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Weekly
commentary
March 15, 2021

A strong restart, not a recovery

• We lay out three reasons why we see a strong economic restart, rather than a Jean Boivin
normal recovery, and believe markets still underappreciate its size and speed. Head – BlackRock
Investment Institute
• U.S. Treasury yields hit 13-month highs. We see the recent rise in real yields as
justified given the growth outlook and remain tactically pro-risk.

• Investor focus is set to shift to policy meetings of major central banks for their Elga Bartsch
reaction to rising yields, after passage of the $1.9 trillion U.S. fiscal package. Head of Macro Research —
BlackRock Investment
We see the path out of the Covid-19 shock as a “restart” – not a typical business Institute
cycle “recovery.” The key reasons are the distinct nature of the shock, broad-based
pent-up demand and different inflation dynamics. The passage of a $1.9 trillion Wei Li
fiscal package and an accelerating vaccination ramp-up in the U.S. magnify these
Global Chief Investment
factors, and we believe the restart will likely be stronger than markets expect. Strategist – BlackRock
Investment Institute

Chart of the week

U.S. real GDP after past recessions and the Covid-19 shock Scott Thiel
110 Chief Fixed Income
1953-2001 2007 2020 Estimated consensus
Strategist -BlackRock
Real GDP (cycle peak = 100)

Investment Institute
105

100

95

90 Visit BlackRock Investment

0 1 2 3 4 5 6 7 8
Quarters since previous cycle peak Institute for insights on
Sources: BlackRock Investment Institute, with data from Refinitiv, March 2021. Notes: The solid lines show the paths of U.S. real gross global economy, markets
domestic product (GDP) during past business cycles and so far since the Covid shock. The dotted line shows our estimate of the and geopolitics.
consensus forecast based on reports from brokers that have updated their forecasts since March 6 when U.S. Senate passed the $1.9
trillion fiscal package. The level of GDP is rebased to 100 at the peak of each past cycle, and to the fourth quarter of 2019 for the Covid
shock. Peaks of past cycles are as defined by the National Bureau of Economic Research.

We see three reasons why this is an economic restart, not a recovery – a

distinction that matters for markets. First, we have stressed that the Covid shock
is more akin to a natural disaster: economic activity is temporarily shut down, and
then rapidly comes back online. The initial lockdowns in 2020 forced a halt in
economic activity, triggering a plunge in U.S. real GDP, as the chart shows. Activity
quickly rebounded in the second half as restrictions eased - and is now poised to
leap forward as vaccines are rolled out. The restart is about turning things back
on, not about the rebuilding of confidence that is needed in a typical recovery. The
restart may be much faster than in typical business cycle recoveries as a result.
We believe much activity will restart on its own, and won’t need policy stimulus as
much as in typical recessions. We now expect U.S. real GDP to return to the pre-
Covid level by mid-2021, far sooner than our expectation right after the initial
shock. We see the new U.S. fiscal package bringing forward the return to pre-
Covid trend growth by two to three years – further accelerating the restart.

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The second reason behind a potentially much more powerful restart: broad-based pent-up demand. Consumer spending
during the Covid shock has been unusual in that spending on services dropped sharply. The stoppage in activity and
spending was mainly caused by lockdowns and not income constraints, and – unusually – affected all income groups.
Household finances are in much better shape today than after the financial crisis, largely thanks to ongoing fiscal policy
support. We estimate excess household savings in the U.S. to be about $1.8 trillion larger than in the year before the
pandemic, with lower-income households supported by fiscal stimulus. This means that pent-up demand is broad-based
this time.

The third reason: Inflation dynamics look very different today. A typical recession is caused by a fall in demand. Demand
catches up only slowly to supply in a normal recovery, leading to disinflationary pressure. This is less the case today, as the
Covid shock was caused by a fall in both demand and supply. Both have to catch up, in our view. We believe many
companies have used the typical recession playbook by reducing capacity and cutting costs. Can they ramp up production
fast enough as demand surges? A failure to do so would lead to additional near-term price pressures. Policy support has
been extraordinary. We assess that the ultimate cumulative economic loss from the shock – what matters most for markets
– will be roughly a quarter of that seen after the global financial crisis in the U.S. Yet the discretionary fiscal response so far
is about four times larger, and the Federal Reserve has signaled it will be less responsive to rising inflation than in the past.
The bottom line: We see a much stronger post-Covid economic restart than what we would expect in a normal recovery. The
rapid upward adjustment in U.S. Treasury yields and more muted movement in inflation-adjusted yields make sense in this
respect, and are still consistent with our New nominal theme. The restart bolsters our pro-risk stance over the next six to 12
months, and makes us lean further into cyclical assets. We are overweight U.S. equities, and our preference for small caps
extends to private equity and private credit. Elsewhere in private markets we like real assets as we see them offering some
insulation against rising inflation down the road. We are also overweight emerging market (EM) equities, and see the recent
selloff as an opportunity to add to this asset class. We still expect EM equities to benefit from a global cyclical upswing,
supported by a stable U.S. dollar. The commodity price rally should also help resource-rich EM economies, in our view.

