We extended our view to overweight equities over fixed income as valuation was still accommodative for equities but extended for fixed income. We also added to various commodities complexes such as copper and steel producers. Equities have outperformed Fixed Income by 10% year-to-date while copper and steel prices are up 19% and 13% respectively. We reinstated our bullish USD view at the start of the year premising on stronger growth differential of the US vs ROW alongside rising inflation and a more hawkish Fed versus other regions. A terrible wrong call as the Dollar Index fell -8% when the upshot of inflation in the US we were expecting did not materialize and the absence of reflation from the failure of Trumpnomics exacerbated its drop. We advocated a relative value trade overweighing EM debt over EM equities as the specter of protectionism between the US and EM ratchet and uncertainty in US foreign policy prompted the preference for safety in debt instruments than equities while still capturing the growth differential EM had over DM; It’s complicated. That was the costliest strategic mistake for a good part of the next 6 months as EM Equities outperformed EM bonds by 20% and was the best performing region within equities.

As we moved into the half-year mark, all asset prices continued to rally but we witnessed a potentially deadly combination of global growth transitioning from an accelerated growth phase to a stable growth phase while earnings momentum have also started to roll over in April’s Don’t forget to breathe and June’s Clairvoyance. These observations prompted us to reduce our overweight in equities and to hedge for risk-off scenarios by adding long-dated US Treasury in our fixed income portfolio while reducing our commodities trades opting to buy Gold as a defensive hedge. By August, in our And the three bears never saw her again musing, we have altered our longstanding view to be overweight equities bringing down to neutral while raising substantially more cash than we had in a year. We argued that strong global growth in 1H17 will not be replicated and have forecast a slowdown in the pace of growth instead. We have little experience to understand the effect of QT as it draws closer beyond the circumstantial knowledge when the flow of central bankers’ balance sheet turns negative, the concomitant effect is the decline in bonds and equities prices and the theoretical expectation that Fed’s QT will add 15-20bps increase in rates every year on top of its prescribed cumulative 125bps 4-hikes from now till end of 2018. Given our apprehension, we raised more cash to 15-20% of the portfolio. Nonetheless, we acknowledged that markets can go parabolic and built up plenty of irrational exuberances before bear market ensues in The epitaph of QE and his mates. We presented empirical data to show that it doesn’t benefit much in selling ahead of a bear market, assuming one has the prophetic ability to foretell one or selling after a bear market. While we have raised cash, we have added numerous options strategies that will benefit should the market melts up without putting too much capital at risk. It last month’s edition Are we there yet, Minsky? we elucidated the anatomy of a financial crisis according to the economist, Hyman Minsky, and concluded the past years of experimental unorthodox monetary policies and the unintended consequences that came along with have all the hallmarks of a potential financial crisis in the making.

However, we are comforted by two recent developments. First is the willingness of central bankers to delink the unwinding of their balance sheet and the much-needed normalization of interest rates. This new-found confidence in central bankers is critical as it accommodates future policy responses should another crisis erupts global or in local economies. For example, the Fed has begun unwinding its balance sheet last month, if a crisis erupts 12 months later, they would have the ability to pump prime the economy with $600bn they have unwound during this period. Likewise, on interest rates, the Fed has moved away from its zero-bound constrain for a good part post GFC by raising rates from 0% in 2015 to 1.25% now and it anticipated to raise another 125bps to 2.50% by end of 2018. If a crisis evolves, they have the latitude of cutting rates back to 0%. We note that PBOC, Bank of Canada and Bank of England have also rebuilt their policies arsenal by embarking on the dual path of reducing the quantity of money and normalizing cost of money in the past 12 months. However, we are more worried about ECB and BOJ as their policies remain unchanged and we believe they are behind curve in normalizing.

The second development is we are surprised by the momentum of the global economy. Hard and soft data thus far are indicating GDP growth of 3.4% in 2H17 as strong as 1H17 growth debunking our earlier fear of a slower 2H. Critically, a 3.4% global GDP prints in the past 2 halves are a good 20bps above global potential. The latest The J.P. Morgan global all-industry output PMI in October edged up one-tenth to 54.0 in October; a reading that is consistent with 3.2% annualized growth in global GDP for the early part of 2018. On the back these strong than expected data, we are seeing consensus upgrading 2018 GDP forecast noticeably from 3Q17 onwards. The current consensus forecast is for global GDP growth to end 2017 at 3.4% and for 2018 to grow by 3.6%.