Our Asset Allocation
in Detail

DISCOVER OUR ASSET ALLOCATION IN DETAIL

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EQUITIES

We remain Overweight developed equity markets

Global equity markets made further gains last month, with several indices setting new highs. However, this surge masks some underlying volatility – though not so much as on fixed income markets – and marked international differences: United States and Japanese gained while European and Emerging markets dropped. We remain Overweight developed equity markets, on value grounds in Europe and on strong earnings growth in the United States.

US. The US equity market outstripped the global index by more than a percentage point over the last month, gaining 2.2% compared to 1%, stretching its year-to-date outperformance to +25% compared to +20%. Even so, the US index hit a few air pockets along the way, mainly linked to the economic growth outlook. We have been forecasting the US slowdown to be modest for some time now, with slowly declining inflation and only limited rate cuts. In this scenario, equity markets should continue their rally. They are backed by healthy trends in corporate balance sheets and earnings – justifying paying a valuation premium. Also, momentum indicators remain good – though market sentiment surveys are nearing record highs. We remain Overweight US equities.

Euro zone. European stocks lost ground last month, dragged down by the energy, financial and industrial sectors. Slightly higher-than-expected inflation in May and the prudent tone struck by the European Central Bank (ECB) dampened market spirits. French markets took a further hit when politics was plunged into uncertainty. Even so, we see reasons to remain Overweight the euro area. For one, stocks remain attractively valued and momentum and sentiment indicators are pointing in the right direction. For another, the prospect of an, albeit modest, rebound in the economy and, admittedly small, rate cuts by the ECB should lend some vital support to these markets by helping sustain the recovery in earnings growth.

UK. British stock markets dropped slightly more than their cross-channel peers last month. Partly this was because several months of falling oil prices took their toll on the energy-heavy index. Nor was this helped when anticipations of a Bank of England rate cut were pushed back from June to August as inflation data proved stickier than expected and Prime Minister Rishi Sunak announced an early election on 4 July. We, however, remain Overweight British markets, given their attractive valuations and the prospect of future rate cuts.

Japan. The Japanese market was broadly stable over the past month, buoyed by the technology and communication sectors. Also, the end of deflation and gradual exit from the zero-rate policy have been good for the financial sector. These factors should remain in play for some time yet. However, given the yen's volatility and doubts surrounding monetary policy, we remain Neutral on this market.

Emerging markets. Emerging markets underperformed markedly last month, dragged down by Latin America (chiefly Mexico post its presidential elections) and China (following the previous months’ strong rally). We remain Neutral on these markets, which still appeal on value and boast good momentum indicators.

Unless specified, all figures and statistics in this report are from Bloomberg and Macrobond on 13/06/2024, publication completion date. Past performance does not prejudge future performance. Investments may be subject to market fluctuations, and the price and value of investments and the resulting revenues may fluctuate downward and upward. Your capital is not protected, and original investments may not be recovered.

FIXED INCOME

We are still positive on bond markets

We remain Neutral on fixed income. With inflation continuing its gradual fall, yields paid by government and corporate debt remain attractive in both nominal and real terms. Europe is at risk of short-term volatility following the recent surge in political uncertainty.

US. Sovereign yields continued their volatile performance over the past months. Rates on 2-year Treasury bills, a proxy for Federal Reserve (Fed) rates a year out, have swung between 5% and 4.65%, and 10-year T-bonds between 4.2% and 4.7%. This see-sawing basically mirrored shifting concerns of overheating or slowdown in the US economy. Latest activity data was disappointing, particularly figures for household consumption, but the labour market continues to beat consensus and inflation continues to fall slowly. We still see a scenario of a moderate slowdown for the US economy, marked by a normalisation of the labour market and softer wage growth. In this environment, the Fed is likely to bring down its policy rate to a range of 4.75-5.00% by the end of the year, a 50bp cut from present levels. We therefore remain at Neutral on the Treasuries market, despite its volatility, as carry remains good.

Euro Area. The 10-year bund lost about 10 bp over the past month, but with large volatility: the yield hovering between 2.4% and 2.7%. Conversely, the French OAT rose 15bps to 3.1%, with a peak at 3.3%, and a spread of 70bp. Peripheral countries sovereign spreads generally widened too, the Italy/Germany spread increased from 130bps to 150bps.

The main driver of these movements was the unexpectedly hawkish tone struck by the ECB at its meeting. The ECB actually made an initial 25bps cut to its policy rates, trimming the deposit rate to 3.75%. But it also raised its inflation forecasts for 2024 and 2025 and the comments were more cautious in tone than markets had expected. Secondly, the results of the European elections and, most importantly, the dissolution of the French National Assembly, have ramped up political risk, increasing the likelihood of paralysis in French politics. In light of which, we remain Neutral on euro area sovereign debt. Even so, we expect the ECB to continue its rate-cutting cycle with two further cuts in 2024, providing support for sovereign yields. However, volatility could be a big factor in the short term, depending on what happens in France.

UK. Yields on Gilts tracked those on Treasuries, with the 10-year bond trading in a range of 4-4.4%. We expect the Bank of England to press ahead with its rate-cutting cycle, with 2 cuts in H2-24, but with inflation now coming down more gradually we remain Neutral on Gilts.