Market backdrop
U.S. 10-year Treasury yields hit 13-month highs; stocks slipped from record levels but were still up on the week. The $1.9
trillion fiscal package was signed into law. Inflation-adjusted yields, or real yields, have risen from record negative levels. We
believe this move is justified in light of recent positive economic developments, as reflected in the OECD’s recent doubling
of its U.S. growth forecast for 2021. This is in line with our new nominal theme. We expect the new nominal to support
equities and risk assets over the next six to 12 months.

Assets in review
Selected asset performance, 2021 year-to-date and range

Brent crude
European equities
EM equities
U.S. equities
U.S. dollar index
Global high yield
Italian 10-year BTP
German 10-year Bund
Global corporate IG
2021 range Year-to-date
Hard-currency EM debt
U.S. 10-year Treasury
Gold

-20% -10% 0% 10% 20% 30% 40%

Total return
Past performance is not a reliable indicator of current or future results. Indexes are unmanaged and do not account for fees.It is not possible to invest directly in an index.
Sources: BlackRock Investment Institute, with data from Refinitiv Datastream, March 2021. Notes: The two ends of the bars show the lowest and highest returns at any point this year to
date, and the dots represent current year-to-date returns. Emerging market (EM), high yield and global corporate investment grad e (IG) returns are denominated in U.S. dollars, and the
rest in local currencies. Indexes or prices used are, in descending order: spot Brent crude, MSCI Europe Index, MSCI EmergingMarkets Index, MSCI USA Index ,the ICE U.S. Dollar Index
(DXY), Bank of America Merrill Lynch Global High Yield Index, Refinitiv Datastream Italy 10-year benchmark government bond index, Refinitiv Datastream Germany 10-year benchmark
government bond index, Bank of America Merrill Lynch Global Broad Corporate Index, J.P. Morgan EMBI index,Refinitiv Datastream U.S. 10-year benchmark government bond index and
spot gold.
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Macro insights Not a typical recession

The U.S. labor market highlights why this is an activity restart, U.S. employment following recessions, 1953-2020
not a recovery. Employment has bounced back much more 2020 2007 2001
sharply than during a typical business cycle recovery. Why? 1990 1953-1981
Firms need to rehire faster to resume operating as halted 100
activity comes back online and returns to pre-Covid levels.

U.S. payrolls (Cycle peak =100

U.S. employment plunged by around 15% almost
immediately after the initial outbreak of Covid-19 prompted 95
severe restrictions. The overall employment shortfall has
already shrunk to 6% – similar to the trough of the global
financial crisis. The key difference: It took two years to hit that
90
trough after the 2007-08 crisis. See chart on the right.
Employment in contact-intense services – think restaurants
and hotels – is still far below pre-Covid levels. Leisure and
hospitality employment is still 20% below normal – the 85
biggest gap of all industries – yet up from a trough of nearly 1 2 0 3 4 5 6
50% in the spring of 2020. Such services activity has a lot to Years since start of recession
gain from the release of pent-up demand in coming months. Sources: BlackRock Investment Institute, with data from Refinitiv Datastream, March
We see further rapid payroll gains through the year as the 2021. Notes: The chart shows the level of U.S. nonfarm payrolls following business
cycle peaks as defined by the National Bureau of Economic Research. Employment is
economy normalizes. For more visit our macro insights page. indexed to equal 100 at the peak of each respective cycle.

Investment themes
1 The new nominal
• We see a more muted response of government bond yields to stronger growth and higher inflation than in the past,
as central banks lean against any sharp yield rises. The recent rise in real yields from record negative levels is
justified and represents only a muted response to recent positive economic developments, in our view.
• Medium-term inflation risks look underappreciated. Production costs are set to rise amid the rewiring of global
supply chains. Central banks appear more willing to let economies run hot with above-target inflation to make up for
past undershoots. They may also face greater political constraints that make it harder to lean against inflation.
• The policy revolution has led to a surge in public debt – and increased tolerance for it. The new $1.9 trillion U.S. fiscal
package poses challenge to the prevailing low interest rate environment and tests the debt tolerance of financial
markets and central banks alike, in our view. We believe it also uses up limited fiscal policy space and ultimately
adds to inflation pressure.
• Market implication: We favor inflation-linked bonds amid inflationary pressures in the medium term. Tactically we
prefer to take risk in equities over credit amid low rates and tight spreads.

