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According to economists at Rabobank, risk assets can arguably outperform in 2021 unless three key, linked risks are triggered: tighter monetary policy, a swing up in the USD, or too-tight fiscal policy.

Key quotes

“Risk assets can arguably outperform over the course of 2021 even if we see a lower rate of GDP growth than the disappointing average in the decade before Covid-19. To our mind, there are three main risks to this view, however.”

“First is central banks tightening monetary policy. This seems extremely unlikely. In the last rates cycle, only the US and Canada among developed markets raised their policy rate by more than 100bp, after many years, and the Fed’s attempt to unwind its bloated balance sheet did not last long before being more than reversed. Central bank escape-velocity will be harder to achieve this time round. Nonetheless, fears of reflation happening earlier than expected may be seen in H1 2021 due to a combination of base effects, commodity prices and post-Covid joie de vivre on headline inflation. Tactically, this must be noted even if strategically it is a blip in the opposite trend.”

“The second is governments implementing tighter fiscal policy. While there is little official rhetoric about a return to austerity, there are also a range of actions, overt to covert, and large to small, which suggest that this is what may still happen anyway. After all, the alternative is fundamentally too challenging for the conservative central bank/Treasury economics teams to embrace. History also suggests we will probably get this wrong.”

“The third is USD. Any new global dollar liquidity squeeze, driven by either a US recession, the need for even looser fiscal and monetary policy in other economies, or geopolitical tensions/instability, for example, would push USD higher and risk firmly off again.”