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Article | 18 September 2023 | Investments
August brought the usual pause in both central bank meetings and interest rate decisions. However, the month ended with the Jackson Hole summit for global central bankers. The message remained clear: data dependence will be key, with ‘higher for longer’ rates still very much on the agenda. The steady downward path of inflation was interrupted somewhat in both the US and the eurozone. However, the US labour market weakened slightly, in line with the intentions of recent US Federal Reserve action. The European Central Bank cut estimates for GDP growth, while raising their inflation forecast. Meanwhile, the consumer price index in China turned negative.
Global equities had a difficult August, a trend which continued into September, triggered by concerns over Apple’s business prospects in China. Government bond yields rose slightly, with the US 10 year Treasury yield climbing back above 4.2%, as prices fell. Yield curves remained inverted, often seen as a signal of recession. The oil price jumped sharply, hitting a 10 month high, as OPEC+ announced that its production cut of one million barrels per day would remain in force until year end. The US dollar maintained the summer’s rising trend. The euro suffered its eighth consecutive down week, while the Chinese renminbi hit a year low against the dollar.
Global equity markets are beginning to feel a little overstretched after the strong gains of the last 12 months. We have a growing belief that improvements in the macroeconomic environment are now largely priced in. Markets might not have fully appreciated the Fed’s “higher for longer” interest rate environment, but our sense is that this is more of a medium term risk. In the near term we expect a continued focus on the improving inflation outlook and mildly softening labour markets, which increase the likelihood of a softer landing for the US economy, despite the slew of rate rises over the last two years.
We have moved to a more positive stance on Japanese equities on a short term or tactical basis. The Japanese yen has been weak in recent months and now trades at historic lows against the US dollar. We believe the currency should strengthen from here and one way to benefit from this move is to increase exposure to Japanese equities on an unhedged basis.
Elsewhere, we maintain a neutral stance within equities overall, continuing to prefer the US to the eurozone markets. At a macroeconomic level, there are significant differentials between the US and the eurozone, in terms of growth, monetary policy and equity style, which should continue to favour US equities.
With regard to fixed income, we have adopted a more positive stance on US government bonds. The yield on the benchmark 10 year US Treasury bond has traded higher over recent weeks, as prices have fallen back. With yields now at the upper end of our expected near term range, we see an increased likelihood that they will move lower in the coming weeks. In addition, bonds are exhibiting their customary negative correlation to equities so that, in the event of a more volatile period for equities or a more dramatic slowdown in GDP growth, US Treasuries should provide good protection in multi asset portfolios.
On eurozone government bonds, however, we hold a slightly negative stance. The ECB remains on the back foot in the fight against inflation and further rate hikes remain a greater possibility here. We maintain our positive stance on emerging market debt, where attractive levels of credit spreads and yields remain on offer.