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December 11, 2017
Happy holidays. This is what market sentiment feels like at the moment, with risk assets at or close to multi-year highs. Faster progress on tax reform bills in the US and the EU-UK exit deal provided the last positive catalysts. They add to a favourable backdrop of strong economic growth, increasingly supportive fiscal and regulatory policy, and tightening but still easy monetary policy. [more]
Deustche Bank Research The House View: The Final Countdown Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com Research Deutsche Bank The House View Happy holidays DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MCI (P) 083/04/2017. 11 December 2017 marcos.arana@db.com matthew.luzzetti@db.com michael.hsueh@db.com Distributed on: 11/12/2017 02:00:00 GMT 7T2se3r0Ot6kwoPa Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com Months in Review 2 Reuters, 02-Nov-17 FT, 02-Nov-17 FT, 26-Oct-17 Reuters, 14-Nov-17 FT, 15-Nov-17 BBC, 07-Dec-17 FT, 02-Dec-17 FT, 27-Oct-17 Guardian, 29-Nov-17 DW, 16-Oct-17 Reuters, 22-Sep-17 FT, 01-Nov-17 WSJ, 27-Oct-17 Reuters, 19-Oct-17 FX Street, 08-Nov-17 Guardian, 04-Dec-17 The Guardian, 20-Nov-17 Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com Happyholidays.Thisiswhatmarketsentimentfeelslikeatthemoment,withrisk assetsatorclosetomulti-yearhighs.FasterprogressontaxreformbillsintheUS andtheEU-UKexitdealprovidedthelastpositivecatalysts.Theyaddtoafavourable backdropofstrongeconomicgrowth,increasinglysupportivefiscalandregulatory policy,andtighteningbutstilleasymonetarypolicy. Thepositiveenvironmentshouldextendin2018.Theglobaleconomyshouldexpand atastrongpace,withtheUSandeurozonegrowingabovepotential,andChina slowingdownbutonlymoderately.Politicalrisk,thoughstillpresent,shouldn’t escalate.Weexpectcentralbanksexitfromultra-accommodativemonetarypolicyto continueverygradually.Asaresultwearegenerallyconstructiveonriskassets. Whatcouldchallengethispositiveundertone?Asharpriseininflationforstarters. Despitestronggrowthandtight(ortightening)labourmarkets,developedmarkets inflationremainslow,andmarketshavegottenusedtothis.Therearehowever increasingsignsthatinflationwillcontinuerisingin2018.Afasterthanexpectedpick- upcouldsurprisemarketsandleadtoasharprepricingofcentralbankraterise expectations,whichcouldbedisruptiveforriskassets–akinto2013’stapertantrum. AnotherriskisChinagrowth.Authoritiesseemtohavegottenmorecomfortablewith slightlyslowergrowth,andthecentralbankistighteningmonetarypolicy.Weexpect somepolicyeasinginmid-2018tosupportgrowth.Butthisoptionmaybeoffthe tableifinflationishigh.Growthwouldthenslowandcouldweighonglobalgrowth. Inourbasecasetheserisksdon’tmaterialise.Buttheyarethere.Happyholidays. David Folkerts-Landau, Group Chief Economist 3 The House View, 11 December 2017 Happy holidays The views in this publication are informed by Deutsche Bank’s Global Strategy Group, which advises management and clients on broad market risks and global economic and financial developments. The views and forecasts of the group, which consists of senior research staff, may occasionally differ from those disseminated by their research colleagues Table of contents Introduction  4-boxes  Total returns Macro outlook  Global growth  DM inflation  US growth and tax reform  Eurozone, China and EM growth Political risk  Brexit  Europe Monetary policy  Overview  Fed and ECB outlook Markets  Summary market views  Equities outlook  FX and rates views  Oil outlook Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com  Fed : expect rate hike in December, another 4 in 2018  ECB : slow exit to continue. No new measures until mid- 2018; expect QE to end in 2018, first hike in mid-2019  BoJ : not under pressure to act, no change expected in target short rate or yield curve control policy  BoE : on hold, risk is additional rate hikes  PBoC : policy tightening to curb financial risks, followed by some easing in H2-2018 to avoid growth slowdown  EM : rate hikes starting especially in Asia, CEE –with few exceptions where cuts are still possible  Global growth to remain robust in 2018 , even as momentum slows from highs, China slows down. Forecast 3.8% growth, higher than 2017  US growth to continue above potential at 2.6% in 2018, up from 2017. Drivers of growth broadening beyond solid consumer spending  Eurozone cyclically strong , see above consensus growth in 2018 at 2.3%. Main concern is how much longer can above-potential growth last  EM: cyclical acceleration to continue , growth ticking up to 4.9% in 2018, even as China growth slows slightly  Central banks on slow tightening path :led by Fed, followed by ECB but also across EM. Still low inflation means markets not yet fully pricing CBs’ stated plans  Risk assets : with favourable macro backdrop, rally can last, as long as rates rise is not sharp  Political risk : to remain prevalent (e.g., Germany, Italy, Catalonia, Brexit, US mid-terms) but little macro impact  Brexit : increasingly seen as a UK issue. Focus now turns to ability to agree transition deal by Q1-2018  US tax reform : rising chances of reform. Positive esp. for high tax corporates, but not a major macro impact Views on key themes Economic outlookCentral bank watch Key downside risks to our view Notes: H / M / L indicates estimated probability of risk (High, Medium, Low). 