Market perspectives: August 2020

20 July 2020 | Markets and economy


Economic growth

Vanguard expects a recovery in global growth to begin in the second half of 2020, with the trajectory of that growth related to the degree to which COVID-19 requires containment efforts that could curtail economic activity. As the Joe Davis blog The “Great Fall” and the road to recovery conveys, we expect that recovery in most parts of the world will have hallmarks of both a V-shape—so called because of the letter it resembles on a chart—and a U-shape, with recovery in phases. We expect the first phase to be characterized by rapid signs of recovery as businesses reopen and restrictions are eased. The second phase is likely to take longer as demand, especially in sensitive face-to-face sectors, returns only gradually.

We foresee global growth falling by about –3% in 2020. With that view, Vanguard is more bullish on the global economy than the International Monetary Fund after the latter's most recent economic outlook, though we're less optimistic than much of the industry.

Only in China do we expect the recovery to be faster and more V-shaped, with an expected second-quarter rebound in GDP in the high single digits compared with a quarter-on-quarter contraction of –9.8% in the first quarter. (COVID-19's effects on growth are a quarter ahead in China compared with most other regions because the initial spread of the disease, as well as the institution and lifting of containment efforts, all occurred sooner there.) We continue to foresee full-year growth for China in a 1% to 3% range. The pandemic is making it challenging for China to fulfill the terms of its Phase One trade deal with the United States. If China were to significantly ramp up purchases of US goods in the second half of the year, however, its lowered net exports would detract from growth.

As virus case counts have risen steadily in parts of the United States in recent weeks, Vanguard has fielded questions as to whether delays in some plans to restart economic activity might lead us to change our US economic outlook. The answer, in short, is no. That's because our outlook for 2020 assumed that the path wouldn't be smooth and that such virus outbreaks were likely to occur regionally. We see a return to nationwide lockdowns as unlikely, though a scenario such as a second wave of the virus in the fall does represent a downside risk to our view. We still foresee 2020 U.S. economic contraction in a range of – 7% to – 9%. We believe that the strength of the recovery depends on additional fiscal moves, particularly in regard to stemming layoffs and supporting small businesses and unemployed individuals. The US administration has hinted recently that such further fiscal support could be forthcoming. Vanguard global chief economist Joe Davis advocates for the use of an existing mechanism to provide impaired businesses with cash if COVID-19 requires further widespread economic lockdowns. We expect that official figures to be released July 30 will show that second-quarter growth contracted by the most since World War II, but we foresee growth returning in the third and fourth quarters, in the low single digits.

Better-than-expected economic data from the euro area, particularly Germany, makes us less pessimistic about the degree of a second-quarter and full-year contraction for the region than we had been a month ago. The region is seeing encouraging signs that an easing of restrictions hasn't been met with more than local virus outbreaks. High-frequency data suggest a pickup in retail activity as daily new virus cases in Germany, France, Spain, and Italy hover around 500 each. Vanguard now foresees full-year economic contraction in the euro area around –10%. We also anticipate a second-quarter contraction around – 16%. Eurostat, the European Union's statistical agency, is scheduled to release preliminary second-quarter GDP figures on July 31.

In the United Kingdom, meanwhile, lockdown restrictions were eased at a point when the number of daily cases was much higher than in the euro area. As such, Vanguard places a higher probability on our downside scenario of further restrictions being needed in the United Kingdom relative to the euro area. We continue to foresee full-year U.K. contraction in the range of – 8% to – 10%. The U.K. government announced fiscal measures totaling £30 billion on July 8, bringing the total cost of the government's coronavirus response to £160 billion, or 8% of GDP. The biggest element of the new measures is a £9 billion job retention program that would pay businesses £1,000 for each furloughed worker brought back to their jobs and kept on through the end of January 2021. Vanguard is skeptical about the potential effectiveness of that measure, given that it would represent a “deadweight loss” as some money would be given to firms that would have employed the workers anyway. We are more optimistic about a £3 billion plan to improve energy efficiency of homes and public buildings, a £2 billion plan that would pay businesses to hire apprentices and trainees, and £6 billion in accelerated infrastructure spending.

The first-quarter economic contraction in Japan, at a revised – 2.2%, wasn't as deep as originally reported, but confirmed that the nation had entered recession after a – 7.1% contraction in the 2019 fourth quarter, before the COVID-19 pandemic began. With the bulk of pandemic containment measures occurring in April and May, Vanguard expects a further contraction in the high single digits. But we expect the situation to be significantly better than for other developed economies as containment measures in Japan were less severe and in place for a shorter period. We foresee Japan's full-year GDP contracting in a range around –3% to –5%.

