Coffee Break 2/24/2020

LAST WEEK IN A NUTSHELL

  • As expected, Chinese authorities continued to mitigate the coronavirus impact introducing accommodative measures, with for instance the central bank lowering its interest rates.
  • Flash PMI data disappointed in the US and Japan but were above expectations in the euro zone
  • In Japan, the 2019 Q4 GDP surprised on the downside putting 2020 growth at risk.
  • For his first Democratic TV debate, Michael Bloomberg has been unanimously criticized by the other candidates.

 

WHAT’S NEXT?

  • Uncertainty linked to the coronavirus is likely to dominate the news-flow as the resumption in economic activity in China progresses at a slow pace. The Chinese PMI survey is to be publisged on 29 February.
  • The Bank of Korea is expected to cut its policy rate as the coronavirus outbreak increased uncertainties for its economy.
  • Following the Nevada caucus, South Carolina primaries will be held next, while the Super Tuesday will occur on 3 March.
  • On the data front, we expect various regional manufacturing reports in the US and Europe, including the IFO index in Germany.

INVESTMENT CONVICTIONS

  • Core scenario
    • New uncertainties due to the external shock of the spread of the coronavirus. Better visibility depending on the timing of the epidemy peak and the contagion outside of China and the activity resumption.
    • Our 2020 scenario is rather constructive as the bottoming out of the economy at the turn of the year is confirmed by various indicators. The recovery is likely delayed by the coronavirus crisis.
    • In Emerging markets, Chinese authorities are on multiple fronts mitigating the impact of the coronavirus in the short term, the trade war and slowing global growth in the longer term.
    • We expect the US Presidential elections on 3 November to be a market driver as candidates are at increasing end of the political spectrum. The Super Tuesday on 3 March will be an important marker in the Democratic Primary process.
  • Market views
    • Due to low visibility on the coronavirus crisis, we are temporarily more cautious on equities vs. bonds and have neutralised our positioning.
    • The assessment of the coronavirus’s impact is challenging, as the epidemy remains contained to China for now. But China represents 20% of the global economy.
    • Central banks have already reached massive accommodation policies. This accommodative stance is a medium-term tailwind for the global growth/inflation mix.
    • Significant fall in geopolitical risk following the signature of the Phase One trade deal between the US and China. Uncertainty over Germany’s political direction once Chancellor Merkel’s mandate ends has increased recently.
  • Risks
    • Sentiment and positioning have peaked with the start of the coronavirus episode after having markedly improve beforehand.
    • The US-China trade conflict. Relations between US President Trump and China will likely always be on edge, as seen with the latest developments on Huawei.
    • Domestic political issues in the US. The electoral campaign is just getting started.
    • Geopolitical issues (e.g. Iran, Hong Kong) are still part of unresolved current affairs. These could trigger volatility shocks and attractive entry points.

 

RECENT ACTIONS IN THE ASSET ALLOCATION STRATEGY

We recently reduced our equity exposure to neutral. The uncertainty surrounding the coronavirus weighs on global growth and profit prospects. Investors’ sentiment is not reflecting this as equity markets stay close to previous top levels. We have neutralised our exposure on all the regions. We stay cautious about exposure to government rates in Europe, the risk reward is not attractive following the drop in yields since the beginning of the year. We diversify out of low-yielding government bonds investing in alternative strategies. Our strategic view on emerging debt remains constructive and we have decided to keep an exposure to Emerging markets debt, including EM-issued corporate debt. We also stay invested in JPY and gold, which play their safe haven roles.

 

CROSS ASSET STRATEGY

  • We have a tactically neutral equity exposure as visibility on the coronavirus crisis is low
    • We are neutral Emerging market equities and Japanese equities. Uncertainty surrounding the coronavirus weighs on investors’ sentiment. The latest macro data (collected before the virus spread) point towards a bottoming out of the economic cycle and budding recovery.
    • We are neutral European equities. The impact of the coronavirus is likely to weigh on the recovery. The Brexit’s deadline has been met, and the economic relationship with the EU remains unchanged until the end of this year.
    • We are neutral US equities. US equities performed well since our entry points during the summer but valuation is demanding relative to other regions and its historical average whereas the country no longer deserves the same safety premium as in 2019.
    • We have key convictions in various thematic investments. Oncology and Biotech sectors reveal high growth potential driven by innovation and pricing power. Climate action themes enables exposure to key solutions for a cleaner future.
  • We are underweight bonds, keeping a short duration and diversify out of government bonds.
    • We expect bond yields to stay low but creep up very gradually over the medium-term.
    • Uncertainties around global growth levels this year could nevertheless delay this scenario somewhat.
    • The ECB just launched its first strategic review since 2003. It will assess its formulation of price stability, monetary policy toolkit, economic and monetary analyses and communication practices by year-end.
    • We diversify out of low-yielding government bonds. We recently purchased protection against rising inflation expectations. In credit, our preference goes to Emerging debt, including EM-issued corporate bonds.
    • We diversify and have an exposure to gold and JPY, which both play the role of safe haven.