Coffee Break

Last week in a nutshell

• The Federal Reserve lowered rates by 25bps, ending a nine-month pause and confirming the start of a new easing cycle.
• US August retail sales and import/export prices suggested economic growth is acceptable in the third quarter, but inflation likely remains an issue.
• The Bank of England kept rates unchanged, citing persistent inflation risks. The Bank of Japan also held but hinted at future tightening amid JPY pressure.
• The German Bundestag adopted the 2025 budget, which already has €27bn allocated for infrastructure on top of €86bn for defence spending this year. The discussion on the 2026 budget starts this week.
• President Trump’s UK visit focused on trade and diplomacy, while France faced major transport strikes, disrupting travel and exposing resistance to fiscal reforms.

Investment convictions

Core scenario

• United States: GDP growth slowing to 1–2% with no recession expected over the next 18 months; inflation facing upward pressure by tariffs, but the Fed appears willing to look-through and enters a new easing cycle, with markets pricing in several rate cuts by end-2026.
• Europe: Growth resilience to be tested by the rise in US tariffs and political uncertainty in France. Bund yields are stabilising around 2.75% while the ECB preserves optionality to cut, supported by persistently low inflation expectations.
• China: Trade visibility improving somewhat, but frictions remain. External outlook supported by some tariff relief, while domestic policy remains accommodative through selective 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. Renewed political tensions and nationwide strikes have resurfaced 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: Ongoing conflicts in Ukraine and the Middle East pose risks to energy markets and global 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 and a weak US dollar and reflationary momentum. We adopt a more constructive stance on equities, moving to Overweight.
• Global equities:
  • Overall positioning shifts from Neutral to Overweight, led by upgrades in the US, Asia, and Emerging Markets. Japanese equities remain a key conviction following our recent upgrade.
• Regional allocation:
  • United States: Upgraded to Overweight :The Fed’s dovish pivot, reinforced by Stephen Miran’s arrival, sets the stage for further easing. US tech remains a core conviction amid slowing but resilient growth. Despite elevated valuations, the reflationary context favours upside.
  • Japan: Maintained at Overweight :Trade visibility and tariff relief continue to support cyclical sectors, especially exporters. Structural reforms and upcoming elections point to fiscal stimulus and stronger corporate returns.
  • Europe: Remains Neutral : Tariff relief offers support, but political uncertainty in France and fiscal fragility limit conviction. The ECB is on hold but retains flexibility, with low inflation, potentially allowing room for policy action.
  • Emerging Markets: Upgraded to Overweight : Emerging equities benefit from 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 continue to favour resilient themes such as Technology & AI, European Industrials, and German Midcaps.
  • We hold exposure to US small- and mid-caps, which benefit from lower financing costs under a dovish Fed.
  • Healthcare remains supported as most of the bad news now appear discounted in the prices.
• Government bonds:
  • We are constructive on core European duration, where stable ECB policy and low inflation expectations anchor yields.
  • We hold a Short OAT / Long Bund as a hedge to protect against tail-risk of a renewed French political instability in the face of slippery public finances.
  • 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 remains less attractive given tight spreads and limited risk premia.
  • Emerging Market debt is upgraded to slight 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 weaker USD; supported by strong central bank buying and retail flows.
  • 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

The resumption of cuts in the funds rate by the Federal Reserve is not merely a technical adjustment by central banks, but likely the signal of a broader regime change, where monetary, political and geopolitical forces intersect. We expect more easing ahead and think that the start of a new Fed rate cutting cycle will lead to a weaker US dollar and support global equities.

Hence, we are adopting a more constructive stance on equities, particularly through US and emerging markets, following our recent upgrade to Japanese equities. In Europe, we emphasise Industrials and German mid-caps, while continuing to back resilient global themes such as Technology & AI and Healthcare. 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, complemented by a Short OAT / Long Bund hedge against French political tail risk, while in credit we continue to prefer European Investment Grade over High Yield.