2 Globalization rewired
• Covid-19 has accelerated geopolitical transformations such as a bipolar U.S.-China world order and a rewiring of
global supply chains, placing greater weight on resilience.
• Strategic U.S.-China rivalry looks here to stay, particularly in tech. The Biden administration is likely to shift away
from a focus on bilateral trade deficits to a multi-lateral approach. It will also seek to balance cooperation on climate
change and public health within a broader U.S.-China agenda that includes areas of potential heightened tensions
such as trade and human rights.
• We see assets exposed to Chinese growth as core strategic holdings that are distinct from EM exposures. There is a
case for greater exposure to China-exposed assets for potential returns and diversification, in our view.
• We expect persistent inflows to Asian assets as we believe many global investors remain underinvested and China’s
weight in global indexes grows. Risks to China-exposed assets include China’s high debt levels, yuan depreciation
and U.S.-China conflicts. But we believe developments have been incrementally positive over the past 12 months,
and investors are compensated for these risks.
• Market implication: Strategically we favor deliberate country diversification and above-benchmark China
exposures. Tactically we like Asia ex-Japan equities, and see UK equities as an inexpensive, cyclical exposure.

3 Turbocharged transformations
• The pandemic has added fuel to pre-existing structural trends such as an increased focus on sustainability, rising
inequality within and across nations, and the dominance of e-commerce at the expense of traditional retail.
• The pandemic has focused attention on underappreciated sustainability -related factors and supply chain resilience.
• It has also accelerated “winner takes all” dynamics that have led to the strong performance of a handful of tech
giants in recent years. We see tech as having long-term structural tailwinds despite its increased valuations, yet it
could face challenges from higher corporate taxes and tighter regulation under a united Democratic government.
• The pandemic has heightened the focus on inequalities within and across countries due to the varying quality of
public health infrastructure – particularly across EMs – and access to healthcare.
• Market implication: Strategically we see returns being driven by climate change impacts, and view developed
market equities as an asset class positioned to capture the opportunities from the climate transition. Tactically we
favor tech and healthcare as well as selected cyclical exposures.
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Week ahead
German ZEW Indicator of Economic Bank of England policy meeting; Philly Fed
March 16 Sentiment; U.S. industrial production March 18 Manufacturing Business Outlook Survey

Federal Reserve policy meeting ends;

March 17 Dutch parliament election March 19 Bank of Japan policy meeting ends

Market attention will be on policy meetings of a few major central banks this week – especially on comments on how central
banks will respond to higher bond yields, and loose financial conditions targets they plan to set. The Fed will release the
updated Summary of Economic Projections that are expected to show more optimism. We expect the guidance on rates and
asset purchases to stay unchanged.

Directional views
Strategic (long-term) and tactical (6-12 month) views on broad asset classes, March 2021
Change in view
Asset Strategic view Tactical view
Previous New

We are overweight equities on a strategic horizon. We see a

better outlook for earnings amid moderate valuations.
Incorporating climate change in our expected returns brightens
the appeal of developed market equities given the large weights
Equities
of sectors such as tech and healthcare in benchmark indexes.
Tactically, we stay overweight equities as we expect the restart
+1 +1 to re-accelerate and interest rates to stay low. We tilt toward
cyclicality and maintain a bias for quality.

We are underweight credit on a strategic basis as valuations are

rich and we prefer to take risk in equities. On a tactical horizon,
Credit
credit, especially investment grade, has come under pressure
-1 Neutral from tightening spreads, but we still like high yield for income.

We are strategically underweight nominal government bonds

as their ability to act as portfolio ballasts are diminished with
yields near lower bounds and rising debt levels may eventually
pose risks to the low-rate regime. This is part of why we
Govt
underweight government debt strategically. We prefer inflation-
bonds
linked bonds as we see risks of higher inflation in the medium
-1 -1 term. We are underweight duration on a tactical basis as we
anticipate gradual increases in nominal yields supported by the
economic restart.

We use cash to fund overweight in equities. Holding some cash

Cash makes sense, in our view, as a buffer against supply shocks
driving both stocks and bonds lower.
Neutral

We believe non-traditional return streams, including private

credit, have the potential to add value and diversification. Our
neutral view is based on a starting allocation that is much
Private
larger than what most qualified investors hold. Many
markets
institutional investors remain underinvested in private markets
Neutral as they overestimate liquidity risks, in our view. Private markets
are a complex asset class not suitable for all investors.

