Coffee Break

Last week in a nutshell

• The situation in the Middle East remains highly ambiguous, swinging between potential escalation towards de-escalation and negotiations.
• In the meantime, Iran is allowing selective passage through the Strait of Hormuz, at a fee.
• Private Credit saw some headlines again, with Apollo and Ares capping redemptions in some of their funds, renewing questions about the solidity of the asset class.
• PMIs in the euro zone and in the US showed a similar pattern, with relatively stronger than expected data from the manufacturing side, but services data coming in somewhat softer versus expectations.
• UK inflation was overall in line with expectations, with Core inflation slightly surprising on the upside.

Investment convictions

Core scenario

• Becoming more careful: We downgraded our equity overweight to slightly negative and adopt a more defensive stance across credit and precious metals. A prolonged oil spike would eventually erode purchasing power and confidence, as historical precedents illustrate. We downgrade equities across all regions.
• Monitoring the situation in the Middle East closely. We remain ready to re-engage with risky assets should the Strait of Hormuz reopen, oil stabilise toward $80-85/barrel, and rate pressures ease. History shows geopolitical pullbacks are short-lived unless they become a sustained macro shock.
• Ahead of the start of the Iran war, a supportive macro context. Macro conditions remained supportive until end-February but are no longer the dominant driver of market leadership. US growth continued to rest on private domestic demand, with investment – especially AI-related capex – playing a larger role than consumption.Monetary policy ambiguity. A Federal Reserve easing now seems conditional on the evolution of energy prices. We think the Federal Reserve is likely to look through the shock. The ECB will have to manage inflation expectations and is no longer “in a good place”. It may adopt a more cautious stance, delivering a first 25 basis point hike in the coming months as an insurance policy move. And the Bank of Japan and the Reserve Bank of Australia remain in tightening mode.

Risks

• Iran war. The duration of the war and the effective closure of the Strait of Hormuz, the diffusion towards other countries and beyond energy commodities to soft commodity prices, and the damage to the energy infrastructure in the region represent the key risks for the growth inflation mix.
• Geopolitical fragmentation. The US–China rivalry remains entrenched, while energy supply and global trade patterns continue to shift. 
• Fed dilemma. The oil shock and a divided FOMC could delay further easing, risking a pause in liquidity support. There is a risk that tariff-related price gains together with energy price related pressure, could lead to some inflation increases over the coming months.
• Fiscal credibility. Rising issuance and political noise could test bond market confidence and trigger volatility in yields.

Cross asset strategy

• We have downgraded equities to negative, becoming more careful across all regions.
  • Our overall positioning is slightly negative, with only the US at a neutral stance.
• Regional allocation:
  • United States: Neutral. The United States remain relatively more insulated thanks to domestic energy production and still-resilient private demand.
  • Japan: Negative. Structural energy import dependence.
  • Europe: Negative. Acute exposure to Middle Eastern oil and LNG dynamics and vulnerability to renewed headline inflation.
  • Emerging Markets: Negative. The region was one of the best performers year-to-date, but in the new geopolitical environment it is also the most vulnerable to higher oil prices and a rising USD.
• Factor and sector allocation:
  • We remain constructive for both Healthcare and Tech. Within the software sector, a large dispersion of business models exists, some of which are more impacted by Artificial Intelligence than others.
  • We keep some exposure to European Industrials as well as German and US small- and mid-caps as they are somewhat shielded from expansionary budgets and planned deregulation.
• Government bonds:
  • We are neutral on core European duration. A spiking oil price, if it remains at elevated levels, is already feeding through in interest rate expectations for the ECB.
  • US Treasuries remain Neutral, with the upcoming Fed reshape adding complexity.
• Credit:
  • Spread widening in European Investment Grade has been limited, insufficient to create a broad valuation opportunity while macro uncertainty remains elevated. Investment Grade fundamentals remain solid, but sensitivity to higher rates warrants a neutral positioning. With dispersion increasing, we favour maintaining selectivity rather than holding an overweight position.
  • Neutral on Investment Grade credit in both the US and Europe. High Yield technicals are deteriorating amid outflows and increasing supply. Within High Yield we’re neutral on European High Yield and negative on US High Yield.
  • Emerging Market debt is now neutral. Emerging markets face a challenging backdrop of higher yields, a stronger dollar, and rising volatility, leading to a neutral stance on both Emerging Market local debt and corporates.
• Alternatives:
  • We remain constructive on gold over the long term, but tactically it is not working as a hedge in the current environment. We took some profits on our exposure to metals and note the increased volatility.
  • We hold precious and strategic metals, alternatives and market-neutral strategies for portfolio stability and diversification.
• Currencies:
  • The current market regime favours currencies linked to commodities such as precious metals and oil. Therefore, we have long positions in AUD, NOK and BRL.
  • We remain underweight on the USD but have reduced this underweight materially on renewed geopolitical escalation.
  • We are also long JPY.

Our Positioning

The situation in the Middle East remains highly ambiguous, swinging between potential escalation towards de-escalation and negotiations. In the meantime, Iran is allowing selective passage through the Strait of Hormuz, at a fee. Private Credit saw headlines again, with Apollo and Ares capping redemptions in some of their funds, renewing questions about the solidity of the asset class. PMIs in the euro zone and in the US showed a similar pattern, with relatively stronger than expected data from the manufacturing side, but services data coming in somewhat softer versus expectations. UK inflation was overall in line with expectations, with Core inflation slightly surprising on the upside. We have downgraded equities to negative, through a downgrade of all regions, of which only the US retains a neutral view. US policy objectives in the war remain uncertain. The US has proposed a pause in its hostilities towards Iran to discuss a 15-point peace plan, but it is yet unclear if this is merely a diversion to deploy more military capacity to the region. In the meantime, neither Israel nor Iran is backing down from reciprocal strikes in the broader region. Until there is greater clarity on the conflict's trajectory and US strategic intentions, we prefer to reduce portfolio risk. In fixed income, we have reduced the overall core European duration to neutral, as well as our view on bonds in general. Finally, we also reduce our view on Emerging market debt to neutral, for both hard and local currency. Emerging markets face higher yields, tightening financial conditions, a higher cost of energy and a stronger USD as sudden major headwinds.