A rebound in consumption in Australia has been driven by people with the lowest incomes, recent data show, making the potential expiration in late September and late October of government job-retention and unemployment programs something to monitor. Vanguard expects that a government economic update announcement, expected this month, may include a renewal of such fiscal policy, though perhaps tapered and targeted to regions and industries that need it most. Vanguard foresees an economic contraction around –3% to –5% for Australia for all of 2020, and around –7% for the second quarter. We see growth resuming modestly in the third quarter as pent-up demand emerges, and even more modestly in the fourth quarter as certain fiscal policy measures wane.

Recent data and events make us more optimistic than we had been about economic prospects in Canada. With better-than-expected April GDP and industrial production data, alongside more stable prices for oil and other commodities and greater-than-expected fiscal stimulus, we now foresee Canada's full-year 2020 contraction at –5% to – 6%. Vanguard sees expansion of fiscal support, notably the Canada Emergency Response Benefit, as helping to limit the severity of the economic slowdown.

The International Monetary Fund lowered its forecast for growth in emerging markets for both 2020 and 2021 on June 24, owing to a rapid intensification of COVID-19 in many emerging and developing nations. The IMF foresees emerging markets contracting by – 3.0% before rebounding to growth of 5.9% in 2021. The outlook for Latin America, under assault from COVID-19, is particularly pessimistic, at a contraction of – 9.4% for all of 2020 before rebounding to 3.7% in 2021, according to the IMF. But in the blog A challenging time for emerging markets, Jonathan Lemco writes that all is not lost for emerging markets, and for patient investors.

Monetary policy

Given our expectation for a slow recovery in demand, we expect monetary policy to remain loose throughout 2020 and well into 2021, with risks skewed toward further easing.

The U.S. Federal Reserve said on June 10 that it expected to keep benchmark interest rates near zero at least through 2022. The Fed acknowledged that, as more is learned about the depth of the recession and path of recovery, it may need to do more from a monetary policy standpoint and that Congress may need to do more from a fiscal policy standpoint to shepherd the U.S. economy through the pandemic. The Fed said on June 15 that it had updated the Secondary Market Corporate Credit Facility to enable its purchase of individual corporate bonds to support market liquidity and credit for large employers. Nonetheless, the evidence suggests that the Fed has been able to pare back intervention in corporate bond markets.

The European Central Bank Governing Council meets Thursday, July 16. At its last meeting, on June 4, the ECB increased the size of its Pandemic Emergency Purchase Program by €600 billion, to a total of €1.35 trillion, and extended the program to June 2021. It also maintained the interest rate on its deposit facility at –0.50% and said it would continue monthly asset purchases of €20 billion as long as needed to reinforce its accommodative stance.

The Bank of England maintained its bank rate at 0.1% at its June Monetary Policy Committee (MPC) meeting and committed to the purchase of an additional £100 billion in government bonds, representing about 5% of GDP. The MPC said it expected to complete its pandemic-related quantitative easing program, now valued at £745 billion, by year's end. That suggests the pace of buying will slow to around £4 billion per week, compared with a rate around £13.5 billion per week in May. MPC minutes revealed there had been no discussion about lowering the bank rate into negative territory while the BOE's review of the subject, expected to be completed by year's end, was under way.

The Bank of Japan left its key short-term rate target at –0.1% at its meeting July 15. Our conviction has grown that the BOJ will not cut rates in 2020 but instead continue with measures aimed at improving corporate financing and yen liquidity.

The Reserve Bank of Australia (RBA) maintained its cash rate and three-year government bond target at 0.25% on July 7. The bank said it would do what is necessary to ensure functioning markets, including scaling up bond purchases. (It said no such purchases had been necessary lately.) But Vanguard doesn't expect the RBA to purchase corporate bonds or take interest rates into negative territory.

The Bank of Canada maintained the target for its overnight rate at 0.25% at its policy meeting July 15. The bank has expanded its balance sheet by more than CAD 300 billion this year, and Vanguard expects further purchases to bring the total to CAD 450 billion by year's end.


Now some of the hardest work begins. The United Kingdom, as expected, allowed a key June 30 deadline to pass, choosing not to extend a year-long transition during which its relationship with the European Union proceeds unchanged. That transition period ends January 1, 2021. (The United Kingdom officially ceased being a member of the European Union on January 31, 2020.) In the interim, the parties work toward a trade deal.

Vanguard believes that progress should become clearer by October, at which point at least a bare-bones agreement on the future UK-EU relationship will need to have been reached to ensure ample time for ratification in respective parliaments. A trade deal by then wouldn't come without sweat. Negotiations will be over details, where many key disagreements still reside across a range of sectors, including financial services. In the lack of a deal, World Trade Organization rules would take effect, resulting in additional costs, some related to immediate tariff imposition.

