Investment Overview – October 2024

news-img22 October 2024

The outlook suggests a “soft” economic landing as the most likely scenario, though the risks have evolved: the probability of a U.S. recession has decreased, while the likelihood of a “no landing” scenario has increased.

  • USA: Strong growth in employment, productivity, and income supports economic resilience.
  • China: Broad stimulus measures have been introduced to counter deflationary pressures, providing a surprise boost to the economy.
  • Eurozone: Likely to experience an accelerated pace of interest rate cuts.

However, any of the following risks could undermine this positive sentiment in the markets:

  • Persistent inflation, particularly in the services sector
  • Escalating geopolitical tension in the Middle East
  • Uncertainty surrounding the upcoming U.S. elections
  • Ongoing EU-China tariff conflicts over electric vehicles
  • Weakness in the global manufacturing sector
  • Slower-than-expected Eurozone growth
  • Reduced flexibility for the U.S. Federal Reserve to cut interest rates as expected

Scenarios

Scenario 1 (No Landing): Economic growth remains robust, and inflation continues to persist, reducing the scope for interest rate cuts.
Probability: 30%

Scenario 2 (Soft Landing): The disinflation trend holds, reaching inflation targets without a recession, allowing for significant reductions in key interest rates across developed markets (DM).
Probability: 60%

Scenario 3 (Hard Landing): Restrictive monetary and fiscal policies, a cooling labor market, stagnant productivity in the EU, deflation in China, inflation persistence, geopolitical conflicts, industrial policies (e.g., tariffs), and labor strikes weigh on growth.
Probability: 30%

Asset Class Outlook

  • Equities

Global equity markets saw an initial drop in early October due to economic concerns, but sentiment improved after the Federal Reserve and ECB announced rate cuts, bolstered further by China’s economic stimulus package. These measures have lifted share prices, with the U.S. market hitting a new all-time high.

Position: Given recent shifts, we recommend a slightly more defensive stance, maintaining a cautious underweight in equities.

Strategy: We are focused on defensive U.S. sectors, including essential consumer goods, healthcare, and low-volatility stocks, which may offer stability in uncertain conditions.

Regional Allocations: We have reduced exposure to large-cap U.S. equities due to high valuations and added exposure to the European energy sector, which could serve as a hedge against potential rising energy prices amid Middle Eastern conflicts. We also see the European small-cap segment benefiting from the interest rate cut cycle.

  • Government Bonds

Our position on government bonds remains neutral, as recent valuations appear stretched, and longer-duration bonds remain susceptible to potential yield spikes. However, we are still favoring emerging markets government bonds in local currencies due to their diversification benefits, lower inflation rates, and a weaker dollar, along with support from the global central bank easing cycle.

European Government Bonds: The persistent weakness in manufacturing data in the Eurozone supports the case for additional rate cuts by the ECB, although inflation in the services sector remains sticky.

  • Credit

In line with our stance on government bonds, our view on credit markets remains unchanged. Yield levels remain appealing, backed by solid fundamentals, with default rates expected to stay around long-term averages. The ongoing global central bank easing cycle further strengthens the outlook for credit.

Preference: We continue to favor high-yield credit over investment-grade, given its shorter duration and more attractive yields.

Regional Focus: European and Asian credit markets are preferred, with Asian markets benefiting from China’s recent stimulus announcements.

  • Money Market

Despite a recent rate decline driven by ECB easing, cash and money markets remain attractive, with the yield curve staying relatively flat. This position provides liquidity and allows for capitalizing on emerging market opportunities.

  • Commodities

Gold: We maintain a positive outlook on gold, benefiting from Fed rate cuts. The precious metal remains a strong hedge against geopolitical risks and is technically well-positioned in current conditions.

Energy and Industrial Metals: Our outlook remains neutral. However, China’s stimulus measures could provide additional support for both industrial and energy prices.

Detailed Analysis by Asset Class

  • Equities

The attractiveness of the equity markets has not changed significantly in recent months due to positive short-term momentum, though concerns about high valuations and a weakening macroeconomic outlook persist. October's focus is expected to be on the third-quarter earnings season, with consensus estimates predicting a 3.8% earnings growth for the U.S. equity market. However, an increasing number of earnings downgrades in recent weeks has raised caution.

Position: We maintain a cautious underweight on equities.

Sector Focus: Our preference is for U.S. defensive sectors, such as essential consumer goods and healthcare, which provide resilience against market volatility. The interest rate cycle in Europe also supports exposure to European small-cap equities.

Regional Allocation: We have added to the European energy sector due to heightened geopolitical risks and reduced our position in U.S. equities, where large-cap valuations appear stretched.

  • Government Bonds

Our stance on government bonds remains unchanged. Given recent valuations, long-duration fixed income still appears vulnerable to yield spikes, with relatively expensive pricing across the board.

Emerging Markets: We favor emerging markets government bonds in local currencies due to their diversification benefits and supportive trends, such as lower inflation and a weaker dollar.

European Government Bonds: Although ECB rate cuts seem increasingly likely, sticky inflation in the services sector warrants caution. Thus, we maintain a neutral stance on European government bonds.

  • Credit

Credit yields remain favorable, supported by strong fundamentals, and default rates are expected to hover around long-term averages. The global central bank easing cycle continues to support credit markets, with a particular advantage for high-yield over investment-grade credit due to its shorter duration and attractive yields.

Market Focus: We favor high-yield credit, especially in European and Asian markets. Asian markets benefit from China's recent economic stimulus.

  • Money Market

Money market instruments continue to offer attractive yields, even after a recent decline in rates due to ECB easing. Cash positions provide liquidity, enabling us to respond to new market opportunities as they arise.

  • Commodities

Gold: With Fed rate cuts anticipated, we see continued support for gold. Technical factors and geopolitical uncertainties also make it an effective hedge.

Energy and Industrial Metals: We maintain a neutral stance, though China’s stimulus package may provide upside support for these commodities.