Notes: Views are from a U.S. dollar perspective, March 2021. This material represents an assessment of the market environment at a specific time and is not intended
to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding
any particular funds, strategy or security.
▲ Overweight — Neutral ▼ Underweight

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Change in view
Granular views Previous New
Six to 12-month tactical views on selected assets vs. broad global asset classes by level of conviction, March 2021
Asset Underweight Overweight
We are overweight U.S. equities. We see the tech and healthcare sectors offering exposure
United States to structural growth trends, and U.S. small caps geared to an expected cyclical upswing in
2021.

We are neutral European equities. We believe the broad economic restart later in the year
Euro area will help narrow the performance gap between this market and the rest of the world.

We are underweight Japanese equities. Other Asian economies may be greater

Japan beneficiaries of a more predictable U.S. trade policy under a Biden administration. A
stronger yen amid potential U.S. dollar weakness may weigh on Japanese exporters.

We are overweight EM equities. We see them as principal beneficiaries of a vaccine-led

Emerging markets global economic upswing in 2021. Other positives: our expectation of a flat to weaker U.S.
dollar and more stable trade policy under a Biden administration.

We are overweight Asia ex-Japan equities. Many Asian countries have effectively contained
Asia ex-Japan the virus – and are further ahead in the economic restart. We see the region’s tech
Equities

orientation allowing it to benefit from structural growth trends.

We are overweight UK equities. The removal of uncertainty over a Brexit deal should see the
UK risk premium on UK assets attached to that outcome erode. We also see UK large-caps as a
relatively attractive play on the global cyclical recovery as it has lagged peers.

We keep momentum at neutral. The factor has become more exposed to cyclicality, could
Momentum face challenges in the near term as a resurgence in Covid-19 cases and a slow start to the
vaccination efforts create potential for choppy markets.

We are neutral on value despite recent underperformance. The factor could benefit from an
Value accelerated restart, but we believe that many of the cheapest companies – across a range
of sectors – face structural challenges.

We are underweight min vol. We expect a cyclical upswing over the next six to 12 months,
Minimum volatility and min vol has historically lagged in such an environment.

We are overweight quality. We like tech companies with structural tailwinds and see
Quality companies with strong balance sheets and cash flows as resilient against a range of
outcomes in the pandemic and economy.

We are overweight the U.S. size factor. We see small- and mid-cap U.S. companies as a key
Size place where exposure to cyclicality may be rewarded amid a vaccine-led recovery.

We are underweight U.S. Treasuries. We see nominal U.S. yields rising but largely due to a
U.S. Treasuries repricing higher of inflation expectations. This leads us to prefer inflation-linked over
nominal government bonds.

Treasury Inflation- We are overweight TIPS. We see potential for higher inflation expectations to get
increasingly priced in on the back of structurally accommodative monetary policy and
Protected Securities increasing production costs.

We are neutral on bunds. We see the balance of risks shifting back in favor of more
German bunds monetary policy easing from the European Central Bank as the regional economic rebound
shows signs of flagging.

We are neutral euro peripheral bond markets. Yields have rallied to near record lows and
Euro area peripherals spreads have narrowed. The ECB supports the market but it is not price-agnostic - its
Fixed Income

purchases have eased as spreads have narrowed.

Global investment We are underweight investment grade credit. We see little room for further yield spread
grade compression and favor more cyclical exposures such as high yield and Asia fixed income.

We are moderately overweight global high yield. Spreads have narrowed significantly, but
Global high yield we believe the asset class remains an attractive source of income in a yield -starved world.

Emerging market – We are neutral hard-currency EM debt. We expect it to gain support from the vaccine-led
hard currency global restart and more predictable U.S. trade policies.

Emerging market – We are neutral local-currency EM debt. We see catch-up potential as the asset class has
lagged the risk asset recovery. Easy global monetary policy and a stable-to-weaker U.S.
local currency dollar should also underpin EM.

We are overweight Asia fixed income. We see the asset class as attractively valued. Asian
Asia fixed income countries have done better in containing the virus and are further ahead in the economic
restart.
Pas
▲ t performance
Overweight is not a reliable—indicator of current or future results.
Neutral ▼ ItUnderweight
is not possible to invest directly in an index.Note: Views are from a U.S. dollar perspective. This material represents an
assessment of the market environment at a specific time and is not intended to be a forecast or guarantee of future results.This information should not be relied upon as investment advice
regarding any particular fund, strategy or security.
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