Monthly house view | August 2023

Macroeconomy

Soft data in recent weeks continue to show a divergence between relatively buoyant business surveys in emerging markets (outside China) and surveys showing manufacturing in contraction in advanced economies. Likewise, oil demand in emerging markets is proving more robust than in developed ones. Overall, we have pencilled in real global GDP growth of 2.8% for this year. The US continues to prove its resilience, growing faster than expected in Q2. While a mild recession cannot be excluded, our GDP growth forecast of 1.4% for the US in 2003 has upside potential. By contrast, the GDP figure for China disappointed. Ahead of economic stimulus that is likely to be closely targeted and piecemeal, we have lowered our Chinese growth forecast from 5.5% to 5.2% in 2023. We expect the euro area economy to stagnate in H2, while our full-year GDP forecast of 0.5% faces downside risk.

Asset allocation

After rebalancing our strategic asset allocation in early July, we purchased put options on the Euro Stoxx 50 to remain tactically underweight equities overall. Yet valuations in Europe look relatively reasonable when compared with the US, where they look stretched (despite talk of a ‘soft landing’ for the economy). We therefore remain underweight US equities in general. Meanwhile, at current yields, short-term government bonds continued to look attractive compared with riskier instruments (including equities) and we are overweight US Treasuries. The improving inflation picture is also enhancing the appeal of longer-dated Treasuries. We remain sceptical about lower-quality noninvestment-grade corporate bonds, but are overweight quality investment-grade credits in the US. We expect the USD to undergo a choppy decline as the year progresses and remain overweight the yen. 

Three investment themes 

i. The return of the bond vigilantes. Pressing policymakers to keep inflation expectations under control by demanding high bond yields, the ‘bond vigilantes’ are back. Our expectation that high policy rates could persist means that the current rates on investment-grade bonds of up to five years maturity look attractive (US five-year bonds recently carried a yield of around 5.5%) and could remain so as long as inflation is brought under control and the economic downturn is mild. 

ii. A time for active management. With earnings showing wide dispersion between companies, we believe financial and operational pressure on companies makes a strong case for preferring an approach to equity selection based on bottom-up stock selection over a passive investment strategy. We believe a similar active approach is warranted when it comes to corporate bonds, where we continue to concentrate on quality.

iii. Volatility as an asset class. We believe recent drops in equity volatility point to signs of complacency. Treating—and trading—volatility as an asset class in its own right therefore remains an important investment theme for us. As economic uncertainty grows and liquidity is drained from the market, H2 could be a good time to invest in volatility. We see various option strategies, including equity hedges and capital-protected notes, as ways to protect portfolios and monetising uncertain markets.