4  Sharp rise in rates: taper tantrum-type scenario if inflation rises faster, central banks seen behind curve  China growth slowdown : high inflation prevents easing of monetary policy to support growth  DM growth deceleration : rising policy rates interrupt macro momentum, mild recession  De-globalisation : rise of anti-trade policies exacerbates anaemic global trade and sharply slows growth M L We expect the robust macro backdrop to continue in 2018, with monetary policy continuing to gradually tighten L M Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 31 20 20 19 14 14 10 8 7 5 -1 7 6 6 3 2 2 -0.4 12 9 5 3 3 -3 -8 9 8 -12 -15 -10 -5 0 5 10 15 20 25 30 35 40 MSCI EM Italy Milan US S&P 500 Japan Nikkei French CAC 40 German DAX 30 Europe Stoxx 600 Shanghai Composite UK FTSE 100 Mexico IPC Russia Micex US HY EUR HY US IG EUR IG US France Germany EUR GBP CNY JPY EM FX GBPEUR Dollar Index Brent Oil Gold Iron Ore In USD terms Returns* per asset class in 2017 EquitiesCommodities** FX** Sovereign debt Corporate Credit YTD2017 5 Note: (*) Total return accounts for both income (interest or dividends) and capital appreciation. (**) FX, Commodities are spot returns. Source: Bloomberg Finance LP, Deutsche Bank Research. As of COB, 07 December 2017 2017 is set to have been a brilliant year for risk assets, with equities and credit rallying while rates remained well bid Sterling narrows the gap as Brexit negotiations show progress European rates finish on a strong note, with minimal signs of ECB exit Oil up as US supply estimates fall; China iron ore demand to pause in winter Robust finish to year after spreads tightened from November wides Dollar weakness theme to persist as downside risks dominate Strong returns in local currency terms; USD equivalent returns even stronger despite minor dollar recovery in fourth quarter Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 6 1.9 2.6 6.3 7.5 1.0 1.0 1.4 2.0 2.3 2.3 2.6 4.9 2.2 3.8 012345678 Russia Brazil China India Japan UK Italy France Germany Eurozone US EM DM World 2018 Real GDP growth (%yoy) Global growth outlook US: solid growth outlook  2%+ growth through end-2018  Growth drivers broadening as capexand trade pickup  Deregulation is positive; only a modest boost from tax cuts China: moderate slowdown in 2018  Government appears tolerant of lower growth, policy tightening in H1-2018  Rising inflation in H1 could trigger faster policy tightening  Growth to rebound in H2-2018 Eurozone: strong growth not for long  Economy much more resilient to political uncertainty than feared  Expect robust growth in 2018  But pace unlikely to be sustained for long EM: helped by strong global growth  Positive outlook for EM as strong DM growth provides export pull  Asia’s growth cycle most advanced, LatAmplaying catch-up  CEEMEA benefitting from strong growth in Europe Japan: growth to slow in 2018  Five-year economic expansion reaching mature stage  Domestic demand saturating and expected to slow  See growth slowing to sub-1%, from nearly 1.5% in 2017 UK: weakening economy  Weak demand, high inflation to persist  Downside risks to growth if household confidence weakens, Brexitcontingency plans are triggered <0% 0-1% 1-2% 2-3% 3-5% 2018 real GDP growth (% yoy) >5%n/a Solid global growth outlook continues. 2018 set to post highest growth in the decade, slightly ahead of 2017 Source: Deutsche Bank Research Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 7 2018 could be the year of reckoning for inflation and the Phillips curve as inflation at last rises  Major DMs’ core inflation below target despite strong growth − US ~0.5pp below target − Eurozone higher but below target; Japanfalling  Puzzle of weak inflation but strong growth, tight labour markets has raised questions about the Phillips curve* − Rising belief in structural disinflationary forces, including at central banks  While we sympathisewith these arguments, core inflation should move sustainably higher in 2018 − Labourmarkets to tighten further − Inflation leading indicators supportive (e.g., ISMs, metals prices, US dollar / import prices) -0.5 0.0 0.5 1.0 1.5 2.0 2.5 USEuro AreaJapan LatestAverage (2002-07) Source: HaverAnalytics, National Sources, Deutsche Bank Research Core inflation below pre-crisis averages %y/y * Core PCE inflation used for US Japan: Sep-2017 Core CPI = 0 -1.0 -0.8 -0.6 -0.4 -0.2 0.0 0.2 0.4 USEuropeJapan Current2018 Labor market set to tighten further % Note: Data is unemployment rate minus NAIRU. Source: HaverAnalytics, BLS, EC Statistical Office, Ministry of Internal affairs and Communication, Deutsche Bank Research 0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 -80 -60 -40 -20 0 20 40 60 80 100 98000204060810121416 Metals (-20m, ls) US core cpi (rs) EUR core cpi (rs) %yoy%yoy 0.0 0.5 1.0 1.5 2.0 2.5 2013201420152016201720182019 %yoy USEU Note (*): Phillips curve is the negative relationship between inflation and measures of economic slack, either the output gap or unemployment gap. Source: HaverAnalytics, BLS, WB, Eurostat, Deutsche Bank Research Source: HaverAnalytics, Eurostat, BLS, Deutsche Bank Research Core inflation expected to improve from recent lows Metals prices lead US and EUR core inflation Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 8 US growth should remain solid as the drivers of growth broaden. We expect only a modest boost from tax cuts  US growth has picked up: back-to- back 3%+ growth in Q2 and Q3 − We expect 2.8% growth in Q4, lifting 2017 growth to 2.6% (Q4/Q4), strongest since 2014  Growth drivers have also broaden- ed, as stronger capex, trade have joined resilient consumer spending  Solid performance should continue into 2018 − Solid balance sheets, elevated optimism support consumer − Capexlifted by firmer energy prices, solid global growth, and elevated business sentiment − Financial conditions are at record easy levels  Modest boost from tax cuts (a few tenths), if they occur  Potential growth has been sub- duedbut should pick up modestly − Some scope for tepid product- ivitygrowth to improve -2.0 0.0 2.0 4.0 6.0 1011121314151617 % Real GDP. %q/q AR Real GDP , %y/y Growth has picked up in recent