Top of the Morning: Roaring 20s - Roaring at the Midpoint
The desk asserts that the current US economic momentum aligns well with conditions characteristic of a 'Roaring 20s' environment, as public sentiment grows increasingly positive. Per the full note from UBS, economic growth is tracking at approximately 3% for Q4 2024, potentially bringing full-year GDP growth to around 2.8%. This growth rate surpasses the defined threshold of 2.5% and indicates a regime marked by high inflation and rising rates. However, no significant economic calendar events loom, which could challenge this optimistic scenario.
What the desk is arguing
The desk believes the US economy is on track for a Roaring 20s revival, characterized by strong growth and elevated inflation. Per the full note from UBS, expectations for Q4 GDP suggest robust activity, hinting at economic conditions that support higher-risk asset valuations.
The GDP tracking estimate of 3% for Q4 affirms that the US economy not only meets but exceeds the benchmarks UBS outlined a year ago, where a growth rate of 2.5% or higher was flagged as indicative of a roaring environment. Such growth bodes well for risk appetites in the market, given historical parallels drawn by UBS in their assessments.
The alternative perspective that declining consumer confidence or unexpected negative macroeconomic prints could derail this momentum remains on the fringe, as current indicators suggest a thirst for growth in financial assets across sectors.
01US GDP tracking at 3% for Q4 2024 indicates robust economic health.
02Conditions are emerging that may support a higher growth, higher inflation regime.
03The 'Roaring 20s' narrative is echoed in increased investor optimism and risk appetite.
04No significant calendar events on the horizon might dilute current positive sentiment.
Market implications
Traders should monitor how the dollar responds to this economic optimism, particularly if it approaches the resistance near 1.10 against the euro. Additionally, attention to shifts in market positioning among risk assets may signal whether the current trend remains sustainable.
Risks to this view
Key risks to the bullish narrative include potential shifts in inflation data that could prompt a more hawkish stance from the Federal Reserve, contradicting the current favorable growth outlook. Unexpected geopolitical tensions or significant market corrections could also throw the Roaring 20s narrative into question.
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Hi, everyone. Dan Cassidy here. Welcome back to Top of the Morning on the UBS Market Moves podcast channel.
Over the past few years, financial markets and growth indicators have broadly surprised to the upside, this leading to more optimism and animal spirits as the decade reaches the midpoint. Now, back in 2023, the UBS Chief Investment Office wrote about the likelihood of a Roaring 20 scenario, and authors Jason Draho, head of asset allocation for the Americas, as well as Paul Hsiao, asset allocation strategist for the Americas, actually both joining us today here in studio in New York to share their revised assessment of the Roaring 20s environment for the U.S. economy. This comes in the form of a recently published report.
Title is Roaring at the Midpoint. So with that, Jason, Paul, it's great to have you both here today at the table. A lot to cover with our listeners.
So let's jump right into it. Jason, it's been a half a year at this point since the last update of the Roaring 20s. And back at that time, the Chief Investment Office wrote that the roar is getting a little louder, an optimistic assessment.
So Jason, now that we're beginning a new year, 2025, are conditions still roaring? The title kind of gives it away to some extent. We're saying like roaring at the midpoint.
The way we kind of define it, this is somewhat subjective, but a set of economic criteria that we laid out over a year ago to define what we consider the economy to be sort of roaring or in a regime that is clearly like a higher growth, higher inflation, higher rate environment. And the criteria we set out would be like, you know, is the economy growing at least at sort of two and a half percent or higher? Well, we don't have official 2024 full year GDP or even Q4, but the tracking estimate for Q4 right now is at 3%.
And that will put on the full year GDP around 2.7, 2.8%. So above, you know, the kind of growth we would suggest is kind of roaring. Inflation of like two to 3% and we're in that range depending on exactly what metric.
Rates a little bit higher than the range. Like, you know, like ultimately you said the Fed would cut rates to about three and a half percent. We're at four and a quarter for the Fed.
And the 10-year four-ish percent and we're clearly, you know, above that. So rates are on the higher end, but the economy growth inflation is very much in a line with kind of these roaring conditions that we laid out. And at the moment, it doesn't look like the momentum is sort of adjusting sort of, you know, kind of, you know, any let up.
