Market perspectives: June 2020

27 May 2020 | Markets and economy


Economic growth

Vanguard expects a moderate recovery in the global economy in the second half of the year as supply gradually comes back online after interruptions owing to COVID-19 containment efforts. But we expect economies to lag behind pre-virus trends as shocks to incomes and contagion fears limit demand. And a new wave of the virus owing to premature easing of social distancing measures is a risk that can’t be overlooked.

The economy in China contracted by 6.8% in the first quarter of 2020, and our outlook is cautious in the near term. We expect that weak global demand and slower than expected normalization in domestic services industries will prohibit a strong bounce-back in growth in the second and third quarters. As a result, we expect China’s growth for all of 2020 to be in the low single digits, in a range of 1.0% to 2.0%, though that could go higher if China were to embark on aggressive stimulus. An announced 2020 growth target higher than the market expects could signal China’s intention to launch stimulus. But, as Vanguard Asia-Pacific chief economist Qian Wang writes in a recent blog, China is more cautious than ever about risks to financial stability that borrowing for increased stimulus could invite.

Japan’s economy contracted by –0.9% on a seasonally adjusted basis in the first quarter, the Cabinet Office announced on Monday, May 18. It was the second consecutive quarterly contraction for Japan, which was struggling even before the onset of the COVID-19 pandemic. With just more than 16,000 reported cases and fewer than 1,000 deaths, Japan has fared remarkably well in the pandemic. We expect Japan’s economy to contract by a value in the mid- to high-single-digit range in the second quarter before rebounding moderately in the third and fourth quarters. Weak external demand could hurt export sectors, though Japan’s orientation toward durable goods, which would be less affected by social distancing measures, would be a mitigating factor. We see Japan’s full-year GDP contracting in a range around –3.5% to –4.5%.

Fewer cases of disease could lessen the fear factor and bode comparably well for Australia as it eases lockdown restrictions. We foresee a full-year 2020 contraction around –4%, though that estimate could brighten if China—by far Australia’s largest trading partner—were to announce an aggressive growth target. Australia on May 8 announced a three-step framework to relax COVID-19 restrictions by July as new cases have averaged around just 20 per day the last few weeks. We believe that the economy in the United States will contract by deep single digits for all of 2020, and that GDP in the second quarter could decline by –30% to –40%. With more than 1.5 million disease cases and 90,000 deaths as of May 19, according to the Johns Hopkins University Coronavirus Resource Center, the United States has been hit far harder than any other nation. The main challenge, then, regardless of whether lockdown measures can be eased, is the extent to which consumers are willing or have the money to engage with face-to-face service sectors into the third quarter and beyond. Still, given the anticipated sharp second-quarter fall, we foresee growth in the third quarter in the low single digits, and approaching double digits in the fourth.

The euro area and the United Kingdom have also been hit hard by the disease, to the extent that we’d expect the economic shock to only truly subside once fears dissipate. In our base case, we expect 2020 GDP to be just less than 10% lower than a year earlier in the United Kingdom and slightly worse than that in the euro area.

The steep drop-off in domestic and global demand will likely cause Canada’s economy to contract in a range of –6% to –7% in 2020, compared with anticipated growth of nearly 2% at the start of the year. Vanguard believes that fiscal support thus far can help avert a large default cycle among highly leveraged households, though this remains a key risk. We expect the depth of Canada’s downturn to be closely tied to the persistence of low oil prices. Given the significant role that the oil sector plays in Canada’s economy (around 8% of GDP), the risk of a permanent loss in oil output can’t be discounted.

The International Monetary Fund (IMF) predicts that emerging markets will contract by –1.0% in 2020, with emerging Asia bucking the trend with positive growth of 1.0%. The IMF sees Latin America contracting by –5.2% and Mexico being hit harder, with a contraction of –6.2%, for 2020.

Monetary policy

Across major economies, the response of both central banks and fiscal authorities has been unprecedented in size and swiftness. Vanguard believes that such a “whatever-it-takes” approach is appropriate to combat the effects of the COVID-19 pandemic, given the unprecedented nature of the situation. Most of the policy announcements to date are best thought of as “bridging” measures to avert permanent job losses, minimize corporate bankruptcies and defaults, and ensure proper market functioning and liquidity, rather than outright stimulus. How such large fiscal expansion is funded and whether this materially increases sovereign credit risk could become an issue at some point.

