Last week in a nutshell
- The EUR got a boost as ECB president Christine Lagarde said that she expected a rate lift-off at the ECB meeting on July 21st, followed by another hike on September 8th, in order to exit negative interest rates by the end of the third quarter.
- Business confidence surveys revealed that growth deceleration continued in May. Softening demand for goods is likely helping to ease strains on delivery times and inflationary pressures. Stocks rose, with European shares heading for the best weekly advance since mid-March.
- In the US, the decline in new and pending home sales accelerated sharply in April. Clearly, higher mortgage rates and declining affordability are weighing on building activity and sales, leading to rising inventories.
- The UK government, under political pressure to support Britons facing a major squeeze on living standards, announced that it will impose a 25% windfall tax on oil and gas companies applied to profits generated in the UK. This raises the question if other countries would follow or if other sectors could get targeted.
What’s next?
- The upcoming US job report will be the next important milestone for investors: Fed funds rate hike expectations have been trimmed in recent weeks and the USD slid almost 3% from its mid-May peak.
- The manufacturing and services PMIs around the globe will reveal important details on the overall softening outlook for growth. Production, new orders, and delivery times will be particularly scrutinised.
- Financial markets will be focused on the May CPI releases in Germany, France, Italy and the euro zone after repricing the expected rate hikes by the ECB in recent weeks. Attention will be paid to whether there have been any signs of relief in price pressures.
- The Bank of Canada's monetary policy decision will be due, following a +50bp move at the last meeting in April
Investment convictions
Core scenario
- While the market environment still appears constrained by deteriorating fundamentals, more stability has appeared recently as a lot of pessimism has already been priced into markets.
- 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.
- 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.
- In Europe, inflation is at record highs, hitting businesses, consumers, and ECB policymakers alike. The ECB puts an end to its Pandemic Emergency Purchase Programme and announced it will stop buying bonds this summer. This paves the way for an increase in interest rates sooner rather than later.
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
Economic growth has slowed down and inflation has risen significantly, following multiple shocks. This represents a formidable business cycle accelerator. Our medium-term outlook is cautiously optimistic for a gradual recovery once the landing is absorbed. In this context, our Multi Asset strategy is positioned to cope with “fat and flat” price ranges or “wide and volatile” markets. We keep an overall broadly balanced approach before positioning for the next stage of the cycle. We are adding exposure to euro zone and US equities after the sharp correction. We maintain protective strategies on US markets and position ourselves for potential upside in the euro zone via derivatives.
Cross asset strategy
- Our multi-asset strategy is staying agile. Our current positioning stays by nature 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, with a preference for domestic China
- 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 close-to-neutral US duration via the short-end of the curve. We are still underweight euro zone duration.
- 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.
