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Quadruple real rates? Ageing may turn to market headwind: Mike Dolan

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© Reuters. FILE PHOTO: People queue for food in the financial district of Canary Wharf in London, Britain, May 18, 2022. REUTERS/Kevin Coombs

By Mike Dolan

LONDON (Reuters) – If you were hoping this was all a bad dream, take a deep breath.

Many investors craving some return to “normal” from the wild economic and market distortions of the pandemic and this year’s war in Europe tend to rely on the glacial grind of ageing populations as guiding light back to trends of recent decades.

Shocks to supply of labour, goods, energy and food around COVID-19 and Russia’s invasion of Ukraine will likely resolve themselves eventually while the world continues to grey regardless, many argue.

And as that inexorable force has for four decades created a “savings glut” depressing real interest rates and inflating asset values generally, it will return and overwhelm again.

But even that cold comfort now being rethought.

Over recent years some economists, including former bank of England policymaker Charles Goodhart and ex Morgan Stanley (NYSE:MS) economist Manoj Pradhan, have argued that – unlike Japan’s experience of deflation and falling economic potential – ageing populations and worker shortages may in fact prove inflationary.

And this week JPMorgan (NYSE:JPM)’s long-term strategists Alex Wise and Jan Loeys released studies suggesting the decades-long influence of demographics on savings and investment trends had already turned and would now be a factor forcing real, or inflation-adjusted, yields higher over the coming decade.

Even though population ageing continues, possibly even exaggerated by the pandemic, the JPMorgan model hinges on how it affects private and public savings behaviour relative to investment before and after big retirement waves.

The nub of the argument is that savings swelled over recent decades as outsize “boomer” population cohorts neared retirement and saw life expectancy after retirement increase sharply. People ramped up savings for likely longer twilight years out of work.

But now as they actually do retire and old-age dependency ratios rise, they actively run down those savings while governments also “dissave” even more to support them via healthcare and pension provisions.

Using data from almost 200 countries over 60 years to 2020, Wise and Loeys concluded there was a clear “demographic reversal” around 2015 as rising old-age dependency overtook life expectancy as the main household influence on savings and started to exert upward pressure on global real yields.

The link with government saving was less clear, but they forecast public dissaving would increase as the share of retirees mounts.

And it’s the aggregate picture that matters most given that large pools of private and public savings have for year proven mobile across borders, not least in seeking safe havens and reserves in the likes of U.S. bond markets.

And much like the popular economic and TV trends of the moment, it could see us catapulted back 40 years in terms of bond market returns.

“By 2030, the effect of demographics on real interest rates will likely revert to a level last observed in the 1980s,” JPM concluded, showing charts illustrating how extrapolated population and savings trends tallied with real yields on U.S. aggregate indices of all U.S. bonds.

GRAPHIC: Real Benchmark Yields (https://fingfx.thomsonreuters.com/gfx/mkt/akvezlekjpr/Three.PNG)

GRAPHIC: JPMorgan chart on Real Yields and Demographics (https://fingfx.thomsonreuters.com/gfx/mkt/zgpomdagzpd/Two.PNG)

BACK TO THE FUTURE

Given those parameters, a return to the 1980s could see U.S. Agg real yields back about 5% by the end of the decade from negative right now.

The implications of that shift in all asset market valuations could be immense.

To be fair to JPMorgan, they twin the paper with another showing how errors in long-range, or 10-year out, economic forecasts over the past 40 years tend to be large and over-optimistic and better in real rather than nominal terms.

Real 10-year Treasury yields have consistently undershot 10-year forecasts and the standing 2032 consensus forecast is for it to remain less than 1%. Against that, a 5% real yield outcome would be quite a shock indeed.

Yet in a season where many asset managers are compiling “secular” five-year outlooks that aim to see through prevailing inflation, policy and economic headaches, the demographic question is central to where you see the world re-emerging.

And not everyone is convinced it’s changed that much.

Giant bond manager Pimco concluded this week that while the world has moved beyond the “new normal” of the teen years, it was only entering a “new neutral” period where low real rates would endure.

“The secular factors that have driven neutral policy rates lower – including demographics, the global savings glut, and high debt levels – will likely continue to anchor policy rates at low levels,” Pimco’s Joachim Fels, Andrew Balls and Dan Ivascyn wrote in their five-year outlook.

Nominal Treasury yields may be higher due to greater macro and inflation volatility, they added, and demand from investors for higher “term premia” to compensate for holding bonds over long periods.

But would a shocking re-rating of real yields along the lines of JPMorgan’s model have an equally big impact on stock markets?

It would certainly tally directionally with long-range historical studies that suggest equity prices need to descend much further that the more than 20% they’re suffered in this bear market so far.

Societe Generale (OTC:SCGLY)’s quantitative analyst Solomon Tadesse looked at market crises and recoveries over the past 150 years and concluded that the S&P500 needed to lose another 15% or so from here to be consistent with where valuations previously levelled out over that time.

But if 5% real yields were on the horizon, that may only be the beginning.

GRAPHIC: Societe Generale Chart on Market Crises (https://fingfx.thomsonreuters.com/gfx/mkt/gdvzygkokpw/One.PNG)

GRAPHIC: 40-year Bull Market (https://fingfx.thomsonreuters.com/gfx/mkt/byvrjamynve/Four.PNG)

The author is editor-at-large for finance and markets at Reuters News. Any views expressed here are his own

(by Mike Dolan, Twitter (NYSE:TWTR): @reutersMikeD; editing by David Evans)

Economy

Futures rise as easing China COVID curbs lift travel, leisure stocks

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© Reuters. A trader works on the floor of the New York Stock Exchange (NYSE) in New York City, U.S., June 22, 2022. REUTERS/Brendan McDermid

By Shreyashi Sanyal

(Reuters) – Travel and leisure shares propped up U.S. stock index futures after China relaxed some COVID-19 quarantine requirements for international travelers, raising hopes of a revival in global growth.

