Last Week in a Nutshell
- US Fed Governor Lael Brainard suggested the US Central Bank could start a reduction of its balance sheet as early as May and would be doing so at “a rapid pace”. Global yields rose sharply on the news.
- Internals of the most recent US ISM manufacturing survey (namely the difference between new orders and inventories) have turned negative for the first time since the pandemic.
- The important financial hub of Shanghai is battling a new wave of coronavirus infections for the fourth week straight. China’s Caixin Services PMI surprised to the downside, falling 8.1pt, to 42.0
- The European Union formally adopted its fifth package of sanctions against Russia. The package includes bans on the import of coal, wood, chemicals and other products. It is to fully come into effect by August.
What's Next?
- French President Emmanuel Macron’s fight for a second term is being challenged by Marine Le Pen’s popularity in the world’s seventh largest economy. As polls predicted, she made it through the first round.
- The European Central Bank will hold its monthly meeting. The bank has already opened the door to normalisation. A recalibration of its purchases programme should kick off the process.
- March’s CPI and PPI data for the US are expected. Those will be the last ones published ahead of this month’s Fed’s meeting.
- Soft data on economic activity is due: April’s readings of the University of Michigan’s sentiment indicator and Germany's ZEW survey. And finally, Q1 earnings season is getting started.
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
- 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).
- 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 have therefore increased duration by half a year
- We continue to diversify among inflation-linked bonds and source the carry via emerging debt.
- 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.
- In our currency strategy, we are positive on commodity currencies:
- We took profit on the NOK and
- We went long CAD.
