Monthly house view | May 2024

Macroeconomy

Global leading indicators, including purchasing manager indexes and trade data, are sending encouraging signals. The weakest spot remains manufacturing in advanced economies, particularly Europe, but here too there are signs of improvement. Indeed, we have raised slightly our GDP forecast for the euro area this year from 0.6% to 0.8%. We expect the European Central Bank to start cutting rates in June, with its deposit facility rate set to drop to 3% by year’s end. In the US, Q1 GDP growth was below trend, but closer examination shows that domestic demand remains solid. While it should slow in H2, we expect US growth to remain solid. We believe disinflation will continue to be bumpy and now see just two rate cuts from the Fed, with the first one coming in July. Strong Q1 growth means we have raised our forecast for GDP growth in China this year to 5% although a turnaround in consumer spending and more policy initiatives are still needed to put the Chinese economy on a sure footing. Domestic spending in Japan hinges largely on wage growth and recovery in the value of the yen. Despite the yen’s weakening, we do not believe the Bank of Japan will be rushed into tightening monetary policy.

Asset classes

Equities: Subdued expectations for Q1 results have been proving justified, particularly in Europe. In the US, large-cap tech companies have delivered robust earnings growth in the main, but once they are excluded S&P 500 earnings look decidedly lacklustre too. Moreover, sales growth has been quite weak on both sides of the Atlantic. Expectations for an improvement in earnings growth later this month may already be priced in and investors could prove sensitive to the low risk premium attached to ‘Big Tech’ in the months ahead. Caution is required. Outside tech, we are growing increasing optimistic on parts of the healthcare sector. Asian (ex Japan) equities have been very volatile, but staged a strongrecovery in late April. The prospect of a broad recovery in earnings and undemanding valuations could help them continue to regain ground against developed-market equities in the months ahead.

Fixed income: There has been a surge in bond yields on the back of reduced expectations for rate cuts, but the rise may be excessive. While we have pared back our forecasts for Fed rate cuts to two this year, we expect both the ECB and the Bank of England to reduce their main policy rates by 100 bps by end-December. The recent rise in yields could therefore justify raising the duration of fixed-income investments. At the same time, we believe lower-quality, noninvestment-grade bonds will be increasingly challenged as long as US rates remain high. In light of their low spreads over government bonds, we do not believe noninvestment bonds adequately compensate investors for risk.

Currencies, commodities, real estate: Copper prices have risen strongly of late, with supply finding it hard to keep up with demand. With some predicting a doubling of copper demand by 2035 and new mining projects difficult to initiate, the case for higher copper prices remains intact. We believe the same is true for gold. Demand for gold from Chinese investors remains sustained, even in the face of increasing real US rates. Nonetheless, there is scope for short-term corrections from record highs. We believe private real estate is in a transitory period marked by ‘price discovery’. Severely beaten down, real estate has become one of the cheapest asset classes. With this in mind, a calibrated ‘value add’ approach to private real estate could offer interesting long-term potential to new investors.

Asset-class views and positioning

We remain neutral on US and core European government bonds overall. But the surge in market rates is encouraging us to look at extending duration to lock in attractive yields before central banks start to ease policy. For this reason, we have moved from a neutral position on UK gilts to an overweight one. We remain neutral on the US dollar--although we expect it to remain strong until we have clear signs the Fed will ease rates—and strategically overweight gold in light of simmering geopolitical tensions and a lack of fiscal discipline globally. We also remain neutral on equities overall. Wesee opportunities to trade increasing bouts of equity volatility as the year progresses.

Three investment themes

From cash to duration. We believe the recent rise in bond yields offers an attractive opportunity to build duration in government bonds. Although rate cuts are set to be more aggressive in Europe than the US, we see scope for extending duration in core euro, UK and US government bonds alike.

Capitalise on AI’s promise. We continue to believe that generative AI will boost productivity and innovation, with considerable benefits to be seen across a range of sectors. The substantial power needs of this new technology mean we are positive on energy providers and energy infrastructure companies.

Engage in M&A’s revival. After two years of subdued deal activity, there has been a recent pick-up in mega deals, essentially in the US. In view of rising equity values and upcoming rate cuts, we believe the upturn in M&A will spread in the coming months by region and sector.