Airlines, cruises, casinos and hotels were among the gainers in premarket trading after China’s slashing of the quarantine time for inbound travelers by half boosted hopes of a big jump in international travel and spending.

Shares of Walt Disney (NYSE:DIS) Inc rose 2.5% to top the list of gainers on the Dow Jones Industrial Average, after the company’s Shanghai Disney Resort said it would reopen the Disneyland theme park on June 30 after being shut for more than three months.

Spirit Airlines (NYSE:SAVE) and American Airlines (NASDAQ:AAL) Group Inc were the biggest gainers in the sector, rising 4% and 2% respectively.

Melco Resorts jumped 10% and led the rise in the casino sector, closely followed by Wynn Resorts (NASDAQ:WYNN), MGM Resorts (NYSE:MGM) International.

Wall Street’s main indexes started the week on soft footing after worries of surging inflation and an aggressive Federal Reserve dominated sentiment amid few market moving catalysts till the start of earnings season in two weeks.

Investors are now looking at data to determine whether the economy can withstand large interest rate hikes by the U.S. central bank to stamp out inflation.

A survey from the Conference Board is expected to show its consumer confidence index slipped to a reading of 100.4 in June, from 106.4 in May, at 10 a.m. ET.

The S&P 500 and the Nasdaq are set to post losses in June and are on course to log two straight quarterly declines for the first time since 2015.

At 6:49 a.m. ET, Dow e-minis were up 175 points, or 0.56%, S&P 500 e-minis were up 20 points, or 0.51%, and Nasdaq 100 e-minis were up 52.25 points, or 0.43%.

Nike Inc (NYSE:NKE) shed 2.8% as it forecast first-quarter revenue below estimates on expectations of more discounts and pandemic-related disruptions in China, its most profitable market.

Occidental Petroleum Corp (NYSE:OXY) climbed 3.1% after top investor Warren Buffett raised stake in the shale producer.

China ADRs also rose on Beijing easing its COVID curbs, with e-commerce firms Alibaba (NYSE:BABA).com, JD (NASDAQ:JD).com and Pinduoduo (NASDAQ:PDD) up between 1.2% and 1.4%

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Economy

Euro below $1.06 as Lagarde keeps July policy options open

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© Reuters. A shopper pays with a ten Euro bank note at a local market in Nice, France, June 7, 2022. REUTERS/Eric Gaillard

By Saikat Chatterjee

LONDON (Reuters) – The Aussie and the Canadian dollar climbed on Tuesday on firmer oil prices while the euro held below $1.06 as European Central Bank (ECB) President Christine Lagarde offered no fresh insight on the central bank’s policy outlook.

The ECB is widely expected to follow its global peers by raising interest rates in July to check soaring inflation though economists are divided on the magnitude of the rate hike to protect a struggling economic recovery due to high oil prices.

Oil prices are up 10% in barely a week on supply constraint concerns with Brent crude holding above $117, pushing the Canadian dollar and the Australian dollar up 0.3% and 0.4% respectively. [O/R]

“Oil is helping the Norwegian crown and the Canadian dollar to outperform and the euro is again running into resistance at the 1.06 level,” said Kenneth Broux, an FX strategist at Societe Generale (OTC:SCGLY) in London.

The euro held below $1.06 after the ECB’s Lagarde said the central bank would move gradually but with the option to act decisively on any deterioration in medium-term inflation, especially if there were signs of a de-anchoring of inflation expectations.

Money markets are pricing in about 238 basis points (bps) of cumulative rate hikes by mid-2023 compared to around 280 bps two weeks ago.

Broader currency market moves were contained in a big week for markets in economic data terms. German inflation figures are due on Wednesday, French data on Thursday and euro zone numbers on Friday.

At the other end of the dial, higher oil prices caused the partially convertible Indian rupee to open at a record low, and fall further to 78.67 per dollar.

The U.S. dollar index struck a two-decade high of 105.79 this month and was last steady at 103.93.

Elsewhere, the offshore Chinese yuan moved higher after China reduced COVID quarantine for international travellers.

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Economy

China’s economy recovering but foundation not solid, premier says

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© Reuters. FILE PHOTO: Chinese Premier Li Keqiang is seen on a screen as he attends a news conference via video link after the closing session of the National People’s Congress (NPC) in Beijing, China March 11, 2022. REUTERS/Ryan Woo

BEIJING (Reuters) -China’s economy has recovered to some extent, but its foundation is not solid, state media on Tuesday quoted Premier Li Keqiang as saying.

China will strive to drive the economy back onto a normal track and bring down the jobless rate as soon as possible, Li was quoted as saying.

“Currently, the implementation of the policy package to stabilise the economy is accelerating and taking effect. The economy has recovered on the whole, but the foundation is not yet solid,” Li was quoted as saying.

“The task of stabilising employment remains arduous.”

China’s economy showed signs of recovery in May after slumping the previous month as industrial production revived, but consumption remained weak and underlined the challenge for policymakers amid the persistent drag from strict COVID-19 curbs.

China’s nationwide survey-based jobless rate fell to 5.9% in May from 6.1% in April, still above the government’s 2022 target of below 5.5%.

In particular, the surveyed jobless rate in 31 major cities picked up to 6.9%, the highest on record. Some economists expect employment to worsen before it gets better, with a record number of graduates entering the workforce in summer.

Li vowed to achieve reasonable economic growth in the second quarter, although some private-sector economists expect the economy to shrink in the April-June quarter from a year earlier, compared with the first quarter’s 4.8% growth.

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