Even a comprehensive deal would present challenges. Moving from a regime that has existed in varying degrees for more than 40 years to something new overnight is likely to be disruptive—even more so as businesses separately navigate the fallout from the COVID-19 pandemic. Both sides continue to emphasize that divisions remain, particularly regarding level-playing-field provisions and the prospect of future regulatory divergence. We foresee an elevated risk for market volatility, particularly in the United Kingdom, toward year's end.

Meanwhile, little progress has been communicated publicly on UK and EU equivalence assessments of each other's financial markets. The United Kingdom has, however, confirmed that it completed its assessment before a June 30 deadline and sent the European Union questions seeking clarification on a number of regulatory issues; the European Union has done likewise, though Vanguard understands with substantially more questions running to more than a thousand pages. Both sides intend to provide responses over the coming weeks and months.

Vanguard believes that this financial equivalence discussion, which we don't expect to be settled before year's end, will take its cue in part from progress on a trade deal. In the meantime, Her Majesty's Treasury is working to make its proposals concrete following its consultation on the proposed post-Brexit regulatory framework governing overseas retail and money market funds being sold into the United Kingdom.


Vanguard's leading index suggests that global trade will continue what has been a sharp contraction as the third quarter begins. The pace of contraction appears to be slowing, however, and with global economies likely to accelerate after second-quarter pandemic-induced slowdowns, we're looking for signs that trade conditions may soon begin to improve. Given the nature of trade data, we may not have confirmation of such an improvement for a few months, however. And we don't expect trade to record year-over-year gains for quite some time. Chinese trade remains resilient, led by goods such as pharmaceuticals, medical devices, and telecommunications equipment, and Australian trade typically prospers alongside China's. But we'd look for a pickup among durable-goods powerhouses South Korea and Japan to presage a global recovery in trade.

Meanwhile, US-China tensions remain a risk we foresee potentially bubbling up at any time. The US administration suggested last week that a Phase Two trade deal wasn't in the offing, even as China struggles to fulfill terms of a Phase One deal amid pandemic-related obstacles.


The consumer price index in the United States rose 0.6% in June compared with May on a seasonally adjust basis following three consecutive monthly declines. The index is up by the same amount for the 12 months ended in June. Gasoline prices, up 12.3% from the month before, accounted for most of the rise following five consecutive monthly declines, but remained down more than 23% from a year earlier. Vanguard believes that as states reopen and activities resume, inflation could trend gradually higher but remain well below the Fed's 2% target range in the medium term. Risks of disinflation—a slowing in the pace of inflation—persist should disease outbreaks and containment efforts curtail demand.

The consumer price index in Canada fell 0.4% in May compared with May 2019, after a decline of 0.2% in April. Vanguard expects that, amid the COVID-19 pandemic, both headline and core CPI will face significant downward pressure. We foresee headline inflation in Canada between 0% and 1% for all of 2020.

In Japan, the consumer price index was unchanged in May on a seasonally adjusted basis from the month before, and up 0.1% from May 2019. Consumer prices in Australia rose 0.3% in the March 2020 quarter compared with the December 2019 quarter, and 2.2% compared with the year-earlier quarter.

Headline inflation in the euro area rose to 0.3% in June, on an annual basis, compared with just 0.1% in May. Food, alcohol, and tobacco drove the gain while energy prices continue to weigh on the measure. Headline CPI inflation in the United Kingdom rose to 0.6% in June from a four-year low of 0.5% in May.


Job gains continued in the United States in June, and the unemployment rate fell to 11.1%. Many of the gains, however, reflected people returning to work in leisure and hospitality. As we initially expected, after a dramatic surge in temporary layoffs and furloughed workers in March and April, the composition of unemployed workers is now moving toward more permanent job losses. We expect the unemployment rate to remain elevated around current levels throughout the rest of the year, as we don't anticipate a V-shaped recovery in US employment or the economy.

Canada added nearly a million jobs in June and the unemployment rate fell 1.4 points to 12.3%, from a historical high of 13.7% in May. Most of the job gains reflect temporarily unemployed people returning to work, mostly in the service sector. The greater-than-expected gains are positive, but we'd caution that employment remains about 10% below where it had been before the pandemic, so there's still a significant gap to close.

Job retention programs, including wage subsidies, have so far been effective in preventing a sharp spike in the unemployment rate in the euro area, especially in Germany. But there is a risk of significant job losses as furlough schemes are unwound. Euro area unemployment inched up to 7.4% in May.