quarters Source: BEA, HaverAnalytics, Deutsche Bank Research -10 -8 -6 -4 -2 0 2 4 6 8 10 85909500051015 Real GDP ex PCEReal PCE Source: HaverAnalytics, BEA, Deutsche Bank Research %yoy And growth drivers have broadened beyond the consumer 80 85 90 95 100 105 110 20 40 60 80 100 120 140 160 000204060810121416 Consumer confidence (ls) NFIB small business optimism index (rs) Consumer and business confidence riding high Index Index Source: HaverA., Conference Board, NFIB, Deutsche Bank Research -8 -6 -4 -2 0 2 4 6 8 -5 -4 -3 -2 -1 0 1 2 2000200320062009201220152018 DB high frequency FCI (1q ahead, ls) Real GDP (rs) Source: HaverAnalytics, BEA, Deutsche Bank Research Financial conditions move to a new high Index, 13w MA 2q % change, AR Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 9 US tax reform is progressing faster than markets expected.This is positive for corporates, individuals –but macro impact modest Comparison of both billsHouse billSenate bill CorporateRate 20% Tax cut in 20182019 Repatriation Liquid assetsat 14% Illiquid assets at 7% Bonus capex depreciation Expires in 2022Phases out HouseholdTop rate 39.6%38.5% Brackets FourSeven Current deductions* EliminatedPreserved Standard deduction Nearly doubled Alternative minimum tax EliminatedScaled back but not eliminated Child tax credit $1,600 per child$2,000 per child Pass throughs Top rate 25% with caveats Deduct 23% of income State & local deduction Preservedfor property tax up to $10,000 Deficit impact 2018 $32bn / 0.2% of GDP 2018-27 (10yr) $1.45tn Note: (*) Deductions for medical expenses, student loans interest rates, personal exemption Source: US House and US Senate, Deutsche Bank Research Final bill to be closer to Senate bill  US Congress working towards passing a bill to cut taxes for corporates and households –odds have improved that this will be achieved by year-end − House, Senate each passed own version of bill − Conference to reconcile differences as next step − Final bill to be closer to Senate version, as this is where voting constraints are − Expect incremental deficit of $1.4tn over next ten years  Tax cuts to be positive for corporates, households − Corporate: rate cut from 35% to 20% in 2019; upfront expensing of investment; limits on interest deductibility; repatriation tax holiday − Households: lower tax rates; eliminate most major deductions, including for state and local taxes; tax cuts expire after 2025 − Other: small business tax cuts; pivot to a territorial corporate tax system  Despite the positive impact at micro level, overall macro impact looks to be relatively limited − Impact of only a few tenths of 1% of GDP Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 10 We expect strong growth in the eurozoneto continue into 2018, but this pace is unlikely to be sustained for very long 1.0 1.5 2.0 2.5 Apr-16Jul-16Oct-16Jan-17Apr-17Jul-17Oct-17 20172018 Dots represent current Deutsche Bank forecasts. Source: Bloomberg Finance LP, Deutsche Bank Research Eurozone growth came in stronger than expected, with 2017 growth nearly a full pp higher than foreseen a year ago Eurozone GDP forecast, consensus -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 -10 -8 -6 -4 -2 0 2 4 6 20032005200720092011201320152017 Credit impulse, pp of GDP, 2Q lead Private domestic demand, %yoy (rhs) Source: Eurostat, HaverAnalytics, Deutsche Bank Research The credit impulse* suggests a slower level of private domestic demand growth  Eurozone to record strongest growth in a decade in 2017, showing resilience to political uncertainty − 2017 GDP growth almost 1pp higher than − Unprecedented political uncertainty did not result in material macro impact − Domestic demand fuelled by market recovery, capexdriven by pent-up demand, exports helped by strong global growth − ECB maintained easy, stable financial conditions  See strong growth in 2018, but slowdown inevitable − Initial signs of inflation pick-up as economy grows above potential (e.g., wages, upstream prices rising) − Credit dynamics at odds with continued strong domestic demand growth –either spending slows, or bank lending accelerates, or both − Gap between very strong manufacturing sector and robust services sector, normally closing with deceleration in manufacturing sector Note: (*) Credit impulse: Deutsche Bank’s non-consensus view is that it is not credit growth but rather the change in credit growth that is important for domestic demand growth. A slowdown in the pace of deleveraging boosts spending growth, even if credit growth may still be negative Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 11 Political uncertainty has retreated, but event risk remains. We don’t expect adverse outcomes and significant macro impact EventsLatest developmentsDeutsche Bank view Government formation (ongoing)  Collapse of Jamaica* talks – FDP walked away accusing others of unwillingness to moderniseGermany  President against new election  Political system favours stability  SPDreconsidering grand coalition with Merkel’s party, or support for minority government  New government unlikely by year-end Catalonia elections (21 Dec)  Central government withdrew Catalonia’s autonomy following independence declaration  Social tension subsided  Little evidence of macro impact  New election in December  Separatistslikely to keep small majority in election, if united  Madrid strongly against secession  Expect compromise resolution that grants region further autonomy, but de-escalation Parliament elections (TBD, by 20 May)  New electoral law marginally reduced chance of populist Five Star Movement** government  Berlusconi’s centre-right Forza Italia, right-wing populist Nor- thernLeague gaining support  Unstable politics, as centrist majority increasingly