TheGlobalEconomicBackdrop

Following December’s sell-off, global equity markets got off to a strong start in 2019, buoyed by two positive developments. Against a backdrop of slowing US growth and a weaker global environment, the Federal Reserve pledged to take a “patient” approach to tightening monetary policy. Similarly, progress in US–China trade negotiations led to a de-escalation of tensions and expectations for a deal.

With valuations back to their October levels, the questions now are whether good news has been fully priced and how much upside remains. We remain optimistic and view recession risks as overestimated. However, we also believe that global economic growth will be slower in 2019 and that volatility will be higher.

Against this backdrop of slower growth and continued uncertainty, we believe some upside remains in equity markets, but that investors should capitalize on volatility to upgrade the quality of their holdings. Likewise, in debt markets, we believe investors should take a more defensive approach until the risk/reward trade-off is more compelling.

Our View

1. US household finances continue to improve, which should support growth even as it decelerates.

2. The euro zone economy should recover from weak 2H18 levels, although recent data raise concerns.

3. Ongoing efforts to stimulate the Chinese economy are helping it find a floor, in line with the new target of 6.0%–6.5% real growth.

4. Progress on reflating the Japanese economy remains painfully slow, making policies to blunt the impact of October’s consumption tax hike crucial.

Investment Implications

1. The global economy is better than markets imply and should support earnings growth, albeit at a slower pace.

2. Uncertainty over trade policy, China’s economy, and monetary policy is likely to persist, resulting in continued volatility.

3. Equity market valuations have rebounded, but remain more attractive than debt.

4. Due to modest growth and persistent risks, we recommend upgrading portfolios, with a focus on returns on capital and valuation.

United States Slowing to Potential

Base CaseUS real GDP grew 2.9% in 2018, after decelerating through the year. Although economists expected slower growth it still raised recession fears. First quarter GDP will likely be weak, but we expect full year growth to remain above trend and to slow toward potential of about 2.0% in 2020.

Robust jobs growth has continued (Exhibit 1), drawing more people into the labor force. Wage growth has strengthened across the income spectrum (Exhibit 2), albeit slowly, benefiting more of the labor force and lifting consumer confidence and spending.

Even if a trade deal is reached, US relations with China will likely remain fraught for years. Furthermore, a renewed protectionist focus on the European Union and Japan is possible. Finally, the Fed’s “patient” approach to additional rate hikes does not remove the possibility of higher rates later in 2019.

Key Risks

� Protectionism � Fed tightening (substantially less likely than last quarter) � Geopolitics

Exhibit 1Jobs Growth Remains StrongMonthly Change in Nonfarm Payrolls

0

100

200

300

400

20192018201720162015201420132012201112-Month Moving Average

(Thousands) Unemployment rate: 5.5%Jobs growth: 260k/month

Unemployment rate: 3.8%Jobs growth: 209k/month

As of 28 February 2019Source: Bureau of Labor Statistics, Haver Analytics

Exhibit 2US Wage Gains Are BroadeningCumulative Change in Real Hourly Wages by Wage Percentile, 2007–2018

-4

0

4

8

12

16

95th 90th 80th 70th 60th 50th 40th 30th 20th 10th

2014–20182007–2014 2007–2018(%)

8.7 7.96.8

4.3 3.63.4

5.17.3

12.015.2

As of 31 December 2018Sample based on wage and salary workers aged 16 and older. The xth-percentile wage is the wage at which x% of wage earners earn less and (100 - x)% earn more. Based on EPI analysis of Current Population Survey Outgoing Rotation Group microdata. Hourly wages are analyzed as annual averages.Source: Economic Policy Institute, “The State of American Wages”

Euro Zone Waiting for a Rebound

Exhibit 3Growth in Germany, France, and Italy Is Likely To ReboundEuro Zone Real GDP Growth

-0.5

0.0

0.5

1.0

201820172016201520142013201220112010

OtherSpainItaly

FranceGermany Headline

QoQ Contribution (%)

As of 31 December 2018Source: European Central Bank, Statistical Office of the European Communities, Haver Analytics

Exhibit 4The Euro Zone’s Industrial Production Slowdown Has BroadenedIndustrial Production

-8

-4

0

4

8

2018 Q42018 Q32018 Q22018 Q12017 Q42017 Q32017 Q22017 Q1

YoY Change (%)

Manufacturing of Motor Vehicles, Trailers & SemitrailersTotal Industry, ex-Construction

As of 31 December 2018Source: Statistical Office of the European Communities, ECB, Haver Analytics

Base CaseThe euro zone’s slowdown since 2017 has been unexpectedly rapid (Exhibit 3), raising concerns. Several temporary factors likely contributed: the budget impasse in Italy; new emissions standards and strikes in the German auto sector; and protests in France.