So the economy is roaring by that criteria and certainly the stock market given how it's performed, you know, last year at about 23% the year before 24. And since the beginning of the decade, you know, since December 31st, 2019, the S&P 500 total return is over 100%. So the stock market has certainly been roaring the first half of this decade.
So hence the title roaring at the midpoint. The real question is, will this continue or not? So with that backdrop, Paul, to welcome you into the conversation within the report, you do update your ROAR score assessment of the economy.
So remind our listeners, clients, Paul, what the ROAR score is and what has the updated assessment revealed? So Jason talked about some of the economic indicators that we're looking at to see whether we're roaring or not. Our ROAR score looks at how sustainable these roaring 20s is.
And we're basing it on this economic model called the solo swan growth model. And that essentially states that in the long run, output or growth is determined by capital labor inputs multiplied by technology or productivity. So to put it simply in economy benefits, when population growth, capital investment and productivity gains are all increasing or some combination of all three of these things.
So when it comes to capital investment, we still hold a relatively optimistic assessment given the surge of capital investment in pockets of the economy, following legislation like the CHIPS BIL Investment Reduction Act, and now helped by a surge in business optimism after the election. Additionally, we have a breakout of AI since we think that's a sort of combination between capital investment and productivity. And there is actual evidence that not only capital investment in AI technologies is increasing, especially helped with that recent announcement from the Trump administration about $500 billion in private sector investment.
But we also see more and more companies adopting artificial intelligence technologies. And we're looking really for some of those productivity gains hopefully this year or down the road to see how sustainable growth can actually be. However, when it comes to their score in labor, we decreased our assessment just given the policy stance of the new administration since it's already taken measures to slow if not reverse in net immigration flow.
And finally, our assessment on productivity remains the same robust reading, given the assessment on the optimistic productivity readings in terms of the economy, and now combined with the rise of business optimism, expectations of lower borrowing costs, and just a general return of animal spirits. So now that we have the updated assessments, have to of course acknowledge the new political dynamic landscape within Washington, D.C. Jason, as you know, as we're recording today on January 22nd, just a couple of days ago, we did have the inauguration of President Trump.
So when you think about policy, Jason, how does policy factor into your assessment of the roaring 20s regime? Well, policy is like a wild card, because there's a wide range of outcomes that the administration could pursue. So much would definitely be supportive.
And Paul mentioned the, you know, this, you know, $500 billion investment in this private sector investment, you know, that, you know, that Trump, you know, sort of announced, you know, earlier today. So that you could be a positive, but same time, he is also in the past, you know, you know, our first 48 hours talked about, you know, tariffs of 25% on Canada and Mexico, effective February 1, 10% tariff increase in China on February 1. If those were to go through, they would have a material and negative impact on growth.
I mean, those are significant tariffs on major trading partners for the U.S. It's hard, you know, to impose that and not have a drag on growth. So will that happen?
You know, that's not our baseline view, but that is certainly a risk. So the economy kind of left with no real sort of major changes to policy, you should continue, you know, for this trend for a while. And the AI developments is sort of another kind of wildcard of like, how significant, how soon, but policy could go either ways.
Ultimately, this kind of gets into whether the administration would be, you know, more doge-esque in its policies versus MAGA, and we've talked about this down on other podcasts. Doge to me is like, you know, more pro-supply side, supply side improvements, trying to reduce the role of, you know, increase the efficiency of the private sector, reduce the kind of role of government, you know, through regulation, and let the supply side of the economy improve. Like, that's really been the crux of the thesis from day one, is that for the Roaring Twenties to be sustainable, you need this positive supply side story.
We think ultimately, the administration is going to lean towards policies that enhance the supply side rather than adversely impact, you know, tariffs would be an adverse impact. But until we get that policy clarity, that is a bit of a wildcard. It's also why, you know, I think we've characterized this as a bit of a make or break year for the Roaring Twenties.
Like, it's been roaring so far. If policy, the right policies go in place, that could further extend it. If it's the wrong set of policies, that could sort of, you know, kind of bring it to, you know, sort of an end.
On top of this, of course, there's what the Fed does. At the moment, the Fed is probably in a good position just watching, you know, the economy's in good shape. Inflation is kind of holding steady, assess what the administration will do and respond accordingly.
There's also a risk, of course, the Fed makes a policy mistake by not cutting rates or cutting too much, allows inflation to pick up. So it is, you know, it's an uncertainty. And given large deficits, you know, that also impacts what, you know, could happen in terms of the economy.