complex #  For now, Italy helped by slow ECB exit, growth momentum  Medium-term, weak govern- mentsunable to push reform will hamper growth, feed extremism / populism 0 50 100 150 200 250 300 350 400 450 500 2000200520102015 Europe policy uncertainty Source: Bloomberg Finance LP, Deutsche Bank Research Policy uncertainty has retreated Index Notes: (*) Jamaica coalition describes coalition among the Christian Democratic Union / Christian Social Union, Free Democratic Party and Green Party. (**) 5SM. (#) According to opinion polls Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 12 Brexitwill continue to draw attention in Europe, though increasingly this is seen as a UK not EU risk  Brexittalks finally making some progress − Sufficient progress* likely by 14-Dec EU Council − Means negotiations move from just exit talks to negotiation of future relationship  Securing a transition deal** soon is key for the UK − No time to negotiate future state by Mar-2019 # − Lack of clarity by Mar-2018 (12 months before Brexit) likely to trigger contingency plans – hurting the economy  Securing a transition deal a tall order, given UK's target end-state relation with EU still unclear − From EU standpoint, only two options available, EEA membership or free trade agreement − Trade-off for UK: EEA and single market access vs. autonomy under free trade agreement − Tightrope for UK government, to keep Brexiters on board while not antagonisingEU  Brexitto remain in focus in 2018, but increasingly seen as a risk to the UK not the EU − UK more negatively impact without a transition, at least in the short-to medium-term Possible Brexitoutcomes DealDescriptionHow do we get there Crash Brexit   EU exit in 2019, no transitional or future agreement in place  Weak UK government unable to compromise  Talks fail, time runs out Mana -ged Brexit   Free-trade deal  Satisfies UK’s “clean Brexit” constraints  W/ transitional deal  UK government willing and able to compromise –some signs  But fragile government makes for difficult reconciliation of Brexit and pro-EU camps   EEA-type agreement  W/ transitional deal More market friendly Notes: (*) EU demands that sufficient progress be made on exit “divorce” talks before engaging negotiations on the future UK / EU relationship. (**) Transitional deal to bridge period between EU exit and future agreement kicking in. (#) 29-Mar-2019 set as Brexitday Firms trigger contingency plans December’s EU Council only the end of the beginning of Brexitnegotiations Divorce Future relationship and transition Ratification 15-Dec EU27 to decide on sufficient progress* 19-Oct UK / EU deal to parliaments for approval 29-Mar Brexitday 201720182019 23-Mar UK needs transitional deal Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com  China’s growth is expected to slow in 2018, after the strong performance so far in 2017 − Investment slowed down, property sales growth turned negative in October  The slowdown is driven by policies − Government is likely to tolerate slower growth to make room for deleveraging, following the policy message from the 19 th CPC Party Congress − Monetary, fiscal, and property market policies may be tightened further  Risks may stem from inflation and interest rates in the next 6 months… − Inflation is expected to pick up in early 2018 − Interest rates are on the rise amid tightening financial sector regulations  …but overall, risks should be manageable. We do not expect a hard landing − We expect the government to loosen policy on the property sector some time in H1. Investment will likely rebound in H2 2018 13 In China, growth is set to slow moderately due to fiscal and monetary policy tightening. Watch inflation and interest rate risks 6.96.9 6.8 6.7 6.6 6.3 6.1 6.3 6.5 6.8 6.3 6.0 5 6 7 Q1Q2Q3Q4Q1Q2Q3Q416171819 ActualForecast %yoy 2017 2018 China growth to slow in the near term, rebound in H2 2018 Source: China National Bureau of Statistics, Deutsche Bank Research -4 -2 0 2 4 6 8 10 2006200820102012201420162018 CPI, headlineCPI, nonfood % CPI inflation is expected to rise in early 2018 Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com  EM growth outlook remains positive in 2018, helped by synchronisedglobal growth − Expect slightly higher and less disperse growth across EM and DM − Typically accompanied by acceleration in investment, pick-up in portfolio inflows, FX appreciation and reduced policy divergence  Asia growth cycle most advanced − Inflation pressures building as output gaps are closed − Monetary policy tightening, but offset by easing of fiscal policy, with China the notable exception  Latin America cycle lagging, but expect growth to double in the region (from a low base)  In some limited cases low inflation should allow central banks to cut rates against rising growth – e.g., Brazil, Russia  Country specifics, including a heavy political calendar, should play a bigger role in 2018 14 EM will continue to benefit from robust growth in advanced economies. EM specifics to play an important role in 2018 -6 -4 -2 0 2 4 6 8 10 198019851990199520002005201020152020 EM growth premium DM EM Source: HaverAnalytics, IMF WEO, Deutsche Bank Research EM growth premium to DM rising but still much lower than pre-crisis % yoy/ pp 0 2 4 6 8 INDCHNTURIDNPOLARGKORBRATWNMEXHKGRUSZAF 20182017 Source: Deutsche Bank Research Positive growth outlook for EM in 2018. LatAmto pick-up pace %yoy Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 15 The Fed and ECB continue on their exit path –while BoE and BoJare likely to remain on hold Federal Reserve European Central Bank Bank of England Bank of Japan Macro backdrop  Strong macro backdrop, growth above trend  At full employment  Inflation has been low  GDP growth strong, above-trend, rising  