SVB
201
4 4:Q1
Quarterly
Economic
Report 2017
SVB Asset Management| Quarterly Economic Report Q1 2017 0117-0005GUEXP0517
Table of ContentsThoughts from the desk3
Overview4
Domestic economy6
Central bank monetary policy12
Markets and performance17
Global economy24
Portfolio management strategy28
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SVB Asset Management| Quarterly Economic Report Q1 2017 0117-0005GUEXP0517
Thoughts from the desk
Perking up for 2017
Nap time is over. After a sleepy third quarter, financial markets woke up late in the year and vigorously reacted to a flurry of activity and data. The chief catalyst was
the surprise election of a new Commander-in-Chief. After initial unease, financial markets took a liking to the prospects of President Trump and a Republican
controlled Congress, seeing an opportunity for tax cuts, spending increases, and less regulation. But the anticipated fiscal stimulus, along with a more hawkish
Federal Reserve, rings in the New Year with slightly elevated uncertainty.
As the U.S. economy enters the later stages of the business cycle, the Fed announced its intentions to gradually raise its benchmark interest rate three times in
2017. Policy shifts, both monetary and fiscal, could impact confidence in the U.S. economy. Although the economy is expected to continue its growth trajectory in
the low-2 percent range, any added stimulus might push growth to 2.5 percent in the latter half of 2017. Should a meaningful spending package become reality, the
U.S. economy will likely benefit from continued robust consumer spending, rising construction activity, and a rebound in business investment. However, there are
several key risks worth monitoring. On the trade front, global markets would not react well to new U.S. protectionist policies. And should the Fed continue to remove
monetary accommodations, the dollar would be expected to rise. However, a much stronger dollar could be a drag on net exports and real GDP.
Strong recent economic data, including the decline in unemployment to a nine-year low, rising wages, and a robust recovery in energy prices should help push
inflation up to the Fed’s 2 percent preferred target in the medium term. This inflationary momentum would validate any anticipated rate hikes in 2017. Perhaps the
bigger question is: Will the current economic momentum, coupled with fewer regulatory constraints, boost economic growth beyond the Fed’s current projections
There are, of course, risks, and any monetary or fiscal policy missteps could stall economic growth. For example, the Fed could raise rates too quickly. Or the new
administration’s trade amendments might even lead to a trade war. Given these risks, we continue to favor a conservative approach to duration and believe that an
overweight position to short maturity corporate credits is a sensible way to capture income. We also believe that a tactical allocation to government securities could
be prudent in an environment of fiscal uncertainty and less monetary accommodations.SVB Asset Management| Quarterly Economic Report Q1 2017 0117-0005GUEXP0517
Overview
êFollowing a muted third quarter, volatility has re-emerged primarily due to
the U.S. presidential election. Current market dynamics may prove to be
somewhat temporary as fiscal policy plans are laid out. However, the
Federal Reserve responded by tightening monetary policy.
êAt the December FOMC meeting, the Federal Reserve raised the Fed
Funds target rate for the first time in 2016, attributing the action to their
view of both realized and expected labor market conditions and inflation.
The rate increased by 25 basis points to a range between 0.50 and 0.75
percent.
êLooking ahead, Fed members’ rate projections indicate a steeper path for
interest rates in 2017. Based on median rates, the Committee expects
three quarter-point rate increases in 2017.
êCompared to other major economies, the U.S. stands alone as being in a
tightening mode. Other central banks continue to monitor the effects of
earlier stimulus on the economies to judge whether additional monetary
easing may be needed.
Central bank monetary policy
êEconomic activity has been healthy with Q3 GDP at 3.5 percent. The third
revision revealed stronger spending than was originally estimated on
services, intellectual property and construction by state and local
governments.
êThe latest GDP figure supported the Federal Reserve’s case for raising the
Federal Funds rate for the first time since 2015.
êConsumer sentiment spiked in December following Donald Trump’s victory
as consumers viewed the win as positive for their finances and the U.S.
economy.
êIn 2016, the U.S. economy added over two million jobs, maintaining the
trend over the last few years of more than two million jobs added per year.
êThe unemployment rate has run below five percent for the majority of the
year. Minutes from the last FOMC meeting of 2016 showed that
participants anticipate the unemployment rate will run below normal longer-
run levels.
êWage growth jumped in December to 2.9 percent. If the trend continues, it
will add to future inflationary pressures and support the case for further
rate hikes by the Federal Reserve.
Domestic economySVB Asset Management| Quarterly Economic Report Q1 2017 0117-0005GUEXP0517
Overview
êMajor economies firmed to end 2016. Even with numerous headwinds
present –– particularly political uncertainties –– economic activity
was primarily in expansion mode, and in some areas growth was at a
healthy clip.
êCanada’s economy is rebounding from low oil prices, with growth
accelerating into the year-end helped by consumer spending and exports.
The country still faces numerous challenges, including a hot real estate
market and rising household debt. Nonetheless, bank asset quality
remains steady and the country may benefit from a weaker currency and
supportive monetary policy.
êAustralia continued to grow through the recent commodity bust as the
economy expanded, in part, from favorable demographics. While growth
slowed into year-end and the labor market is in a mild recovery, domestic
demand has been supportive of a stable economy.
êStability in the Nordic region endures, with low oil price concerns
alleviated. While the region is marred by elevated housing prices, asset
quality at banks remains strong. In Norway, a rise in government spending
is propping up the economy, while economic conditions in Sweden remain
strong. Domestic demand and an improving labor market underpin
Denmark’s stability, while Finland’s banking system was named the world’s
safest by the World Economic Forum.
Global economy
êU.S. investment grade and high-yield spreads closed 2016 at their tightest
levels since April 2015 and September 2014, respectively. At the sector
level, utilities/energy outperformed as spreads tightened, largely due to
stable oil prices following the OPEC agreement.
êU.S. equities saw solid gains in 2016, buoyed by a post-election rally that
pushed the major indices close to their all-time highs.
êThe prospect of increased fiscal stimulus, higher inflation and a brighter
assessment of U.S growth resulted in higher U.S. Treasury rates making it
the worst-performing sector on a total return basis.
êCorporate credit fundamentals remain solid overall, particularly among
larger and higher-quality companies. Credit metrics remained little
changed from the previous quarter across all sectors.
êInvestment-grade corporate spreads generally tightened over 2016 and
fundamentals are expected to remain resilient in 2017.