Coffee Break

Last week in a nutshell

• Earnings season surprises remain strong: In the US, 82% of S&P 500 companies beat EPS expectations (highest in four years) while European results were more modest but solid. Earnings revisions are turning positive again, led by banks on both sides of the Atlantic.
• Markets swung on volatile non-official data: As the government shutdown entered its sixth week, the absence of official releases left investors relying on alternative indicators, which delivered mixed labour signals and fuelled sharp moves across yields and equities.
• US local elections mark a setback for Donald Trump: Democrats outperformed expectations across key state and city races, hinting at softer support for the MAGA movement ahead of next year’s mid-terms.
• Central banks cautious but softening: The Bank of England held rates at 4% with a notably dovish tone, while Fed and ECB officials maintained a cautious, data-dependent stance. Markets now price roughly a 70% chance of a December Fed cut.
• Supreme Court hearing fuels tariff uncertainty: Most justices appeared sceptical of the President’s authority to impose tariffs. A divided decision is likely by year-end, with the White House expected to seek alternative legal routes if the tariffs are struck down.

Investment convictions

Core scenario

• United States: Decent GDP growth expected over the next 18 months; inflation facing upward pressure by tariffs, but the Fed and markets appear willing to look-through. Following two rate cuts in the Funds rate since September, markets are pricing several additional rate cuts by end-2026.
• Europe: Growth resilience to be tested by the rise in US tariffs and little domestic momentum. Bund yields are at the lower end of the range observed in H2 as inflation expectations remain subdued.
• China: Trade visibility is improving somewhat according to the latest trade balance release, but frictions remain. External outlook supported by some tariff relief, while domestic policy remains accommodative through credit easing and fiscal support.

Risks

• Fed independence at risk: The “Trumpification” of the Fed through 2026 threatens to rupture past practice, with a more politically driven reaction function. This could steepen the yield curve, raise inflation premia, weaken the US dollar, support nominal earnings in the short term, and ultimately trigger an unpredictable bond market sell-off… potentially requiring a renewal in quantitative easing.
• European political instability: Weak cohesion and fiscal fragmentation risk to weigh on the region. Political tensions have resurfaced and simmer in France.
• Bond market credibility test: A loss of confidence in fiscal discipline could drive long-term yields higher, renew volatility, and destabilise equities and credit markets.
• Geopolitical and policy fragmentation: The ongoing conflict in Ukraine poses risks to European security, while diverging central bank paths and rising protectionism add to global policy fragmentation.

Cross asset strategy

• The Fed’s rate cut cycle signals a broader regime shift, supporting global equities via lower short-term rates, a weak US dollar and reflationary momentum. We hold a constructive stance on equities.
• Global equities:
  • Our overall positioning remains Overweight, led by a positive view on all regions.
• Regional allocation:
  • United States: Slight Overweight: The Fed’s dovish pivot in September has set the stage for further easing. US tech remains a core conviction amid resilient growth. We said that the earnings season would be an important marker and acknowledge that the artificial-intelligence euphoria shows no signs of abating.
  • Japan: Slight Overweight: Trade visibility and tariff relief continue to support cyclical sectors, especially exporters. The election of Sanae Takaichi is symbolizing structural reform and diversity in leadership and is therefore seen as an important step to eliminate the discount on Japanese equities.
  • Europe: Slight Overweight: Tariff relief offers support, and Germany’s expansionary budget has now been approved. The ECB is on hold but retains flexibility, with low inflation, potentially allowing room for policy action.
  • Emerging Markets: Slight Overweight: Emerging equities benefit from a US -China trade truce until next year, a softer USD and improved trade visibility. EM debt remains slightly overweighed, supported by attractive yields and lower funding costs.
• Factor and sector allocation:
  • We favour a barbell approach with resilient themes such as Technology & AI, and Healthcare which remains supported as most of the bad news now appears discounted in the prices.
  • We keep exposure to German and US small- and mid-caps as they are still likely to benefit from expansionary budgets and lower financing costs under a dovish Fed.
• Government bonds:
  • We are constructive on core European duration, where stable ECB policy and low inflation expectations anchor yields.
  • US Treasuries remain Neutral, with tariff-driven inflation and a Fed reshape adding complexity.
• Credit:
  • We prefer European Investment Grade credit, where spreads are attractive versus US credit.
  • High Yield has a more limited risk/reward given tight spreads and low embedded risk premia.
  • Emerging Market debt is an Overweight on attractive yields, better trade visibility, and dovish Fed support.
• Alternatives:
  • Gold remains overweight as a hedge against geopolitical risks, real rate volatility, and a weaker USD; supported by strong central bank buying and retail flows. We have taken some profits following the parabolic rise in recent weeks.
  • We acknowledge that the US dollar remains the key pivot for emerging markets and precious metals.
  • We retain allocations to alternative strategies for portfolio stability and diversification.
• Currencies:
  • We remain underweight USD, as Fed easing and political pressure weigh on the currency.
  • We favour defensive currencies such as the Japanese yen and hold selective long positions in EM currencies with strong fundamentals.

Our Positioning

After a volatile week marked by shifting rate expectations, an extended government shutdown, and renewed trade uncertainty, markets remain directionless but resilient. The lack of official data has heightened sensitivity to alternative indicators, adding noise rather than changing the broader narrative. Seasonally, we are entering a supportive period for risky assets, and sentiment should gradually stabilise as policy visibility improves.

Our conviction remains risk-on as fundamentals and technicals confirm a constructive outlook for equities, and the upward trend is likely to prevail by year-end. As a result, we continue to hold a balanced overweight allocation across the US, euro zone, Japan, and Emerging Markets. We like resilient global themes such as Technology & AI and Healthcare. Closer to us, we emphasise German mid-caps as a catch-up trade, fuelled by fiscal stimulus. On the fixed income side, our strategy includes Emerging Market debt, supported by attractive yields, tariff relief, and improved investor flows. We also remain constructive on core-European duration while in credit we continue to prefer European Investment Grade over High Yield.