Indications of upstream price pressure emerging  Economyslowing. Weak pound hurts households but doesn't help exports  Close to full employment  Economy slowing down into 2018  Inflation to peak below 1% Key challenge  Soft inflation casts doubt over Fed’s rate guidance  Market reluctant to price normalisation beyond next hike (i.e., terminal rate pricing is low)  Gaps in data say growth unlikelyto stay so fast  Market confidence in inflationnormalisation remains low  Conflicting goals: high inflation, weak sterling warrant higher rates, but this threatens growth  Brexituncertainty  Inflation, wage growth not risingdespite near full-employment and massive BoJstimulus  Sustainability of Yield Curve Control* Policy stance  Sticking to gradual exit  Would like to see convincing evidence of firmer inflation to continue rate hikes  Strengthof economic recovery allows gradual exit from QE  Slow, gradual exit warranted by inflation  On hold, as weak growth prevents further hikes  But risk of tightening if Brexittransition agreed early  On hold, no changes in target yieldson YCC  Priority in sustaining over fine-tuning YCC What we expect  Dec-17: rate hike  2018: four hikes, with inflation being key  Ongoing balance sheet unwind in background  QE continuingat E30bn/pm until Sep-18  End-18: QE finishes  Mid-19:first policy rate hike (refi& deporate)  No policy change through 2018  Risk is of more tightening  Expect Kuroda to be reappointed –meaning status quo for policy Note: (*) BoJintroduced YCC in Sep-2016. Rather than maintaining a commitment to a JPY amount of QE purchases, the BoJstarted targeting a 10-year yield around zero. The policy has a countercyclical nature: the more inflation normalises and yields rise, the more bonds the BoJwill purchase, thus easing when not needed; the opposite also holds true. Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com  Fed policy decisions are being made in the presence of strong countervailing forces − On the hawkish side are solid growth, a tight labour market, and loose financial conditions − On the dovish side are softer inflation and a belief the neutral fed funds rate (r-star*) is low  We expect the Fed to raise rates again in December − Fed communications have signaled a hike and market is nearly fully pricing the move  In 2018, we see four rate hikes –the first in March – but inflation developments will be crucial − Fed is having an open debate about the sources of low inflation –temporary factors versus structural disinflationary forces (e.g., innovation) − We expect more convincing signs inflation is rising, pushing Fed to hike more aggressively  We expect three hikes in 2019, pushing the fed funds rate above 3%, with unemployment near 3.5% and inflation slightly above target  Alternatives to 2% inflation target being discussed, as a low r-star means monetary policy will be more frequently restrained by near-zero rates in the future 16 Fed to raise rates in December. Four more increases expected in 2018 as officials grapple with the causes of recent low inflation 1.0 1.5 2.0 2.5 3.0 3.5 4.0 % Sep FOMC projectionsSep FOMC medians Market pricing (latest)DB forecasts 20172018 2019 2020 Longer run DB fed funds rate projections above the Fed, well above market Source: FRB, Deutsche Bank Research Policy framework options: Impact on Fed policy outlook Framework optionComments Higher inflation rate target  Fed raises inflation rate target from 2% to, say, 3 or 4%  Dovish policy shift to “commit” to achieving new target Price level target  Fed targets price level instead of inflation rate  Shoots for higher inflation during recovery to make up for lower inflation during downturns Nominal GDP target  Fed targets nominal GDP growth or level  Higher inflation during recovery; moderated by better growth Temporary approaches  Switches frameworks (e.g., to price level targeting) when fed funds rate is at zero lower bound but otherwise unchanged  Explicit nod to ZLB issues would be mildly dovish Enhanced forward guidance  Calendar / outcome-based guidance when policy rate at ZLB  Similar to policies pursued during recovery from crisis Note (*): The neutral fed funds rate (“r-star”) is the level of the real fed funds rate that keeps output at potential and inflation at target. Rates below r-star are accommodative while rates above r-star are restrictive. More dovish Less dovish Note: ZLB = zero lower bound. Source: Deutsche Bank Research Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 17 With the ECB embarked on a slow exit, little is expected before mid-2018. We expect the first hike a year later, earlier than market 0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 201420152016201720182019 ECB expectationActualDB forecast Source: ECB, HaverAnalytics, Deutsche Bank Research Eurozone core inflation to gradually accelerate Eurozone core HICP inflation, %yoy 0 20 40 60 80 2018201920202021 Market pricing DB forecast Note: (*) 3m Eoniaminus spot Source: Bloomberg Finance LP, Deutsche Bank Research Market pricing a slower ECB cycle than we expect ECB policy rate, bp One 25bp hike Market pricing appears dovish  ECB exit measures in October a market non-event − Reduction of QE purchases, extension to Sep- 2018; stick to open-ended commitment to QE  Little reason for ECB to act before mid-2018 − Little / no inflation pressure through 2018 − Current guidance buys time through Q1/2-2018 − Expect QE to end in Q4-2018, first hike mid2019  Market taking a more dovish view, with a first hike only in 2020. This appears too complacent − Evidence of turning point in inflation cycle beginning to build − Taylor Rule # suggests unconventional monetary policy ought to end before 2018 − ECB to tighten monetary policy more, to compensate for easing of fiscal stance when GDP growth is strong, output gap is closed  Still low inflation, upcoming Italian election mean repricingof ECB hikes is unlikely before H2-2018  Change in composition of ECB board makes current framework / guidance somewhat less relevant − 5 out of 6 board members to be replaced by end- 2020, including Draghiat end-2019 Note: (#) A Taylor rule infers the policy rate that should be set by the Central Bank given the current state of the economy and inflation. Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 18 Summary of market views Asset classViewRationale Markets  Supportive backdrop for risk  Positive context set to continue, allowing for continued strong performance for risk assets. On current expectations, monetary policy tightening to be benign, not disruptive for risk Equities  US: bullish view  S&P surpassed year-end target. See upside to 2,850 by end-2018 on strong earnings growth. Additional upside from tax reform, end-2018 target of 3,000  Europe: cautious view  Goldilocks backdrop of accelerating growth andfalling real bond yields fading  End-2018 target of 395, but risk of ~5% pullback by Q2-2018 Rates  Strategically bearish  Rising US inflation as well as fiscal and regulatory easing will support further Fed tightening. Target3% for US 10y yield in 2018  ECBto hike rates earlier than currently priced FX  Broad USD downside  USD multi-yearupcycle ended this year. Tactical dollar bounce since September likely over, and structural downside risks dominate into 2018  Little upside from tax reform, as this is mostly priced in  EUR positive  Target 1.20 for end-2018,but risk is of an overshoot above this target Credit  Constructive short- term  Scope for further spreadtightening in Q1 especially in Europe as recent widening attracts investors back into the asset class EM  Positive short- term, more cautious thereafter  EM assets to continue benefitting from positive backdrop for risk. Portfolio inflowsto remain supportive  Turning more cautious later as DMmonetary tightening poses headwinds Oil  Short-term risk  Risk for downside during Q1-2018 as US supply optimism rebuilds  Medium term constructive as demand growth absorbs OPEC spare in 2019 Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 19 Markets are benefiting from a supportive macro backdrop; this context is set to continue, but there are risks Supportive macro backdrop for markets Growth   Strongglobal growth, 2017-18 to post highest growth of decade  Momentum coming off highs Fiscal stance   Fiscal easing –e.g., US tax reform, fiscal relaxation in Europe Regulatory stance   Past peak regulatory tightening  Trendtoward regulatory easing especially in the US Monetary stance   Gradual tighteningcontinues  Overall stance still very accommodative  Risk assets continue to perform strongly − US equities record highs, strong rally in Europe − Credit spreads at or close to multi-year tights  The macro backdrop is supportive − Strong cyclical growth, easing fiscal policy, end of regulatory drive − Tightening monetary policy, but only gradually and from ultra accommodative levels –financial conditions still strongly supportive  Positive context set to continue, allowing for continued strong performance for risk assets − On current expectations, monetary policy tightening to be benign, not disruptive for risk  Markets not shielded from a correction, e.g., − Sharp and disorderly repricingup of rates, ala 2013’s taper tantrum –triggered by faster than expected rise in inflation − Sharper growth slowdown in China, if sticky inflation prevents easing of monetary policy 45 50 55 60 2011201220132014201520162017 GlobalUS ISMEurozoneEM Source: HaverAnalytics, Bloomberg Finance LP, Deutsche Bank Research Macro momentum remains robust across regions Composite PMI, 3m avg Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 20 We are bullish US equities, where we expect the rally to extend. Further upside potential if US tax reforms passes  Tax reform could provide additional upside − 2018 year-end target of 3,000 − Stronger EPS growth –commensurably above trend − Multiple should compress as markets look through above-normal earnings − Further scope for outperformance for high tax companies –5pp outperformance so far vs. low tax firms is low given EPS sensitivity to tax cut  S&P500 rallied close to 20% this year − Strong earnings the primary driver, some multiple expansion too − Little impact from strong dollar − Additional boost from tax reform hopes  We are bullish in 2018 − Target 2,850 (+8% from current levels) − Expect continued strong EPS growth in 2018 – supported by continued strong US and global growth, small dollar boost 93 95 97 99 101 103 105 Sep-16Dec-16Mar-17Jun-17Sep-17 DBUSHGHT/DBUSLOWT reindexed as of Nov 7, 2016 Source: Bloomberg Finance LP, Deutsche Bank Research S&P 500 High Tax to Low Tax Baskets (relative performance) 3.9 4.1 4.3 4.5 4.7 4.9 5.1 200420062008201020122014201620182020 Recession Log of S&P 500 LTM EPS Forecast LTM consensus $163 EPS Trend Source: Bloomberg Finance LP, Deutsche Bank Research Earnings rising to long run trend Log of EPS 2018 EPS if corporate tax rate is cut to 20% Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 21 In Europe, our equities outlook is more cautious as some of the drivers that have provided support fade  Tactically neutral, but some downside by Q2-2018  Overweight defensives, underweight cyclicals, underweight resources − Our PMI momentum framework points to 8% downside for cyclicalsvs defensives by Q2, with relative ShillerP/E already at a 30-year high − Favourite defensives: pharma, food & bev, telecoms − Underweight autos, tech, luxury goods  European equities benefitted from Goldilocks conditions of rising