We expect a rebound to solid, but modest growth through 2019. However, weakness in activity has broadened (Exhibit 4) and bears monitoring. Furthermore, the region is particularly exposed to softer global growth and could become a new focus of US protectionism. The potential for a disruptive Brexit also looms at the end of March.

Recognizing these threats, the European Central Bank is extending accommodative policies including low-cost bank funding (TLTRO-III) and holding rates in negative territory until at least 2020. The risk of a policy mistake has decreased in the short term, but a hawkish shift remains possible beyond that, depending on who replaces President Mario Draghi in October.

Key Risks

� Populism � Brexit � US protectionism

China Finding a Floor

Exhibit 5Some Signs of Stabilization in Chinese Credit GrowthTotal Social Financing Outstanding

0

6

12

18

24

201920182017201620152014201320122011

YoY Change (%)

TSF ex-Equity including Local Government Bonds

RMB Loans

As of 28 February 2019Total Social Financing ex-Equity Incl Local Government Bonds = TSF – Equity – Local Government Special Bonds + Total Local Government Bonds.Source: People’s Bank of China, ChinaBond, Haver Analytics

Exhibit 6Chinese Producer Price Deflation Is a ConcernProducer Price Indices

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-4

0

4

8

12

2019201820172016201520142013

YoY Change (%)

Consumer GoodsProducer GoodsAll Industrial Products

As of 28 February 2019Source: China National Bureau of Statistics, Haver Analytics

Base CaseSince late 2017, China has tightened financial conditions to reduce systemic risk. In 2018, slowing credit growth resulted in decelerating economic activity, raising concerns that growth could fall rapidly. In response, authorities have steadily ramped up economic stimulus.

More recently, credit growth appears to be stabilizing (Exhibit 5), although data is complicated by the Lunar New Year holiday. If that is the case, we would expect economic activity to find a floor in mid-2019, in line with newly announced targets for 6.0%–6.5% real GDP growth. For the time being, weakening trade data and producer prices (Exhibit 6) are worrisome.

More broadly, efforts to first restrain credit and then stimulate growth highlight the challenge for policymakers as they seek to rebalance China’s economy. Similarly, while prospects for a trade deal with the United States have improved, international suspicion of the country’s rise is likely to remain.

Key Risks

� Policymaking for a two-tier economy � US protectionism � Asset price bubbles

Japan Lower for Longer

Base CaseSince 2012, Japan has pursued Abenomics to reflate the economy and end decades of stagnation through monetary stimulus, fiscal stimulus, and structural reform. Six years on, there have been some positive results: labor markets are tight, corporate profitability is high, and real per capita growth has accelerated.

However, inflation remains stubbornly low and growth remains fragile and dependent on the global environment. Against a challenging backdrop in 2018, real GDP contracted in two of four quarters and nominal GDP stalled (Exhibit 7). Amid new disappointments, the Bank of Japan yet again pushed out its inflation forecasts (Exhibit 8).

Our baseline expectation has been for real growth of roughly 1%, but 2019 looks less certain. On one hand, the BoJ may be forced to respond to further weakening; on the other, October’s consumption tax hike could sap momentum as it did in 2014.

Key Risks

� Fiscal policy mistake � BoJ policy mistake � US protectionism

Exhibit 7Growth Momentum Has Disappeared in JapanNominal GDP, Seasonally Adjusted at an Annual Rate

200

300

400

500

600

20182014201120072004200019961992198819841980

QE1 Abenomics

(JPY Trillions)

As of 31 December 2018Source: Ministry of Internal Affairs and Communication; Ministry of Health, Labor & Welfare; Haver Analytics

Exhibit 8The BoJ Continues to Push Out Its Inflation ProjectionsMedian January Bank of Japan Forecast for CPI excluding Fresh Food

-1

0

1

2

3

202020192018201720162015

2016 2017 2018 2019Fiscal Year on Fiscal Year (%)

As of 31 January 2019Fiscal year starts in April and ends in March. Each Policy Board member’s forecast takes the form of a point estimate, namely the figure to which he or she attaches the highest probability. These forecasts are then shown as a range of central tendency, with the highest and lowest figures excluded. It should be noted that the range does not indicate the forecast errors.Source: Bank of Japan, Haver Analytics

Implications for Investors

December’s sell-off and the subsequent rebound have made for especially volatile markets. We expect volatility to continue, especially relative to 2017 (Exhibit 9): growth is likely to be slower in all major economies; the cycle is getting long in the tooth; and a number of important risks remain.

