Coffee Break 4/19/2022

LAST WEEK IN A NUTSHELL

  • In France, Marine Le Pen qualified as challenger to incumbent president Emmanuel Macron in the second round of the presidential elections set to take place on April 24th.
  • The European Central Bank kept its policy stance broadly unchanged. Navigating between record-high inflation and concerns over a war-related recession, the central bank is slowly unwinding the extraordinary stimulus.
  • In the US, inflation data is hitting new highs: Consumer prices are potentially peaking at 8.5% YoY, while energy prices pushed the headline producer prices to a 1.4% monthly increase, leaving headline PPI inflation at 11.2% YoY in March.
  • Last week’s soft data came out above expectations: The University of Michigan consumer sentiment unexpectedly rose to a three-months high while Germany's ZEW survey soured further, but less than expected.

 

WHAT’S NEXT?

  • Flash PMI’s for key countries are due. The soft data will shed some light on both the dynamic and the heterogeneity between regional economic activity in the current context of elevated inflation and geopolitical uncertainties.
  • In Germany, producer price inflation will be in the spotlight after notching a +25.9% gain in February, the highest on record. Investors will also watch consumer confidence surveys in major European economies.
  • China’s Q1 GDP will be a first hint on how ambitious the country’s yearly goal of 5.5%. Multiple headwinds, including a property downturn, supply chain issues, and COVID-19 outbreaks are challenging the authorities’ agenda.
  • Q1 2022 earnings season will cover bellwether corporates. Earnings and sales growth as well as future guidance will be scrutinized by investors.
  • In France, Marine Le Pen and incumbent president Emmanuel Macron will hold a debate on April 20th, just days before the second round of the presidential elections.

INVESTMENT CONVICTIONS

  • Core scenario
    • Measures taken by governments and accumulated savings during the pandemic could help cushion the erosion of household purchasing power and allow GDP to grow by 2.9% in 2022 in the euro zone. A cut in natural gas delivery from Russia would however represent a major downside risk for growth.
    • The Fed started a new hiking cycle in March and plans to accelerate tightening this year and continue in 2023. 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 suddenly surging, hitting businesses, consumers, and ECB policymakers alike. The ECB put 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.
  • Risks
    • The Russia-Ukraine war is pushing commodity prices in general and prices for oil and gas in particular, and continue to add to market uncertainty.
    • As currently visible in China, the COVID-19 and its variants underline the risk of a stop-and-go in economic restrictions.
    • The supply shock due to geopolitical tensions may weigh on activity and corporate earnings growth.
    • By the same token, a brutal, faster-than-anticipated rate tightening - if inflationary pressures increase further or simply persist at current levels- could jeopardize the recovery.


RECENT ACTIONS IN THE ASSET ALLOCATION STRATEGY

Exiting the pandemic, entering the war and global tightening monetary policies act as a formidable business cycle accelerator. While at the turn of the year, the economic environment was challenging to assess because exiting a pandemic was unknown territory, the upcoming inflation peak seemed in shouting distance. The various shocks registered over the past weeks have modified – and, to some extent, clarified – the market’s assessment: The shocks have not fallen equally around the world and Europe appears the most vulnerable. Our Multi Asset strategy is adjusting. We started to add fixed income duration after having cut our equity exposure towards a broadly balanced approach in early-February.

 

CROSS ASSET STRATEGY

  1. Our multi-asset strategy has started to consider the acceleration towards end-cycle: We have reduced our equity exposure early-February and will stay overall neutral equities with nuances:
    • Neutral equity with some exposure to commodities, including gold.
    • Underweight US equities as we see growth stock valuations at risk in a context of rising inflation and rates.
    • Overweight Emerging markets, specifically via China (rebound of credit impulse) and Latin America (support from rising commodity prices).
  2. In the fixed income universe: In a context of fading growth, inflation expectations at highs and central banks willing to tighten, a longer fixed income duration appears increasingly attractive.
    • We are neutral on the US duration and slightly underweight euro zone duration.
    • We continue to diversify among inflation-linked bonds and source the carry via emerging debt.
  3. In our long-term thematics and trends allocation: The Russian invasion of Ukraine has started to shift governments’ spending priorities in terms of energy independence and defence. Hence, 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.
  4. In our currency strategy, we are positive on commodity currencies:
    • We are long CAD.


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