Our multi-asset views - August 2018
Although corporate profits remain strong, equities are vulnerable to the effects of rising bond yields. This is because higher interest rates raise companies’ borrowing costs and also increase the attraction of bonds relative to stocks. Equities are also potentially vulnerable if investor sentiment turns.
While the rise in yields leaves government bonds looking attractive relative to recent history, we believe they will rise further. Bond prices fall as yields increase.
We have downgraded commodities back to a single positive, as we are not seeing such positive momentum in the movement of their prices.
Corporate bond yields have become less appealing and companies have been increasing their debt loads, which makes their bonds less attractive.
US companies continue to report strong earnings and the stock market is also supported by a further increase in the number of shares companies are buying back from investors, which is seen as positive for shareholders.
We continue to be cautious about eurozone equities, taking into account global trade tensions and tightening financial conditions (ie rising interest rates and the removal of quantitative easing).
Political division around Brexit and higher risks of a no-deal scenario detract from UK equities’ appeal.
Valuations of Japanese equities are attractive, but weakness in macroeconomic data points to a slowdown in the country, which keep us neutral.
Valuations in the region are attractive, but offset by signs that the economies of China and Singapore are losing momentum.
We are comfortable that emerging market economies remain fundamentally sound and that we are over the worst of the sharp losses suffered in recent months.
US government bonds (Treasuries) continue to look expensive, especially considering an upcoming large supply increase and higher bond yields available overseas.
UK government bond (gilt) valuations remain similarly expensive, but uncertainties around Brexit may delay further interest rate hikes by the Bank of England (rate rises are negative for bond holders).
The European Central Bank remains reluctant to hike interest rates too early, but we think it may not be as dovish (conciliatory) as many investors would like to believe. We also think inflation risks are not being fully taken into account.
The Bank of Japan looks set to maintain its easy monetary policy for longer. Any tightening of this policy is likely to be a slow process.
US inflation linked
We still expect US inflation to rise.
Emerging markets local
We remain neutral. Although valuations have improved, there are economic factors which still prevent us from becoming more positive.
Investment grade (IG) corporate bonds
US IG corporate bonds
Both merger and acquisitions (M&A) activity and leverage continue to increase. We remain negative.
European IG corporate bonds
European companies are in a stronger position than before, but there are signs such as a pickup in M&A that suggest their bonds may be becoming less attractive.
Emerging markets USD
The positive earnings growth we are seeing in emerging markets (EM) means we marginally favour EM corporate bonds over sovereign bonds.
High yield bonds
US high yield (ie non-investment grade) bonds are the best performing market year-to-date. From a valuation perspective, we believe it is expensive and vulnerable.
Political instability in the region continues to linger and is likely to hamper performance of European high yield, hence we retain our negative view.
Movements in the oil price have become less positive, but it should still be supported by robust global demand and the potential for political tensions in the Middle East. Oil prices tend to rise amid political tension due to concerns about possible supply disruptions.
We remain neutral on gold. The gold price would be negatively affected if the US dollar continued to strengthen.
Industrial metal prices have fallen sharply in recent weeks. We believe this is overdone given that the economic backdrop (ie demand) remains attractive. We remain positive.
The recent fall in prices relates to trade war concerns rather than the fundamentals of agricultural commodities, so we remain positive.
The dollar has reached expensive levels but continues to push higher, fuelled by economic outperformance vs. the rest of the world.
More reasonable economic fundamentals and a more assertive Bank of England are being ignored as “hard Brexit” risks are building.
We have been disappointed by continued weakness in European fundamentals, compounded by a resurgence in Italian political risk.
Japanese yen ¥
We are awaiting more concrete signs of the Bank of Japan’s intentions.
Swiss franc ₣
The Swiss franc is benefiting from greater European political uncertainty, as it tends to be used as a “safe haven” currency at times of uncertainty, but this should be offset by the Swiss National Bank’s continued dovishness which should stop it strengthening too much.
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