Last week in a nutshell
- Following the latest inflation estimate (8.1%), the European Central Bank stated it would raise its key interest rates by 25bps next month, with further increases planned for later this year. The bond-buying stimulus programme shall end at the end of this month.
- US inflation surprised on the upside again in May following a slowdown in April. Transportation prices accounted for about 40% of the outsized increase while Food prices also continued to increase rapidly. Soaring early-month gasoline prices suggest another extremely strong CPI increase again next month.
- American households are feeling increasingly uncomfortable in this environment as shown by the preliminary Consumer Sentiment estimate which hit a record low in the 5-decade old series.
- Japan's seasonally adjusted real GDP dropped by 0.3% in April, the first contraction in three months. Exports were weaker, primarily due to China’s lockdown which slowed production and sales activities in the country. Imports declined as well, dragging down the total GDP. Private consumption held up nonetheless.
What’s next?
- No doubt that the Federal Reserve will take note of the higher-than-expected US headline and core CPI readings for May. Another 50bps increase in its funds rate is widely expected and the updated dot plot will be scrutinised.
- More generally, the focus will be on central banks as monetary policy decisions are also expected from the Bank of England, the Swiss National Bank and the Bank of Japan amid inflation pressures and growth concerns.
- On the data docket, we expect retails sales and industrial production data from China. Running at a very different speed, the country is starting to lift some of its recent COVID-19 restrictions.
- In Europe, data to be published includes April industrial production and trade balance data as well as Germany's ZEW survey for June. The UK will also reveal its April GDP growth rate after a first contraction last month.
Investment convictions
Core scenario
- While the market environment still appears constrained by deteriorating fundamentals, markets have been shaken by the latest announcements of the European Central Bank.
- The reasons for a balanced allocation have not changed in recent weeks: The risks we previously outlined are starting to materialize, and are now part of the scenario.
- Facing high inflation, central bank rhetoric and policy tools have triggered a tightening in financial conditions while the global economic slowdown is now well underway as the war in Ukraine and the COVID-19-related lockdowns in China weigh on confidence and activity. The latter should pick up during H2 in China as stimulus measures kick-in.
- Facing multi-decade high inflation, the Fed started its hiking cycle in March and plans to add further 100bps to its funds rate by end-July and continue tightening thereafter. In our central - and best case - scenario, the Fed succeeds in soft landing the economy. We expect the rise in the US 10Y rates to fade going forward.
- As in the US, inflation is at record highs in the euro zone, hitting businesses, consumers, and ECB policymakers alike. The ECB pre-announced a 25bp rate hike for the month of July and put an end to its Pandemic Emergency Purchase Programme and announced it will stop buying bonds on July 1st.
Risks
- Other countries may face the Bank of England (BoE) stagflation dilemma: Even as the growth outlook deteriorates sharply, signs of upward pressure on inflation expectations, near-term wage and price setting behaviours remain.
- A brutal, faster-than-anticipated rate tightening - if inflationary pressures increase further or simply persist at current levels- could jeopardize any soft landing.
- The war in Ukraine is pushing upwards commodity prices in general and prices for oil and gas in particular and continue to add to markets uncertainties. European gas prices are at the mercy of flows staying open.
- As currently visible in China, COVID-19 and its variants underline the risk of a stop-and-go in economic restrictions.
Recent actions in the asset allocation strategy
The multiple shocks experienced so far in 2022 have led to a rare simultaneous decline in equity and bond values. As uncomfortably high inflation lead major central banks to tighten monetary policies, investors prepare for the landing of the global economy. Our Multi Asset strategy is positioned to cope with the economic slowdown underway and is ready to shift gear depending on the unfolding economic sequence and central banks’ reaction. Our exposure keeps an overall broadly balanced allocation before positioning itself for the next stage of the cycle, whether it be a soft or a hard landing. Our multi-asset strategy is well positioned for the current slowdown: We have reduced our equity exposure early-February and are staying neutral equities with some exposure to commodities, including gold.
Cross asset strategy
- Our multi-asset strategy is staying agile. Our current positioning stays more tactical than usual and can be adapted quickly:
- Neutral euro zone equities, with a preference for the Consumer Staples sector, and with a derivative strategy in place to catch the asymmetric upside potential
- Neutral UK equities, resilient segments, and global exposure
- Neutral US equities, as the Fed’s rate hike has now been absorbed to an extent by the market and with a derivative protection strategy.
- Neutral Emerging markets but we acknowledge that we expect an improvement especially in China, both on the COVID-19 / lockdown and stimulus fronts during H2.
- Neutral Japanese equities, as accommodative central bank, and cyclical sector exposure act as opposite forces for investor attractiveness
- With some exposure to commodities, including gold.
- In the fixed income universe, a longer fixed income duration appears increasingly attractive as we register downward revisions in growth, highs in inflation expectations and strong central bank rhetoric regarding the willingness to tighten and fight inflation.
- We have a neutral US duration via the short end of the curve. We are slightly underweight euro zone duration via French bonds.
- We continue to diversify and source the carry via emerging debt.
- In our long-term thematics and trends allocation: While keeping a wide spectrum of long-term convictions, we will favour Climate Action (linked to the energy shift) and keep Health Care, Innovation, Demographic Evolution and Consumption.
- In our currency strategy, we are positive on commodity currencies:
- We are long CAD.