growth, falling real bond yields − These tailwinds are turning  We see some but limited upside into end-2018 – muted EPS growth, no multiple expansion − End-2018 target of 395 − EPS weighed by euro appreciation -150 -100 -50 0 50 100 150 200 250 300 350 400 0 10 20 30 40 50 60 70 1998200120042007201020132016 Euro PMI new orders Euro real bond yield (6m lag, bps, rhs) Goldilocks–strong growth, low yields Forecasts 6 8 10 12 14 16 20042006200820102012201420162018 Stoxx 600 12m fwd P/E Forecast Fitted = f(Euro area PMI, real bond yield, uncertainty) Source: HaverAnalytics, Bloomberg Finance LP, Deutsche Bank Research Fair value multiple moving lower to 15.1 at end-18 P/E Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 22  Market is however taking a more dovish view on the monetary policy path − US: Dec-2017 hike fully priced, but only 2 hikes priced for 2018 vs. our expectation of 4 hikes − Europe: market extrapolating from Fed precedent, expecting first hike a year after end of QE –we expect the ECB to be more hawkish − Significant repricingunlikely in Q1-2018  Risk is sharp and sudden repricingof central bank tightening, e.g., if inflation surprises to the upside  Supportive macro backdrop… − Strong global growth, easing fiscal stance − Low but gradually rising inflation  …should allow Fed, ECB to continue gradually tightening monetary policy − Fed to hike in December, and another four times in 2018 − ECB to announce mid-year the end of QE around end-2018 We are strategically bearish core rates. We expect more monetary policy tightening than the market prices -0.5 0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 201320142015201620172018 US 10YEU 10Y Source: Bloomberg Finance LP, Deutsche Bank Research Expect core rates to rise steadily through 2018 % DB forecasts 1.0 1.2 1.4 1.6 1.8 2.0 2.2 2.4 2.6 2.8 Jan-16Apr-16Jul-16Oct-16Jan-17Apr-17Jul-17Oct-17 USEurozone Note: Market-baed(inflation swaps) Source: Bloomberg Finance LP, Deutsche Bank Research Eurozone inflation expectations slowly but steadily rising 5y5y inflation expectations, %yoy US: stable around Fed target Eurozone: slowly but steadily rising Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com  Multi-year dollar upcycle interrupted this year  Broad dollar troughed in mid-September and bounced until early November − 4% bounce against majors into mid-November − Supported by revived hopes for meaningful tax reform in the US, speculation over a hawkish replacement for Janet Yellenat Fed  Tactical bounce is likely over now  Structural downside risks dominate into 2018 − Tax reform to deliver unfunded tax cuts of $1.5trn at best, and Fed terminal rate pricing now reflecting it more fairly − Structural euro upside on robust eurozone growth, receding political risk, and increasingly hawkish risks to ECB forward guidance  Overvaluation to weigh on broad dollar, not just vs. euro 23 In FX, we see the tactical dollar bounce as likely over and structural downside risks dominate 70 80 90 100 110 2011201220132014201520162017 Source: Bloomberg Finance LP, Deutsche Bank Research Dollar multi-year upcycleinterrupted this year Dollar index Dollar upcycle -1.0 -0.5 0.0 0.5 1.0 AUDGBPEURJPYCHFCNYCADEMFX Tactical dollar rebound since mid-September % change vs. USD, since 18-Sep-17 Source: Bloomberg Finance LP, Deutsche Bank Research Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com 24 As for the euro, despite the large move this year we see risks of a drift above our 1.20 target vs. the dollar next year  We target 1.20 for end-2018 but EURUSD is more likely to overshoot than to reverse lower − Currency only just approaching fair value − Global real money still structurally underweight, generating demand for euro assets − Few signs of stronger euro weighing on growth − First ECB rate hike priced very dovishlyfor 2020, and a repricingof the front-end would be more bullish than QE taper  EURUSD already above our year-end target of 1.17 and could squeeze higher − German political uncertainty could be positive if Grand Coalition emerges − Growth momentum exceptionally strong  14% move this year largest since 2014, but not extreme and less pronounced on a trade-weighted basis (+9%) 0% 10% 20% 30% 40% 19761980198419881992199620002004200820122016 Source: Bloomberg Finance LP, Deutsche Bank Research Annual ranges in EURUSD since 1976: this year is not extreme 0% 5% 10% 15% 20% 1Y2Y3Y4Y5Y6Y7Y8Y9Y10Y Source: Bloomberg Finance LP, Deutsche Bank Research Beta of EURUSD to 1% change in Eurozone swap yields by tenor Front-end sensitivity of EUR to rates Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com  We are tactically negative on a second emerging wave of supply-positive data emerging from the US: − Rig counts responding to higher WTI price − Rig productivity rising as fraccapacity delivered − Monthly and weekly production data now agree, removing a key uncertainty  Global supply-demand balance surplus of +500 kb/d in Q1-18 also likely to be a short-term negative  Slower inventory draws over the next 12 months suggest stable prices with risk of downside drift  Medium term we are constructive on the commodity; recent pre-FID project breakevensindicate USD 65/bblis still relevant as a marginal cost of supply, and therefore an equilibrium price level  Likelihood of sizeable deficit emerges in 2020 (-750 kb/d) after US supply growth and OPEC spare capacity are both absorbed by steady demand growth  Possible overshoot of USD 65/bblequilibrium in 2020 25 45 65 85 105 200 700 1200 1700 20142015201620172018 Oil-directed rig count (lhs, rigs) WTI M3 (4M lag, rhs USD/bbl) Source: Bloomberg Finance LP, Deutsche Bank Research US oil rig count in a rebuilding phase, signaling stronger growth 25 -100 0 100 200 300 400 