Last week in a nutshell
- Despite the impressive Nvidia earnings report, investors remained sceptical due to concerns over the shrinking gross margin.
- Euro zone inflation dropped to a three-year low of 2.2% YoY according to flash estimates for August while both headline and core July PCE inflation printed at 0.16 % MoM in the US.
- With +3% in GDP annualized rate last quarter, the US economy grew faster than expected amid strong consumer spending, while corporate profits rebounded.
- In Japan, inflation accelerated, prompting the Bank of Japan to reaffirm its readiness to raise rates, but July's production and retail sales fell short of expectations.
What’s next?
- The next US job report is the key set of data that will determine the rate path in the near term, starting with the size of the September Fed funds cut.
- Activity will be in the spotlight with the publication of the euro zone preliminary estimates of its QoQ GDP growth rate, final Japan’s GDP growth rate and monthly PMIs.
- The US Federal Reserve will release its Beige Book, a qualitative overview of the US economy, two weeks ahead of the FOMC.
- The Bank of Canada is meeting and expected to cut rates by 25bps for the third time in a row as inflation dropped to a 40-month low of 2.5% and the labour market is showing signs of weakness.
Investment convictions
Core scenario
- Our central forecast continues to predict a soft landing. Domestic demand in the US continues to grow robustly (including consumption). Although business activity indicators are somewhat volatile, they remain in expansionary territory.
- US growth forecasts for 2025 are increasingly influenced by political and monetary factors. EU’s sluggish growth is dependent on a pick-up in business and consumer activity, while China's growth remains subdued.
- The cooling of inflation – and core inflation – is a synchronised global development. Supportive (i.e. lower) inflation news also paves the way for European central banks (e.g., ECB, BoE, SNB, Riksbank) to further cut interest rates in Q3. With several emerging market central banks already cutting since 2023, and the Federal Reserve joining the chorus, the long-awaited global easing cycle is set to gain momentum.
Risks
- Looking ahead, we caution against policy decisions that lead to higher tariffs and a tighter labour market in the US, which could ultimately lead to rising inflation again or significantly higher taxes, which could weigh on growth.
- The upcoming change in the White House and the potential reprioritisation of US economic policy could affect the speed and extent of monetary easing.
- Geopolitical risks to the outlook for global growth remain tilted to the downside as the potential resumption of international trade tariffs, developments in the Middle East and the war in Ukraine weigh on confidence.
Cross asset strategy
- We keep our central scenario of a soft landing and disagree with the market, which, price a Fed policy that cuts rates by as much as 100bp by year-end, implying at least one 50bp rate cut at one of the remaining three FOMC meetings.
- We hold a long duration via European debt and a neutral equity stance with a relative preference for the US.
- We prefer developed markets vs emerging markets, and besides the US, also invest in UK equities for their defensive characteristics.
- In the US, we are exposed to the broad market.
- In the UK, valuations remain attractive with the potential for multiple expansion and the BoE poised to cut interest rates.
- In the euro zone, French president Emmanuel Macron has yet to nominate a Prime minister. Amid political uncertainty, a higher risk premium seems justified.
- We are tactically neutral Japan as further yen strengthening and emerging political uncertainties could be challenging.
- We are neutral emerging markets, as the Chinese consumer has yet to gain confidence and deflationary pressure persists.
- In the equity sector allocation:
- After locking in profits on the technology sector and becoming neutral, we are positive on the healthcare sector. Recent earnings indicate that the normalisation of overearning from COVID, due to destocking excess inventories and demand for COVID-specific products, is mostly complete.
- We are neutral Small caps.
- In the fixed income allocation, government bonds are an attractive investment as they offer a hedge in a multi-asset portfolio. Also, we see little room for credit spreads to tighten further:
- We favour carry over spreads, with a focus on quality issuers: we maintain our long duration bias via Germany and the UK.
- We are neutral on US duration.
- We have a relatively small exposure to emerging markets sovereign bonds amid very narrow spreads.
- We are neutral on investment grade and high yield bonds, regardless of the issuers’ region.
- In the currency allocation, we took profit on our remaining commodity-linked currencies, such as the Australian dollar.
- We keep an allocation to Alternative investments and to gold.
Our Positioning
Our positioning reflects our belief in the soft landing of the US economy along with caution amid political uncertainty. Within equities, we have a preference for the broad US market and prefer UK equities relative to the euro zone on this side of the Atlantic. In our sector allocation, we are overweight healthcare for its defensive quality, neutral US technology and small caps.
Our bond strategy reflects our H2 2024 Outlook, i.e. as inflation normalises, the correlation between equities and bonds is reverting, thereby enabling safe bonds to resume their protective role within a diversified portfolio. We therefore maintain a long duration via German and UK sovereign bonds. Simultaneously, we remain neutral on corporate investment grade and more cautious on global high yield.