods spanning 1990-2007 and 2008-2019)
- Moreover, the correlation between returns and future growth collapsed to around 15% – a figure close to that of 1967-1989.
FIG 1. Correlation between US asset returns and economic growth2
Thus, not only have market returns seemed to decouple from the key indicator of economic fundamentals – or nominal growth – but they also seem to have lost interest in future economic prospects. This phenomenon is also present across the other asset classes during the 2020-2025 period; for all five asset classes, the absolute value of the correlation between past growth and current returns is higher than the other values.
In a nutshell: during this period, the market seems to have paid less attention to growth, especially future growth.
The current state of play
If we're more concerned about current economic prospects than future ones, then ‘nowcasting’ indicators can help improve our understanding of the current situation. Figure 2 presents a more detailed picture of the recent evolution of LOIM’s economic growth nowcasting signals across all of the economies we track.
The message from our indicators is quite clear:
- Before the onset of Trump’s trade war, the global economy was experiencing a period of nominal recovery, with central bank rate cuts stimulating growth, particularly in the industrial sector
- Since the trade war commenced, we have clearly captured signs of a slowdown in the US, with our nowcasting signal beginning to decline alongside that of the Atlanta Fed indicator
- Yet, this slowdown remains limited and seems to be showing more recent signs of stabilisation.
It is hard to find signs of a brewing recession here. Public deficits, which are better controlled, remain supportive for economic growth by limiting the depth of slowdowns for now. It's against this background that stocks generally rebounded in April. For a sustained market decline to occur, there would need to be a considerable deterioration in the current economic situation. In all likelihood, this would come as a surprise, as markets’ recent myopia suggests that we would only discover this scenario when it is at our doorstep.
For now, let's focus on the message of temperance: currently, economic growth remains solid and, with markets focused on this near-term situation, we will soon discover where this takes valuations.
FIG 2. Global economic growth nowcasters and percentage of data showing improvement3
Read more: Dialling up portfolio diversification when uncertainty prevails
Investment implications for multi-asset investors
With markets in nowcasting mode, sentiment has recently recovered but remains volatile and the economic situation lacks clarity, although valuation excesses are not yet present. In this context, our market exposures have recently regained some amplitude, with our positioning shifting from defensive to simply cautious.
Simply put, markets this decade have so far exhibited a certain myopia, which could persist as long as growth remains sufficient.
To learn more about our All Roads multi-asset strategy, click here.
Macro/nowcasting corner
The most recent evolution of our proprietary nowcasting indicators for global growth, global inflation surprises, and global monetary policy surprises is designed to track the recent progression of macroeconomic factors driving the markets.
Our nowcasting indicators4 currently show:
- The level of our growth nowcaster remained unchanged, staying below the 50% threshold in all regions except the Eurozone, where it is slightly above
- Our inflation nowcaster held steady, with China being the only region below the 50% threshold
- Our monetary policy indicator showed a slight improvement in the US and China, although it remains below the 50% threshold, and remains unchanged in the eurozone.
World growth nowcaster: long-term (left) and recent evolution (right)
World inflation nowcaster: long-term (left) and recent evolution (right)
World monetary policy nowcaster: long-term (left) and recent evolution (right)
Reading note: LOIM’s nowcasting indicator gather economic indicators in a point-in-time manner in order to measure the likelihood of a given macro risk – growth, inflation surprises and monetary policy surprises. The nowcaster varies between 0% (low growth, low inflation surprises and dovish monetary policy) and 100% (the high growth, high inflation surprises and hawkish monetary policy).
