hero july market commentary

Allianz Investment Management LLC Updated Market Outlook

Representatives from Allianz Investment Management LLC provide commentary on market and economic indicators, including Federal Reserve actions, interest rates, credit markets and economic releases such as inflation, GDP, consumer confidence, housing, retail sales and job unemployment news. Here is their updated insight on the economic and market outlook for the rest of 2021.

business team talking

Key points:

  • Risks associated with the global pandemic have begun to fade, and a consumer driven recovery is expected to take off

  • A unified government paved the path for an upsized fiscal spending package that is also expected to add to economic growth

  • The interest rate curve continued to steepen on growth and inflation expectations, while the Fed continues to look the other way

  • Higher rates have caught the attention of investors, but the strong economic backdrop will likely bring above-average returns for the year


Market update: Strongest growth in decades

Following a breif soft patch at the beginning of the year, the economic recovery has picked up and areas of notable concern, like the labor market, have started to turn around. In December 2020, 227k jobs were taken out of the economy, and the latest data from February showed that 379k jobs came back to the economy. The U.S. government has stepped up their fiscal spending measures in a major way with the passage of the COVID-19 relief bill which is intended to bridge the gap and provide relief for many Americans struggling with the ongoing pandemic. Economically speaking, it’s a shot in the arm to speed up the recovery as it sets the backdrop for very strong growth in the second half of the year. Furthermore, the pace of vaccinations in the U.S. opens the door for a less restrictive economy and more opportunity for consumers to spend. As risks to the economic recovery continue to fade, the backdrop for a strong rebound in growth has been set in motion. Along with the additional growth comes higher interest rates, and investors are starting to pay attention to long-term rates. The higher-interest-rate regime will likely induce some turbulence to the market, but it’s becoming more apparent that it’s going to take a lot more to send the trajectory of this economic recovery on another course. At the end of the day, there is too much pent up demand, and consumers will have the means to deliver the strongest growth we have seen in decades, so enjoy the ride.


Updates to 2021 U.S. Economic and Market Outlook

1 Light BulbLight Bulb

U.S. GDP 5.00% - 6.00%

The backdrop for economic growth has become quite favorable as significant progress toward vaccinating the U.S. population has also been accompanied by a decline in virus cases. In addition, Congress has approved a $1.9 trillion fiscal spending package that puts additional funds into the pockets of consumers, who already have the wherewithal to spend. As the economy begins to open back up and become less restrictive, we expect much of the household savings, along with fiscal stimulus, will be spent. In this setting, jobs will be returning to the economy, consumption will be strong, and temporary inflation pressures could persist. All of which would be more reminiscent of the post-war recovery rather than the economic recovery that dragged out following the last financial crisis. All in all, we are expecting the U.S. economy to grow between 5.00% and 6.00% in 2021, which is something that hasn’t happened in over 20 years.

2 Line GraphLine Graph

U.S. Inflation 1.80% - 2.30%

There have been many debates on inflation in recent months which is dividing market participants into two camps. On the one side, some participants believe the U.S. economy is entering a new regime, one in which policy errors both fiscal and monetary will lead to higher inflation levels that we have not witnessed in decades. On the other side, some participants believe thematic forces such as rapid changes in technology will continue to weigh on inflation, and any demand-driven inflationary pressures in the near term will likely be short lived. Our view aligns more with the latter, and while we may see some demand-pull inflationary pressure on a temporary basis, it is yet to be determined how long this will persist.


Fed Funds 0.00% - 0.25%

With economic growth projected to be better than initially expected at the beginning of the year, market participants have begun to price a lift-off from the Fed sooner rather than later. The Fed has communicated that policy rates will remain at zero through 2023, but current market prices now indicate that a 25-basis-point hike in March of 2023 is more likely, and two rate hikes are fully priced in for 2023. Despite market participants pulling forward their expectations for rate hikes, the Fed has pushed back on that notion with Fed officials making a strong commitment to average inflation targeting. At any rate, we all can agree that policy rates are not going anywhere anytime soon, and thus we expect the Fed funds rate to remain at the zero bound throughout 2021.