Temporarily good, maybe long term, not so good. So, you know, a wide range of outcomes. Ultimately, I think the policy, at least in the Trump administration, will be directly supportive.
But, you know, time will tell as we see the details and actual implementation. So a lot to be figured out as we await the evolution of the policy landscape from the White House and, of course, accounting for how the Fed monetary policy might progress here in 2025. So thank you for that, Jason.
Up in terms of risk factors, Paul, to welcome you back in. What are some considerations there that investors, business owners should be aware of? I think a couple of things might threaten sort of the roaring 20 scenario at the midpoint.
The first is, Jason pointed out earlier, is that interest rates are on the higher end of what we're expecting. And certainly, we expected policy rates to be around three and a half percent, I think, around midpoint last year. And they're certainly higher than that now.
And interest rates could remain higher, especially if growth and inflation continue to beat expectations. And the administration is actually successful in passing those spending plans that exacerbate the deficit. So investors might require additional higher yields to compensate for that risk.
And that would be a drag on growth, especially if the productivity and growth gains from AI disappoint. The second sort of risk from growth that we're monitoring is the K-shaped recovery in consumers. So consumption has been remaining quite robust so far.
But sentiment and just recoveries in net worth have benefited higher income households much more than lower income households. So time will tell on how durable the consumption recovery, consumption trend will hold up. And additionally, while we do expect the bull market to continue for equities, rising equity prices can create a feedback loop by easing financial conditions and encourage risk-taking that can shift risk assets into bubble territory, which could certainly end the roaring 20s scenario as it did nearly 100 years ago.
But that's certainly not our expectation, but certainly a risk that we think business owners and investors should be aware of. Thank you for keeping our listeners, clients current on those risk considerations. So if we bring this all back to investors, Jason, as we close out, given the environment that yourself, Paul, have shared with us today, what could a continued roaring 20s environment mean for investors?
Well, like I mentioned earlier, the stock market has been roaring even more than the economy. But if the economy continues with these conditions, it is certainly a very favorable environment for risk assets to do well. So generally, it should be positive for U.S. equities to continue.
And there's always a risk that at some point things could get too far stretched. If not a major bubble, definitely things that are kind of vulnerable to pull back later on, but not anywhere in the near future. A key part of the thesis on supply-side improvement that we've updated this report and Paul talked about is AI getting productivity benefits there.
So if that actually plays out from an equity or stock market perspective, it supports our view that AI is a multi-year sort of secular theme. The technology sector is a key beneficiary. It's why right now we think technology is certainly the most attractive sector within U.S. equities that we like.
A lot of this, like everything we've talked about right now is about the U.S. specifically. So it is a U.S.-specific story right now. A major theme last year was this idea of U.S. exceptionalism.
I kind of used exceptionalism as the finance word of the year last year. So this story of the kind of U.S. outperformance is likely to continue as long as this roaring 20s regime persists. So just on a relative basis, that certainly favors the U.S.
But a couple other things just to kind of keep in mind is that we're saying inflation will be 2% to 3%. So contained but also not 2%. The risk is that inflation could always accelerate and when it does, it leads to concerns where like, well, maybe rates have to go higher.
The Fed has to even hike rates. That's bad for bond prices. It's bad for stock prices.
So the correlation between stocks and bonds may not be consistently negative. It could flare up to be positive. So thinking about diversification, how to diversify your portfolio is also probably a little more difficult or different than it was for the past 20 or so years where the stocks and bonds kind of moved opposite.
So you're thinking about other ways to kind of diversify your portfolio. So equity upside, you could be very attractive. But thinking about what there's downside, you got to be prepared for some other hedging, which kind of ties into why gold is an asset class that we also currently like.
So roaring 20s, it's an economic kind of argument primarily but it's clearly been also a financial market performance. If it's roaring 20s for the economy, it's probably, you know, that's the story for the equity markets, the U.S. equity, U.S. assets in particular. Well, a lot of interesting takeaways and Paul, Jason, thank you both for spending some time with our listeners, clients as we've reached the midpoint of the 2020s, 2025 to hear your updated assessment of the roaring 20s scenario.
I'm sure we'll have plenty of other follow-up conversations this year. So thank you both again for your time today. You're welcome.
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