In the United States, we believe that additional fiscal policy will likely be necessary to stem job losses and support business. Similarly, we believe additional fiscal support will be required in the euro area and the United Kingdom, to protect both households and corporations from long-lasting effects of the coronavirus.

In Japan, the announced fiscal stimulus package amounted to ¥27 trillion (USD 250 billion), or about 5% of GDP, in new spending. That’s less than many developed markets, but appropriate given the lower incidence of disease in Japan. We don’t expect that the Bank of Japan will cut its key short-term rate target below the current –0.1%.

The Reserve Bank of Australia maintained its cash-rate target at 0.25% on May 8 and said it had scaled back the size and frequency of bond purchases as the yield on 3-year Australian Government Securities was around the target.

In Canada, all eyes will be on Tiff Macklem, who takes the reins as Bank of Canada governor on June 3 with policy rates at all-time lows. Vanguard believes that negative rates can’t be ruled out; such an action would be a negative for the banking sector but could be part of the bank’s toolkit should a worsening economy cause households to deleverage.


That no-deal-Brexit fear that went away in January when the United Kingdom officially left the European Union? It’s back, with the parties unlikely to be able to kick the can any further down the road. A transitionary period during which the UK-EU relationship continues under pre-withdrawal terms ends on December 31, 2020. In the absence of a trade deal by then, future trade will be conducted under broad World Trade Organization rules, a situation Vanguard views as akin to a no-deal Brexit. We’ve believed since before the United Kingdom and European Union signed the Withdrawal Agreement that more than a year would be needed to conclude a trade agreement. Now it appears that progress on an agreement is stalling owing to ideological differences regarding the agreement’s scope and obligations.

The European Union wants the United Kingdom to adopt and maintain so-called level-playing field provisions on EU rules, such as those governing the environment and labor, in return for access to its markets. The United Kingdom is at this stage refusing to agree to such obligations given its newly acquired status as an independent sovereign state. A third round of talks that concluded on May 15 yielded no progress on these issues ahead of final talks before a June summit of EU leaders and UK Prime Minister Boris Johnson. Mr. Johnson says he has no plans to seek an extension to the transitionary period before the June 30 deadline. That suggests a fraught and volatile year-end, with potential implications for the economy and markets already exacerbated by the challenges of the COVID-19 pandemic.

Meanwhile, Her Majesty’s Treasury recently concluded a consultation on the proposed post-Brexit regulatory framework governing overseas retail and money market funds being sold into the United Kingdom. Vanguard broadly supports the Treasury’s approach, which would base the Overseas Funds Regime (OFR) on an outcomes basis rather than a more technical assessment of the more than 8,000 non-UK funds currently available to investors in the United Kingdom. Vanguard believes the OFR should ensure that UK investors continue to have access to diversified, low-cost investment products such as UCITS funds. We also argued that a key outcome of the OFR should be that it create the least possible disruption, costs, and complexity for UK investors. The consultation closed on May 11.


Sharply reduced demand for goods has supplanted the short-term impact of supply-chain disruptions as the greatest immediate threat to global trade. But the COVID-19 pandemic emphatically reinforces the value of supply-chain diversification and dependability and promises to accelerate a trend from globalization to regionalization, Vanguard believes. We believe that Mexico and Southeast Asia will benefit as companies diversify amid realization that excess efficiency and lack of redundancy have their own risks and costs.

The pandemic overshadows China’s efforts to fulfill its commitments to buy U.S. goods under its Phase One deal with the United States. More important is global backlash building against China around the origins of COVID-19 and its early response to it, with several developed nations joining the United States in its criticism. As the dispute threatens to spill into the financial space—the principal U.S. government retirement fund last week halted plans to move some investments into an index that includes Chinese companies—the likelihood grows that U.S.-China tensions will weigh on markets for the foreseeable future.