3 StocksStocks

U.S. Rates 1.50% - 2.00%

Along with higher expected growth comes higher interest rates, and that has been the case throughout February and early March as the benchmark 10-year Treasury yield has risen quite precipitously. The primary drivers behind higher long-term rates have been a combination of increasing growth expectations as well as higher expected inflation. Throughout the recent rise in long-term rates, the Fed has been fairly silent on the topic, as the increase has not threatened the economic recovery. Fundamentally, the move in rates is in line with the expected economic backdrop, but investors continue to believe the move has been too far and too fast. Going forward, the challenge for the Fed will be the balance between rising long-term rates and its effect on the real economy, and in particular, they will need to be especially careful as they communicate the slowdown of their bond purchases. Overall, the risks are still tilted toward higher rates at this time, but we expect the 10-year Treasury yield will likely end the year within our range of 1.50% to 2.00%.

4 CollaborateCollaborate

U.S. Equity 7.50% - 12.5%

The backdrop for equities remains positive as the virus has retreated faster than we anticipated, and the pace of the vaccine rollout has exceeded our original expectations. We continue to expect bouts of volatility as forecasting the post-pandemic economy will be fraught with challenges, and only time will tell how quickly prior trends reemerge and to what extent human behavior mirrors the recent past. We continue to be positive on U.S. equities as earnings growth is expected to be robust in 2021-2022 at a rate above 20% and with interest rates expected to remain low from a historical perspective behind an accommodative Federal Reserve. With interest rates increasing, we are expecting to see a continued rotation into cyclical sectors and away from technology as the recent trend reverses. This rotation trade is removing some of the market excesses that built up, which provides another potential reason for the Fed to be patient on hiking rates. The near-term prospects of rising inflation leading to further sector rotation was a primary reason we modestly bumped down our year-end target for U.S. equities. We acknowledge that the market is closely watching the speed and magnitude of rising interest rates and trying to decipher how the Fed will react. For now, we are inclined to take the Fed at their word that they are willing to let inflation run at the higher end of their range to ensure the economy is firmly on the path to recovery.

Risks to the outlook

When we look collectively at the balance of potential risks, our assessment is that the overall balance appears to have shifted more positive than we were a couple of months ago. This is primarily based on a more favorable outlook on the virus, with reported cases dropping significantly during a period that was expected to remain elevated. The distribution of the vaccine also appears to be ramping up faster than original estimates with the current projections indicating a significant portion of the population will be fully vaccinated by the middle of this year. Additionally, with the Democrats gaining full control of Washington, it paved the way for additional stimulus leading to higher estimates of GDP growth for the year. While the balance of risks has tilted more positive, we are still mindful of the potential risks that could negatively impact our outlook. One of the significant risks that remains is the many variations of the virus and the ability of the vaccine to remain effective against ongoing mutations. Any significant setbacks on vaccine efficacy would understandably be sharp and severe on both the economy and capital markets. Another key concern for investors is the level and pace of inflation and whether higher inflation appears to be long lasting. How quickly inflation surfaces and to what level has big ramifications on Fed policy and whether they switch from an easing to a restrictive policy. To the extent that interest rates overshoot to the upside, this could have broader implications for risk assets. Lastly, growth expectations for the year have been built on the assumption that consumption will be quite strong, and there is a risk that consumers could hold back from spending once the economy opens back up.


List of definitions

Here are the definitions of the key terms used in this market report.

The views, opinions and estimates expressed above reflect the views of Allianz Investment Management LLC (AIM LLC) as of the date of publication. This document is provided for informational purposes by AIM LLC, a registered investment adviser that is a wholly owned subsidiary of Allianz Life Insurance Company of North America. These views may change as interest rates, market conditions, tax rulings and other investment factors are subject to rapid change which may materially impact analysis that is included in this document. This report does not constitute a solicitation or an offer to buy or to sell any security, product, or service. It is not intended and should not be used to provide financial advice as it does not address or account for an individual's circumstances. Consult with your advisor and tax professional before taking any action based upon the information contained in this document. Past performance does not guarantee future results and no forecast should be considered a guarantee. Any investment and economic outlook information contained in this document has been compiled by AIM LLC from various sources, including affiliated entities. AIM LLC takes reasonable steps to provide up-to-date, accurate and reliable information, and believes the information to be so when provided, but no representation or warranty, express or implied, is made by AIM LLC as to its accuracy, completeness, or correctness.

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