201320142015201620172018 Surplus (Rolling 5Y avg, mmbbl liquids) DB projection Source: IEA data from Monthly Oil Data Service, as modified by Deutsche Bank OECD inventory surplus reduction to follow slower path Mm bbl Furtherprogress but at slower pace -1.0 0.0 1.0 2.0 2014201520162017201820192020 Surplus (deficit) Source: Bloomberg Finance LP, Deutsche Bank Research Global supply demand deficit emerging in 2020 Mmb/d Balanced markets through 2019 Oil has recovered strongly from its mid-year slump. We are now tactically negative on US supply Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com DB forecasts Source: Deutsche Bank Research 26 ASIA:China, HK, India, Indonesia, Korea, Malaysia, Philippines, Singapore, Sri Lanka, Taiwan, Thailand, Vietnam DM:Australia, Canada, Denmark , Eurozone, Japan, New Zealand, Norway, Sweden, Switzerland, UK, US *CPI (%) forecasts are period averages CEEMEA: Czech Rep., Israel, Egypt,Hungary, Kazakhstan, Nigeria, Poland, Romania, Russia, Saudi Arabia, South Africa, Turkey, UAEand Ukraine LATAM:Argentina, Brazil, Chile, Colombia, Mexico, Peru, Venezuela GDP growth (%)201620172018F2019FCPI inflation, YoY * (%)201620172018F2019F Global3. US1. Eurozone1. Germany1. France1. Italy0. Spain3. Central Bank policy rate (%)Current Q4-17F Q4-18FQ4-19F Japan0. 1.375 2.3753.125 UK1. 0.00 0.000.50 China6. -0.10 -0.10-0.10 India7. 0.50 0.500.75 EM Asia6. 1.50 1.501.50 EM CEEMEA1. EM LatAm- Key market metricsCurrent Q4-17F Q4-18FQ4-19F EM4. 10Y yield (%)2.38 2.50 2.952.96 DM1. 10Y yield (%)0.31 0.50 0.90 #N/A EUR/USD 1.177 1.17 1.201.20 USD/JPY 113 116 120110 S&P 5002,652 2,600 2,850 #N/A Stoxx 600389 375 395 #N/A Oil WTI (USD/bbl)57.4 51.0 52.053.0 Oil Brent (USD/bbl)63.4 56.0 55.056.0 Current prices as of 08-Dec-2017 Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com Keep informed with our regular The House View publications at houseview.research.db.com The House View range The House ViewInfographicSpecialSnapshotMacro Forecasts  Monthly report  Summarises key financial and economic developments  Provides context on Deutsche Bank’s forecasts and outlook for economic growth, monetary policy and financial markets  A one-pager that tackles a current topic in a few charts and visuals  Ad-hoc in depth reports on major underlying topics affecting global economic growth and markets  A handy two-page summary of Deutsche Bank Research macro and markets views  A summary of Deutsche Bank Markets Research macroeconomic, fixed income, foreign exchange and commodities forecasts 27 Research Deutsche Bank The House View –11 December 2017 thehouseview@list.db.comhttp://houseview.research.db.com Analyst Certification This report covers more than one security and was contributed to by more than one analyst. The views expressed in this reportaccurately reflect the views of each contributor to this compendium report. In addition, each contributor has not and will not receive any compensationfor providing a specific recommendation or view in this compendium report. Marcos Arana / Matthew Luzzetti / Michael Hsueh Attribution The authors wish to acknowledge the contributions made by Avik Chattopadhyay and Sourav Dasgupta, in the preparation of this report. 28 Appendix 1 Important Disclosures *Other information available upon request PricesarecurrentasoftheendoftheprevioustradingsessionunlessotherwiseindicatedandaresourcedfromlocalexchangesviaReuters, Bloombergandothervendors.OtherinformationissourcedfromDeutscheBank,subjectcompanies,andothersources.Fordisclosures pertainingtorecommendationsorestimatesmadeonsecuritiesotherthantheprimarysubjectofthisresearch,pleaseseethemostrecently publishedcompanyreportorvisitourglobaldisclosurelook-uppageonourwebsiteat http://gm.db.com/ger/disclosure/DisclosureDirectory.eqsr . Asidefromwithinthisreport,importantconflictdisclosurescanalsobefoundat https://gm.db.com/equities underthe“DisclosuresLookup”and “Legal”tabs.Investorsarestronglyencouragedtoreviewthisinformationbeforeinvesting. 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Macroeconomicfluctuationsoftenaccountformostoftherisksassociatedwithexposurestoinstrumentsthatpromisetopayfixedorvariableinterestrates.Foraninvestorwhoislongfixedrateinstruments (thusreceivingthesecashflows),increasesininterestratesnaturallyliftthediscountfactorsappliedtotheexpectedcashflowsandthuscausealoss.Thelongerthematurityofacertaincashflowandthe higherthemoveinthediscountfactor,thehigherwillbetheloss.Upsidesurprisesininflation,fiscalfundingneeds,andFXdepreciationratesareamongthemostcommonadversemacroeconomicshocksto receivers.Butcounterpartyexposure,issuercreditworthiness,clientsegmentation,regulation(includingchangesinassetsholdinglimitsfordifferenttypesofinvestors),changesintaxpolicies,currency convertibility(whichmayconstraincurrencyconversion,repatriationofprofitsand/ortheliquidationofpositions),andsettlementissuesrelatedtolocalclearinghousesarealsoimportantriskfactorstobe considered.Thesensitivityoffixedincomeinstrumentstomacroeconomicshocksmaybemitigatedbyindexingthecontractedcashflowstoinflation,toFXdepreciation,ortospecifiedinterestrates–these arecommoninemergingmarkets.Itisimportanttonotethattheindexfixingsmay--byconstruction--lagormis-measuretheactualmoveintheunderlyingvariablestheyareintendedtotrack.Thechoiceof theproperfixing(ormetric)isparticularlyimportantinswapsmarkets,wherefloatingcouponrates(i.e.,couponsindexedtoatypicallyshort-datedinterestratereferenceindex)areexchangedforfixed coupons.ItisalsoimportanttoacknowledgethatfundinginacurrencythatdiffersfromthecurrencyinwhichcouponsaredenominatedcarriesFXrisk.Naturally,optionsonswaps(swaptions)alsobearthe riskstypicaltooptionsinadditiontotherisksrelatedtoratesmovements. 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