4 things global financial cycles are telling us
Jens Søndergaard
Currency analyst
  • Currently, financial cycles suggest that the US economy will lead the rest of the world over the next couple of years.
  • Europe is seeing a slower recovery from the economic downturn, due in part to a less-aggressive fiscal and monetary policy response to the pandemic.
  • Emerging markets are generally in the earlier phases of their financial cycles, suggesting that they may see a period of relative strength as the advanced economies pass their cyclical peaks.

As much of the global economy climbs out of the pandemic-induced downturn, investors are scrutinising every new economic data point for clues to the outlook for growth and inflation. I think they should also take the 30,000-foot view afforded by financial cycles, which can offer a long-term perspective on the trajectory of an economy. My latest reading of global financial cycles shows very positive signals for the US economy and dollar over the next few years, alongside more cautious signals for Europe and China.

Financial cycles track house prices and the amount of private-sector debt in an economy. The concept, developed by the Bank for International Settlements (BIS), rests on the observation that trends in these factors develop slowly and tend to influence each other. This reflects the critical role of credit in financing home purchases and construction. Financial cycles often last much longer than the business cycle, which is a far more mainstream indicator that focuses on fluctuations in economic output. In my view, financial cycles provide a powerful tool that investors can use to assess the outlook for economies — and asset class returns.

What the four phases of the financial cycle tell us

There are four distinct phases of the financial cycle, corresponding to the trend of leverage in an economy. Peaks in the financial cycle can provide an early warning of financial crises. In fact, the last peak in the US financial cycle in 2006 preceded the global financial crisis. Additionally, turning points in financial cycles often coincide with changing fortunes for equity and bond markets. My analysis of more than 40 years of asset class returns shows that bonds tend to fare better than equities around financial cycle peaks, while equity returns have typically been stronger around financial cycle troughs.

Four phases of the financial cycle: How equities and bonds have typically fared1

Four takeaways from current financial cycles

I’ve been tracking the financial cycles of nearly 40 countries around the world for the past seven years. Here are four key trends that I’m seeing:

1. The US financial cycle is very strong

US financial cycle could have another leg up2

The US stands out as one of the few countries experiencing an acceleration in both the housing and credit components of the financial cycle, which bodes well for US economic growth over the next few years. In particular, the surge of US house prices has given the financial cycle a new boost. US house prices rose almost 10% year over year in the fourth quarter of 2020, exceeding the growth rate during the runup to the global financial crisis. Private credit also expanded as the Federal Reserve cut interest rates to near zero and pumped liquidity into the financial system in response to the economic effects of the COVID-19 pandemic. US private debt reached 160% of gross domestic product in the fourth quarter of 2020, up from 148% a year earlier, according to the Federal Reserve and the Bureau of Economic Analysis.


1. Source: Capital Group. Data presented are for informational purposes only and are not intended to provide any assurance or promise of actual results. Analysis results are highly dependent on our assumptions and actual results may vary significantly because future market characteristics may not match our assumptions. This illustration of financial cycles was developed using an economic model, historical data from 1974 to 2014 and our judgment.

2. Sources: Bank for International Settlements, Organisation for Economic Co-operation and Development, National Institute of Economic and Social Research and Capital Group calculations. Actual data as of the third quarter of 2020; forecast through the second quarter of 2025. Index, 1971=0. Forecast based on the most recent global forecast from the National Institute of Economic and Social Research.


Risk factors you should consider before investing:
  • This material is not intended to provide investment advice or be considered a personal recommendation.
  • The value of investments and income from them can go down as well as up and you may lose some or all of your initial investment.
  • Past results are not a guide to future results.
  • If the currency in which you invest strengthens against the currency in which the underlying investments of the fund are made, the value of your investment will decrease. Currency hedging seeks to limit this, but there is no guarantee that hedging will be totally successful.
  • Depending on the strategy, risks may be associated with investing in fixed income, emerging markets and/or high-yield securities; emerging markets are volatile and may suffer from liquidity problems.

Jens Søndergaard is a currency analyst with 16 years of industry experience. He holds a PhD in economics and a master’s degree in foreign service from Georgetown University.

Past results are not a guarantee of future results. The value of investments and income from them can go down as well as up and you may lose some or all of your initial investment. This information is not intended to provide investment, tax or other advice, or to be a solicitation to buy or sell any securities.

Statements attributed to an individual represent the opinions of that individual as of the date published and do not necessarily reflect the opinions of Capital Group or its affiliates. All information is as at the date indicated unless otherwise stated. Some information may have been obtained from third parties, and as such the reliability of that information is not guaranteed.