Transcript: Biggest caution on hot U.S. economy? Growing fiscal deficit

The possibility of a recession

LM I do think fears of recession have been overdone. GDP growth has been slowing in the U.S., but it’s slowing down from quite a strong positive. But, look, invariably, when you do start to see moderating or softer readings coming through, the growth outlook from this point will inevitably weaken, and that probability of recession might increase higher over the medium term. But when you look through to the other underlying measures, there’s a lot that still looks very strong and robust in the economy, and it still looks like it’s on track for a soft landing. So, I do see that there should be further upside in U.S equities. I don’t think we’ll see the type of return that we saw in the first half of this year, but I think equities can continue to grind higher from here through to the end of the year. But I think we will see more bouts of volatility, like we have just done.

Global comparisons

LM: So, if you look at U.S. real GDP growth over the last five years, it’s averaged 2.1%. If you compare that to, say, developed market ex U.S. real GDP growth, that’s averaged 1%. So, 2.1 versus 1% with the U.S. outperforming. If you look at nominal growth, you see a similar story. I think when you look at the U.S. growth and U.S. performance through history, it typically does go through cycles and periods of out- and under-performance versus other regions. And when you look at that strong performance, there’s really been four key enduring factors that have helped drive that. First, it’s the largest economy in the world – currently 26% of global GDP. Secondly, it’s the broadest, the most liquid financial market, not just in equity and debt but also private equity and venture capital. Thirdly, you’ve got demographics. Among developed markets, the U.S. has one of the better demographic outlooks. And then fourthly, it’s just that culture of innovation. The U.S. really does have a deep culture of supporting innovation and investment. It typically spends more on R&D than other nations, and U.S. productivity growth has been better than other developed markets over the last 25 years. Added to those kind of enduring factors, there’s a number of other factors relating to the current environment that I think will add to the U.S., in terms of a positive outlook going forward. We’ve seen deglobalization really take hold across many countries, and the U.S. really is seen to be a winner in this deglobalization trend. And then there’s energy independence. So, we saw a shift in the U.S. from being a sizable importer of oil to an exporter of oil. And that’s been really positive for the U.S. And then, finally, the AI theme should benefit the U.S. going forward. Now, there is one medium term risk I would call out. It would be the U.S. fiscal deficit. There is general recognition that fiscal positions need to be addressed at some point. And when we look at the two potential candidates for the U.S. election this year, you’re unlikely to get an agreement to reduce debt in the short term.

And finally, the bottom line for U.S. equities in the current moment

LM: We still see some upside, given that positive economic backdrop, albeit growth is moderating. We’re seeing an increased rate of earnings growth and broadening out of earnings recovery across all sectors. With rate cuts coming through, that should be positive for markets in a non-recessionary environment, which would be our base case. You’ve got a robust earnings outlook, you’ve got strong consumer and corporate balance sheets, demographics are more favourable for the U.S. than other developed market regions, and the U.S. is likely to benefit to a greater extent from the AI theme and the deglobalization trend that we are seeing. The obvious risks to that view is downside surprises to growth and inflation and, as I mentioned before, the U.S. fiscal deficit.

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