The rebound in equity markets has brought valuations back to their October levels, mildly above their 10-year average and most elevated in the United States, where prospects are most resilient (Exhibit 10). We believe these levels are reasonable, particularly given the 50 basis points (bps) decline in US 10-year yields and the 40 bps decline in Germany.

Nonetheless, returns are likely to be muted and driven by earnings growth. As a result, we believe equity investors should capitalize on volatility to upgrade portfolios, targeting companies with high sustainable returns on capital, strong balance sheets, and attractive valuations. In fixed income, we believe long duration, developed markets sovereign debt remains unattractive, as do bonds issued by risky companies. We favor shorter duration bonds until long rates reach higher levels.

Exhibit 9Volatility Is Likely to Be ElevatedDaily S&P 500 Market Moves

# of Trading Days>1% >2% High

2007 65 17 92008 134 72 02009 117 55 02010 76 22 02011 96 35 02012 50 6 02013 38 4 452014 38 6 532015 72 10 102016 48 9 182017 8 0 622018 64 20 192019 YTD 8 2 025Y Avg. 66 18 19

Daily MSCI World ex-US Market Moves # of Trading Days

>1% >2% High2007 64 10 352008 115 58 02009 128 45 02010 86 22 02011 107 37 02012 69 13 02013 36 2 02014 27 2 02015 53 11 02016 64 14 02017 9 1 02018 36 3 02019 YTD 5 0 025Y Avg. 60 13 8

As 8 March 2019Daily move is calculated as the absolute value of the percent change in closing price. High is based on daily closing price. MSCI World ex-US is in USD. Source: FactSet, Credit Suisse

Exhibit 10Valuations Appear to Be ReasonableForward P/E (Next 12 Months), Past 10 Years

0

10

20

30

S&P500

MSCIEuropeex-UK

MSCIUK

MSCIJapan

MSCIEmergingMarkets

MSCIChina

+2 Standard Deviations +1 Standard Deviation 3/8/2019 10-Year Average

(x)

As of 8 March 2019Average and standard deviations calculated based on month-end values. The figures above represent expected returns. Expected returns do not represent a promise or guarantee of future results and are subject to change. Source: FactSet

Ronald Temple, CFAManaging Director, Co-Head of Multi-Asset and Head of US Equity

Ronald Temple is a Managing Director and Co-Head of Multi-Asset and Head of US Equity, responsible for oversight of the firm’s multi-asset and US equity strategies as well as several global equity strategies. He is also a Portfolio Manager/Analyst on various US and global equity teams. He joined Lazard in 2001 with ten years of global experience, including fixed-income derivative trading, risk management, corporate finance, and corporate strategy in roles at Deutsche Bank AG, Bank of America NT & SA, and Fleet Financial Group in London, New York, Singapore, San Francisco, and Boston. Ron has an MPP from Harvard University and graduated magna cum laude with a BA in Economics & Public Policy from Duke University. He is a member of the Council on Foreign Relations, the Economic Club of New York, Duke University’s Graduate School Board of Visitors, and the New York Society of Security Analysts (NYSSA). He also served as a trustee of the Link Community School in Newark, New Jersey, from 2006–2014, as a member of the Trinity Board of Visitors at Duke University from 2006–2012, and a member of the Financial Accounting Standards Advisory Council from 2013–2015.

David Alcaly, CFA Research Analyst

David Alcaly is a Research Analyst specializing in macroeconomic research. David began working in the investment field in 2014. Prior to Lazard, he worked in a variety of industries, most recently as a Regional Director at the Clinton Foundation providing commercial and financial analysis to governments and companies on renewable energy projects. David has an MSc in International Political Economy from the London School of Economics and a BA in History from Princeton University. David is a CFA® charterholder.

Important Information

Published on 18 March 2019.

This document reflects the views of Lazard Asset Management LLC or its affiliates (“Lazard”) based upon information believed to be reliable as of the published date. There is no guarantee that any forecast or opinion will be realized. This document is provided by Lazard for informational purposes only. Nothing herein constitutes investment advice or a recommendation relating to any security, commodity, derivative, investment management service, or investment product. Investments in securities, derivatives, and commodities involve risk, will fluctuate in price, and may result in losses. Certain assets held in Lazard’s investment portfolios, in particular alternative investment portfolios, can involve high degrees of risk and volatility when compared to other assets. Similarly, certain assets held in Lazard’s investment portfolios may trade in less liquid or efficient markets, which can affect investment performance. Past performance does not guarantee future results. The views expressed herein are subject to change, and may differ from the views of other Lazard investment professionals.