CREDIT

Developed Markets. We remain Neutral on investment grade credits (companies with good credit scores), which still have an attractive 4% carry rate and healthy balance sheets. We remain Underweight high yield credits (poorly rated companies) which look expensive and are generally issued by highly indebted companies that are more at risk.

Currencies

Environment still bullish for the dollar

We remain Underweight EUR/USD and GBP/USD – i.e. we are Overweight the dollar which should strengthen against its principal crosses as monetary policy at central banks moves out of sync and geopolitical risks accumulate.

Dollar Index. The US currency tracked the volatility of US interest rates. Of the developed economy currencies, the euro has been the most volatile against the dollar. Among emerging market currencies, the same is true of the Mexican peso. Both were reacting to political tensions.

EUR/USD. The single currency was up and down against the dollar in the past month, trading a range of USD 1.09 to USD 1.07 (slightly below that figure at the end of the period). The volatility largely reflects shifts in US Treasuries and market expectations for the timing of Fed rate cuts. The most recent fluctuations stem from escalating political uncertainty in Europe following the continent-wide elections and the calling of parliamentary elections in France. In this context, we remain Underweight EUR/USD. First, the greenback can count on the United States’ stronger growth trend and a bigger rate gap. Spiralling political tensions could translate as greater volatility, supporting the US currency.

GBP/USD. Unlike the euro, sterling gained ground versus the dollar, strengthening 2% to GBP/EUR 1.27. This rise was mainly due to markets expectations for BoE rate cuts after inflation figures showed a slower-than-expected decline. We nonetheless remain Underweight GBP/USD. This is because we still think the Bank of England will put through two rate cuts in the second half of the year as inflation keeps coming down and the economy mounts a modest recovery.

USD/JPY. The yen weakened against the dollar, fluctuating around an average 157 USD/JPY. Taking the long view, the yen's weakness since 2022 has reflected the interest rate gap between Japan and the rest of the developed world. The Bank of Japan is now normalising policy but taking a very gradualist approach, with a policy rate of 0.1% and the end of the ceiling on the 10-year Japanese Government Bonds. We remain Neutral on the USD/JPY. First, the BoJ will continue to crawl toward a more normal policy stance. We expect two rate hikes in H2-24. Second, the country's balance of payments remains heavily positive, limiting further downward pressure on the yen.

EUR/CHF. The euro has been falling against the Swiss franc for a month and is now down more than 2% at 0.96 EUR/CHF. We remain Underweight this cross. Rising political uncertainty in Europe should be good for the Swiss franc, particularly given the wider political risks in the world. Also, Switzerland's heavy balance of payments surplus coupled with a reduction in the Swiss National Bank's foreign exchange reserves should help the franc.

EM Currencies. Emerging market currencies are on a downtrend, led by Latin America. The Mexican peso ended its recent strong run by falling 10% against the US dollar last month after Morena's coalition stormed to victory in the recent elections. Investors fear a super-majority that could enact constitutional change. The BRL fell 5% by contagion.

ALTERNATIVES & Thematics

We stick with our Underweight to gold and hedge funds

The high level of interest rates continues to undermine the appeal of both gold and hedge funds. On themes, we stand by Artificial Intelligence and Clean Energy as well as Reshoring and European Excellence.

Commodities and gold

Commodities. Brent crude prices were basically stable month-on-month, but this masks a plunge to USD 76/bbl followed by a rebound to above USD 82/bbl. The plunge was a response to an OPEC deal that would gradually loosen some production constraints from September, amid a slowdown in the United States economy. The recovery reflected upgraded forecasts for global demand and the prospect of Fed rate cuts. Natural gas prices rose 20% on the month, amid fears for Europe's supplies of Russian gas.

Gold. Gold was just as volatile, ending the month down by 3.5% as tensions appeared to ease in the Middle East. It then rose again after good inflation figures in the United States revived hopes of Fed rate easing this year.

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HEDGE FUNDS

Long/Short Equity. Long/short equity funds, which specialise in non-directional strategies, could do well in the current climate of high volatility and dispersion and the current stage of the economic cycle.

Event Driven. High interest rates and a shortage of liquidity continue to discourage firms from embarking on mergers and acquisitions. Funds specialising in such deals look unattractive for now.

Fixed Income Arbitrage. Some sovereign bond funds could benefit from higher interest rates. We retain our relative interest in funds positioned in the credits segment.

Global Macro/CTA. Commodity trading advisors (CTAs) are generally useful as a way to hedge market volatility. But their recent performance has left them looking insufficiently attractive in our view.

Themes

Reshoring. The Reshoring theme should benefit from resurgent national industrial policies following problems with supply chains and trade and geopolitical tensions. These policies have taken the form of stimulus packages in both the United States (Inflation Reduction Act) and Europe (Next Generation EU). Recent announcements from the United States administration that it would be beefing up tariffs on some imports from China is the latest such policy. The theme has performed well on equity markets. Since end-2022, the index of industrial stocks in developed economies has been on a bull run, outperforming its benchmark.

European Excellence. After two tough years for the European economy, retreating inflation should not only allow the ECB to continue cutting rate but should also sustain household purchasing power and hence activity. Recent data confirm this scenario. European equity markets can also count on their attractive multiples. To get the most out of this combination of favourable factors, we favour international companies who are leaders of their market segment.