Following the combined equity/bond sell-off registered over the past weeks, markets are now stabilising. After nearly a decade of uninterrupted deflationary surprises, the consensual view of below-trend inflation is getting hit, as seen with the January US Consumer Price Index and wage data. Let us remind that outside the US there are little signs of inflationary pressures, in particular as the upward movements in currencies against the USD over the past 12 months is easing inflation tensions further.
Looking forward, we expect central bank decisions to push bond yields slightly higher, but this should not be an obstacle for global equity performance as long as the growth/inflation mix does not deteriorate sharply. As long as growth remains strong (or even better than expected just a few weeks ago) risky assets should digest gradual increases in bond yields.
Earnings growth remains a key catalyst for equities vs. bonds and credit. At the current stage, wage growth does not appear high enough to set an inflection point in global earnings per share.
Our current investment strategy on traditional funds:
grey : no change
blue : change
EQUITIES VERSUS BONDS
We remain positive on equities with the euro zone and Japan as our preferred regions. We actively manage our options strategies and will remain opportunistic while looking for an entry point.
- The rise in inflation uncertainties in the US should not mask the robustness of the global economic news flow.
- We concentrate our portfolio’s regional positioning on the euro zone and Japan. Emerging markets are benefitting from supportive fundamentals and a weaker USD.
- Central banks are turning less accommodative:
- The Federal Reserve started its balance sheet reduction in October, hiked in December and should hike three times in 2018.
- The ECB has recalibrated its programme, buying less bonds as of January. A rate hike should not occur before 2019.
- Equities have an attractive relative valuation compared to credit. US equities now trade at 17x 2018 earnings, while their forward price-earnings was still above 20x a couple of weeks ago. In addition, strong earnings growth should remain supportive for equity markets’ performance.
REGIONAL EQUITY STRATEGY
- We remain positive on euro zone equities, which are supported by a strong economic and earnings momentum and relatively attractive valuations. Some political hurdles are nevertheless present but the region is no longer subject to a major political risk premium.
- We have kept a neutral –tactical- stance on emerging markets equities.
- We have become less negative on UK equities.
- We remain neutral on US equities.
- We are positive on Japanese equities as earnings have been progressing so far without a depreciation of the JPY. The government’s nominations for the new BoJ troika confirmed the dovish stance. We expect the BoJ will not join other central banks in tightening its monetary policy anytime soon. The visibility on an accommodative policy mix and an above-potential expansion is good.
- We are negative on bonds and keep a short duration.
- With a tightening Fed and expected upcoming inflation pressures, we assume rates and bond yields should continue their uptrend. In addition to rising producer prices, rising wages, fiscal stimulus and USD weakness could push inflation higher.
- We continue to diversify out of low-yielding government bonds:
- We have a neutral view on credit, as spreads have already tightened significantly and a potential increase in bond yields could hurt performance.
- We have a diversification in inflation-linked bonds.
- We keep our positive stance on emerging market debt, as the on-going monetary easing represents an important support.
- We are neutral on high yield.