This document is intended only for persons residing in jurisdictions where its distribution or availability is consistent with local laws and Lazard’s local regulatory authorizations. Please visit www.lazardassetmanagement.com/globaldisclosure for the specific Lazard entities that have issued this document and the scope of their authorized activities.

Equity securities will fluctuate in price; the value of your investment will thus fluctuate, and this may result in a loss. Securities in certain non-domestic countries may be less liquid, more volatile, and less subject to governmental supervision than in one’s home market. The values of these securities may be affected by changes in currency rates, application of a country’s specific tax laws, changes in government administration, and economic and monetary policy. Emerging markets securities carry special risks, such as less developed or less efficient trading markets, a lack of company information, and differing auditing and legal standards. The securities markets of emerg-ing markets countries can be extremely volatile; performance can also be influenced by political, social, and economic factors affecting companies in these countries. Small- and mid-capitalization stocks may be subject to higher degrees of risk, their earnings may be less predictable, their prices more volatile, and their liquidity less than that of large-capitalization or more established companies’ securities.

An investment in bonds carries risk. If interest rates rise, bond prices usually decline. The longer a bond’s maturity, the greater the impact a change in interest rates can have on its price. If you do not hold a bond until maturity, you may experience a gain or loss when you sell. Bonds also carry the risk of default, which is the risk that the issuer is unable to make further income and principal payments. Other risks, including inflation risk, call risk, and pre-payment risk, also apply. Securities in certain non-domestic countries may be less liquid, more volatile, and less subject to governmental supervision than in one’s home market. The values of these securities may be affected by changes in currency rates, application of a country’s specific tax laws, changes in government administration, and economic and monetary policy. Derivatives transactions, including those entered into for hedging purposes, may reduce returns or increase volatility, perhaps substantially. Forward currency contracts, and other derivatives investments are subject to the risk of default by the counterparty, can be illiquid and are subject to many of the risks of, and can be highly sensitive to changes in the value of, the related currency or other reference asset. As such, a small investment could have a potentially large impact on performance. Use of derivatives transac-tions, even if entered into for hedging purposes, may cause losses greater than if an account had not engaged in such transactions.

The S&P 500 Index is a market capitalization-weighted index of 500 companies in leading industries of the US economy.

The MSCI Europe ex-UK Index is a free-float-adjustment market capitalization index that is designed to measure equity market performance in Europe excluding the United Kingdom. The Index comprises 14 developed markets countries in Europe.

The MSCI United Kingdom Index is designed to measure the performance of the large and mid cap segments of the UK market.

The MSCI Japan Index is a free-float-adjusted market capitalization index that is designed to measure equity market performance in Japan.

The MSCI Emerging Markets Index is a free-float-adjusted market capitalization index that is designed to measure equity market performance in the global emerg-ing markets. The MSCI Emerging Markets Index consists of 24 emerging markets country indices: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Greece, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Pakistan, Peru, Philippines, Poland, Qatar, Russia, South Africa, Taiwan, Thailand, Turkey, and United Arab Emirates.

The MSCI China Index is constructed based on the integrated China equity universe included in the MSCI Emerging Markets Index. The index aims to represent the performance of large and mid cap segments with H shares, B shares, red chips, P chips, and foreign listings (e.g., ADRs) of Chinese stocks. China A-shares will be par-tially included in this index.

These indices are unmanaged and have no fees. One cannot invest directly in an index.

Certain information included herein is derived by Lazard in part from an MSCI index or indices (the “Index Data”). However, MSCI has not reviewed this product or report, and does not endorse or express any opinion regarding this product or report or any analysis or other information contained herein or the author or source of any such information or analysis. Neither MSCI nor any third party involved in or related to the computing or compiling of the Index Data makes any express or implied warranties, representations, or guarantees concerning the Index Data or any information or data derived therefrom, and in no event will MSCI or any third party have any liability for any direct, indirect, special, punitive, consequential, or any other damages (including lost profits) relating to any use of this information. Any use of MSCI data requires a license from MSCI. None of the Index Data is intended to constitute investment advice or a recommendation to make (or refrain from making) any kind of investment decision and may not be relied on as such.

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