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Economy

Equities boom extended by recent U.S. tax cuts

Northern Trust CIO expects slower growth over the next 5 years

Northern Trust’s Robert P. Browne

The current growth cycle in equities has been "elongated" by the U.S. tax cuts that went into effect earlier this year, said Robert P. Browne, chief investment officer of Northern Trust Corp., Chicago.

"You can't ignore ... whether there'll be a recession in the next five years," said Mr. Browne, who co-authored a five-year capital markets analysis the bank released Sept. 3, which is available on Northern Trust's website.

"There's higher risk now than a year or two years ago, but with the tax cuts, there's been reinvigoration in making bets on the economy."

Overall, Northern Trust expects a reduction of growth to 2% annually over the next five years vs. the current 4% growth rate, with globalization being dragged down by concerns over trade issues and tariffs, he said.

"At 2%, some see a recession," Mr. Browne said, "but we see a positive that will extend the expansion," though at the lower rate it will take longer for economic benefits to trickle down to the middle and lower classes.

Mr. Browne chairs Northern Trust's investment policy committee, which sets policy for all the bank's units, including Northern Trust Asset Management, which had $1.149 trillion in assets under management as of June 30.

In an interview on the report, Mr. Browne said expected single-digit annualized growth in equities and continuing low inflation will have the greatest impact on capital markets over the next five years. He also warned that the Federal Reserve could take action to counter what it might perceive as overheated growth.

Northern Trust forecasts an 2.8% interest rate for 10-year Treasuries and 4.6% annualized growth in global high yield over the next five years.

"If the Fed is looking to fight against inflation," Mr. Browne said, "it's the wrong fight. … A pre-emptive Fed is a dangerous Fed."

Mr. Browne also warned of the impact of an inverted yield curve on long-term fixed income, with more investors heading for short-term fixed income as a result. "Why invest five to 10 years when you could get the same yield in the short term?" he asked. "Risk capital goes to the short term, simple as that. Companies in need of long-term capital will find less willingness to invest."

However, those in a liability-driven investment strategy should avoid replacing long-term corporates with short-term bonds because of the risk of defaults. "We don't recommend playing the short-term game," he said.

The global political wave of populism is "here to stay," said Mr. Browne, which means monetary policy normalization will be difficult to achieve. "The Fed won't be able to return to their pre-crisis policy," he said. "In the age of populism, central bankers can't go back to center stage unless they screw up."

Also as a result of the populist rise worldwide, there will be more bilateral agreements and few multilateral institutional agreements, he said. For investors, "the risk is that it'll be hard to see a middle-of-the-road path. There will be constant swinging back and forth," he said.

Northern Trust also forecasts that technology will remain a constructive economic force despite more government interference, especially in China, and what it identified as the increasing monopolistic power of firms like Amazon Corp.