Amid the challenges brought about by the COVID-19 pandemic and the stringent measures taken to contain it, it’s understandable that inflation concerns are surfacing. The supply of a range of goods has been disrupted, and governments are spending trillions of dollars to stabilize global economies. In the short run, Vanguard believes that a slowing in the rate of inflation may continue. Vanguard senior U.S. economist Andrew Patterson discusses the situation in The lows and highs of inflation. However, once the immediate COVID-19 challenge is over, Mr. Patterson says, getting central bank balance sheets and fiscal budgets back toward normal will take some doing and may involve somewhat higher-than-target inflation. But as the experience of the global financial crisis shows, 1970s-style runaway inflation need not be part of it.


The official unemployment rate reached 14.7% in the United States in April, the highest in the 72-year history of the Bureau of Labor Statistics’ jobless gauge. But Vanguard believes that an alternative measure, which includes workers not actively looking for jobs as well as part-time workers, paints a truer picture of the labor market. That measure, known as the U6 unemployment rate, suggested that 22.8% of the labor force may be affected by the pandemic-induced shutdowns of the economy. The potential for permanent job losses increases as COVID-19 curtails economic activity for longer. Vanguard has said since the pandemic began that a bold, swift, and efficient policy response is required to limit economic scarring such as bankruptcies, insolvencies, and permanent layoffs, global chief economist Joe Davis writes in a recent commentary.

Vanguard expects unemployment in the euro area to rise to just shy of 15%. That would be higher than during the euro zone debt crisis in the last decade and the 2008 global financial crisis. The figure doesn’t include workers put on furlough schemes, meaning a risk exists for a long-plateaued peak as furloughs end, even as jobs start to return amid economic recovery. We expect the unemployment rate in the United Kingdom to hit around 10%, with similar dynamics regarding furloughed workers as in the euro area.

The unemployment rate reached 6.2% in Australia in April, up from 5.2% in March. This was roughly in line with our forecasts but lower than market expectations, with the rise cushioned by the sharp fall in the labor force participation rate and the government’s JobKeeper wage scheme. The underutilization rate, meanwhile, rose 5.9 points to 19.9%, a historical high. The underutilization rate includes people who are underemployed or working fewer hours than they would like to. Hours worked fell 9.2% month-on-month, twice as large as the 4.6% fall in employment, as many workers who received the JobKeeper payments were counted as employed even if they did not work any hours. Vanguard expects some improvement in these numbers as economic activity increases and businesses reopen.

The unemployment rate in Canada climbed 5.2 points to 13.0%, the second-highest on record. The rate would have been 17.8% if those who had worked recently and wanted a job but didn’t search for work were included. Immigration makes a strong contribution to growth and employment in Canada, but it typically declines during a recession. Vanguard will be watching for the effect on Canada’s labor supply once recovery begins.

Asset class return outlooks

Vanguard has updated its 10-year annualized outlook for asset class returns through the most recent running of the Vanguard Capital Markets Model® (VCMM). Please note that the figures are based on a 1-point range around the 50th percentile of the distribution of return outcomes for equities and a 0.5-point range around the 50th percentile for fixed income. Numbers in parentheses reflect median volatility

U.S. equities 5.5%-7.5% (17.2% median volatility)
Global equities ex-U.S. (unhedged) 8.5%-10.5% (18.4%)
U.S. value 7.6%-9.6% (20.3%)
U.S. growth 4.0%-6.0% (22.9%)
U.S. large-cap 5.4%-7.4% (17.9%)
U.S. small-cap 6.2%-8.2% (23.0%)
U.S. REITs 4.1%-6.1% (19.7%)
U.S. aggregate bonds 0.9%-1.9% (4.3%)
U.S. Treasury bonds 0.4%-1.4% (4.3%)
Global bonds ex-U.S. (hedged) 0.7%-1.7% (2.2%)
U.S. credit 1.8%-2.8% (6.1%)
U.S. high-yield corporate 2.6%-3.6% (10.5%)
U.S. TIPS 0.2%-1.2% (6.7%)
U.S. cash 0.6%-1.6% (1.0%)
U.S. inflation 0.5%-1.5% (2.4%)

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.

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.