Mercer's head of asset allocation says US is nearing end of business cycle

13 September 2018 3 min. read
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Rupert Watson, head of asset allocation at Mercer, stated that the US economy may be nearing the end of its boom times in a segment on Bloomberg TV. Watson expects a mild recession at the back end of 2019, into 2020.

The US economy has seen 9 years of growth since the Great Recession ended in 2009. US markets have seen bullish growth, with particularly strong US technology sector performance. However, markets – unlike technology – are cyclical, and indications point to the US being at the end of its business cycle.

For one thing, the expansion phase of the business cycle has historically lasted about five years. Furthermore, there hasn’t been any inflation, which typically means that the expansion phase is reaching into the peak segment of the business cycle. Meanwhile government debt is high, while corporate America’s net debt-to-earnings ratio is at its highest level since 2003.

According to Fortune magazine, factors like Trump’s hostility to immigration amid dwindling labor supply, his ill-informed trade war, and rising interest rates and oil prices are other drivers that could usher in the contraction phase of the business cycle.

In conversation with Bloomberg, Rupert Watson, head of asset allocation at HR consultancy Mercer, reaffirmed the creeping sentiment that the US economy may be approaching the end of its expansion phase. As part of its Wealth services practice, Mercer manages over $200 billion in investment assets.Mercer's head of asset allocation says US is nearing end of business cycleWhen asked what one’s investment strategy should look like in September, Watson answered, “I think that over the last few months, obviously, it’s all been about the trade war or at least the trade tensions between the US and most other parts of the world. The US economy continues to power ahead, US equities continue to power ahead, seemingly unaffected by any of the tensions.”

The investment expert, nonetheless, tempered that enthusiasm. “The US is, however, approaching the end of its cycle. The US economy has been growing very strongly for a little while, and unemployment is low and likely to go even lower over the next few months. Indeed, we expect unemployment to fall to 3.5% or even below 3.5% by next year. And that’s pretty much by anyone’s guess below full employment. And with inflation already pretty much at target, and likely perhaps to go a little above target, we think the Federal Reserve will keep going.”

The US Federal Reserve previously instituted a rate hike of 0.25% in June.

“And that does mean, at some point, I think the US would be due for a period of underperformance,” stated Watson. “Where that starts or when that starts, I’m not entirely certain. And of course companies like many of the tech companies are sort of slightly odd companies in that they’re not really moved around by the ups and downs of the US or global economy, but moved by slightly different forces.”

When asked if the US would see a recession before markets saw a peak in stocks, Watson replied, “It’s difficult to know and in some ways it depends on what you mean by ‘recession’ because recessions can take many different flavors. There’s the sort of gut-wrenching recession that we saw from 2007-9, and then there’s much milder ones that we’ve had in the past.”

Watson continued, “My guess is that the US economy overheats over the next 18 months or so, and that forces the Federal Reserve to raise rates above neutral to well higher than it’s priced into the market at the moment, which causes a material slowdown at the back end of 2019 into 2020.”

Mercer’s head of asset allocation, however, believes that the upcoming economic contraction will be mild. “Because the US banking system and indeed the global banking system is in fairly good shape, and indeed that other parts of the world are not towards the end of their cycles, I think that that major slowdown in the US will only be a mild recession. And ultimately, while there will be falls in equities at some point before then, I’m not expecting anything too nasty.”