Furlough programs in the United Kingdom similarly will taper off beginning in August. The unemployment rate remained unchanged in the three months to April at 3.9%, supported by the government's furlough scheme and a sharp reduction in the participation rate. The May unemployment report is scheduled to be released Thursday, July 16. As the furlough scheme unwinds, Vanguard expects the unemployment rate to rise, with the peak likely in 2021, when the job retention bonus scheme ends.

The unemployment rate in Japan rose to 2.9% in May. But the percentage of employees not at work, although still counted as employed, improved to 7.5% from 9.6%.

The unemployment rate rose to 7.1% in Australia in May, up from a revised 6.4% in April and the highest it has been since 1998. The underutilization rate, which combines the unemployment and underemployment rates, rose to a record high of 20.2%. Fiscal policy is helping to lessen the damage to household income, with more than 60% of the fiscal package announced to date dedicated toward job retention programs such as JobKeeper payments of AUD 1,500 every two weeks for those who are eligible. Given the support provided by federal income, Vanguard will closely monitor details of the expected fiscal package in the government's economic update announcement on July 23.

Asset class return outlooks

Vanguard has updated its 10-year annualized outlook for broad asset class returns through the most recent running of the Vanguard Capital Markets Model® (VCMM), based on data as of June 30, 2020. The probabilistic return assumptions depend on market conditions at the time of the running of the VCMM and, as such, can change with each running over time.

Equity return assumptions are broadly lower than reflected in the July economic and market update. Those assumptions were based on the running of the VCMM at the end of the first quarter, when markets were just beginning to rebound after sharp falls in February and March. Equity markets have recovered significantly since then. It's important to note that the outlooks are based on a point-in-time measure. Extreme volatility can affect the outlooks as valuations change. In typical periods, however, changes to our 10-year outlooks are gradual.

Our 10-year annualized nominal return projections are as follows. Please note that the figures are based on a 1-point range around the rounded 50th percentile of the distribution of return outcomes for equities and a 0.5-point range around the rounded 50th percentile for fixed income. Numbers in parentheses reflect median volatility.

Vanguard's 10-year annualized outlook for asset class

U.S. equities 4.0%-6.0% (16.4% median volatility)
Global equities ex-U.S. (unhedged) 7.0%-9.0% (18.3%)
U.S. aggregate bonds 0.5%-1.5% (4.0%)
Global bonds ex-U.S. (hedged) 0.5%-1.5% (2.1%)

These probabilistic return assumptions are from a U.S. investor's perspective. They depend on current market conditions and, as such, may change over time.

IMPORTANT: The projections or other information generated by the Vanguard Capital Markets Model regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results. Distribution of return outcomes from the VCMM are derived from 10,000 simulations for each modeled asset class. Simulations are as of March 31, 2020. Results from the model may vary with each use and over time.

Important information

For institutional or accredited investor use only. Not for public distribution.

This information is intended for investors outside the United States and should not be provided to individual investors in the United States. The information contained herein does not constitute an offer or solicitation and may not be treated as such in any jurisdiction where such an offer or solicitation is against the law, or to anyone to whom it is unlawful to make such an offer or solicitation, or if the person making the offer or solicitation is not qualified to do so. Broker-dealers, advisers, and other intermediaries must determine whether their clients are eligible for investment in the products discussed herein.

All investing is subject to risk, including possible loss of the money you invest.

Investments in bonds are subject to interest rate, credit, and inflation risk.

IMPORTANT: The projections and other information generated by the Vanguard Capital Markets Model regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results. VCMM results will vary with each use and over time.

The VCMM projections are based on a statistical analysis of historical data. Future returns may behave differently from the historical patterns captured in the VCMM. More important, the VCMM may be underestimating extreme negative scenarios unobserved in the historical period on which the model estimation is based.

The Vanguard Capital Markets Model® is a proprietary financial simulation tool developed and maintained by Vanguard's primary investment research and advice teams. The model forecasts distributions of future returns for a wide array of broad asset classes. Those asset classes include U.S. and international equity markets, several maturities of the U.S. Treasury and corporate fixed income markets, international fixed income markets, U.S. money markets, commodities, and certain alternative investment strategies. The theoretical and empirical foundation for the Vanguard Capital Markets Model is that the returns of various asset classes reflect the compensation investors require for bearing different types of systematic risk (beta). At the core of the model are estimates of the dynamic statistical relationship between risk factors and asset returns, obtained from statistical analysis based on available monthly financial and economic data from as early as 1960. Using a system of estimated equations, the model then applies a Monte Carlo simulation method to project the estimated interrelationships among risk factors and asset classes as well as uncertainty and randomness over time. The model generates a large set of simulated outcomes for each asset class over several time horizons. Forecasts are obtained by computing measures of central tendency in these simulations. Results produced by the tool will vary with each use and over time.