Global market view
August did not fully deliver on its promise to be the ultimate holiday month for investors. However, they would be well advised to now concentrate on the latter half as noted in the old market adage: "Sell in May and go away. But remember to come back in September." Admittedly, there has been some dullness in stock markets. Trading volumes for shares in the MSCI World Index, for example, have been the lowest in more than 15 years. The S&P 500 only returned 0.3% in August.
At the same time, August was only the latest in several unusually calm months this year. Just look at the average monthly volatility of the S&P 500 (as expressed by the Vix) since 1997. So far this year, seven out of the eight trading months of 2017 make it into the top 20 of calmest months we have seen during the past 20 years. That August was one of them might seem rather strange to avid news watchers.
In terms of headlines there were few signs of summer slumber. The month ended with hurricane Harvey. And it started with the growing tensions on the Korean peninsula. South Korea, an important player in global trade, would be amongst the first victims, should the sabre rattling between the U.S. and North Korea culminate in military action. This is not our base scenario. On August 11th, the re-escalation of this conflict, however, helped push the Vix to its highest level since November 16, and has reduced investors' risk appetite. Whether this was the reason for 10-year U.S. Treasury yields to plunge again, or whether this was caused by an ongoing muted inflation outlook, remains to be anyone's guess. Muted inflation certainly contributed to the prospect of a less aggressive Fed. Together with further benign macro data, this helped the S&P 500 to almost reach its record levels again by month-end. Year to date, the index has climbed more than 10%. From a European perspective, this looks much less impressive, however, as the index lost a couple of percentage points in euro terms. Once again, the strong euro also helps explain the lackluster performance of European indices in August.
Looking forward, we do not expect the dollar to continue to weaken and the euro to strengthen at the pace we have seen over the past few months. This is one of the reasons why we still prefer European over U.S. equities. While, ironically, hurricane Harvey contributed to avoiding a government shut-down in the U.S. for September (a discussion likely to re-emerge by year-end), we fear that U.S. stocks are priced for perfection, and are more prone to a set-back in autumn than to further appreciation. European equities, on the other hand, might benefit from any proof of French president Macron delivering on his election promises, and certainty about German politics after the September 24th elections. Our base case is for a continuation of the grand coalition.
Against this backdrop, we would expect central banks to once again be the main focus of market attention heading into year-end. The Fed and the ECB will communicate their plans to normalize policies despite few tangible signs of inflation pressures on September 20th and October 26th, respectively.
Changes in positioning
We generally expect a continuation of the synchronous economic growth in developed and emerging markets. While inflation might struggle to grind higher, we still expect a solid U.S. labor market to push the Fed to increase rates one more time this year, while the ECB is likely to become more precise on its tapering process. We currently think it unlikely that the ECB will prolong the time for tapering beyond 2018, and would expect cuts in its purchase programs from January 2018 onwards. With this in mind, we are cautious on 10- and 30-year U.S. Treasuries while being neutral on 2-years. We also turned negative on 10-year UK Gilts - already in mid-August - as British inflation regained pace. But with the hawkish Bank of England's communication of September 15th, 10-year Gilts jumped considerably and now have probably made their biggest moves already. Hence we returned to neutral. As for Bunds, we keep our strategic view that rates are set to rise. From a tactical perspective, we wait for better entry points for 10- and 30-year Bunds as a strong euro and reduced ECB inflation projections for 2018 and 2019 are weighing on rates.
Within the credit space, we have neutralized our positive views on U.S. high yield (HY) and investment grade (IG). This is because we are concerned that, while well flagged, a couple of events still due this year could prove to be negative catalysts for credit spreads once they happen: the upcoming Fed and ECB meetings, the debate about the succession of Janet Yellen as Fed chair, as well as the debt-ceiling issue. Within euro credit, we remain positive for IG, but reduce HY to neutral as we expect a strong increase of new issuance which, in combination with outflows, geopolitical uncertainty and a relatively expensive valuation level, raise the risk of a correction. On U.S. municipals, we went from neutral to negative as valuation became rich especially for shorter maturities.
All major currency pairs remain neutral tactically going forward as the mix of rate differentials, economic data, politics, and risk trades seems to balance each other or make it difficult to predict short-term trends.
Within equity markets, we stick to our preference for Europe and emerging markets, foremost the Asian ones. For the U.S. we rather fear a short-term correction as stocks are richly valued, and owe much of their recent run to the weakening dollar. Within the sectors, we keep our cyclical bias, overweighting IT, materials and financials while underweighting rate-sensitive sectors such as real estate, utilities and telecoms.
Equities*
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1 to 3 months |
until June 2018 |
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Regions |
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United States |
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Europe |
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Eurozone |
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Germany |
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Switzerland |
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United Kingdom (UK) |
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Emerging Markets |
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Asia ex Japan |
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Japan |
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Latin America |
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Sectors |
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Consumer staples |
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Healthcare |
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Telecommunications |
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Utilities |
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Consumer discretionary |
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Energy |
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Financials |
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Industrials |
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Information technology |
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Materials |
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Real Estate |
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Style |
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Small and mid cap |
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Fixed Income**
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1 to 3 months |
until June 2018 |
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Rates |
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U.S. Treasuries (2-year) |
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U.S. Treasuries (10-year) |
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U.S. Treasuries (30-year) |
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UK Gilts (10-year) |
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Italy (10-year)1 |
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Spain (10-year)1 |
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German Bunds (2-year) |
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German Bunds (10-year) |
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German Bunds (30-year) |
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Japanese government bonds (2-year) |
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Japanese government bonds (10-year) |
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Corporates |
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U.S. investment grade |
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U.S. high yield |
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Euro investment grade1 |
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Euro high yield1 |
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Asia credit |
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Emerging-market credit |
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Securitized / specialties |
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Covered bonds1 |
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U.S. municipal bonds |
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U.S. mortgage-backed securities |
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Currencies |
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EUR vs. USD |
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USD vs. JPY |
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EUR vs. GBP |
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GBP vs. USD |
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USD vs. CNY |
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Emerging markets |
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Emerging-market sovereigns |
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Alternatives*
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1 to 3 months |
until June 2018 |
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Infrastructure |
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Commodities |
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Real estate (listed) |
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Real estate (non-listed) APAC |
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Real estate (non-listed) Europe |
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Real estate (non-listed) United States |
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Hedge funds |
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Private Equity2 |
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Comments regarding our tactical and strategic view
Tactical view:
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The focus of our tactical view for fixed income is on trends in bond prices, not yields.
Strategic view:
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The focus of our strategic view for sovereign bonds is on yields, not trends in bond prices.
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For corporates and securitized/specialties bonds, the arrows depict the respective option-adjusted spread.
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For bonds not denominated in euros, the illustration depicts the spread in comparison with U.S. Treasuries. For bonds denominated in euros, the illustration depicts the spread in comparison with German Bunds.
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For emerging-market sovereign bonds, the illustration depicts the spread in comparison with U.S. Treasuries.
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Both spread and yield trends influence the bond value. Investors who aim to profit only from spread trends should hedge against changing interest rates.
Key
The tactical view (one to three months):
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Positive view
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Neutral view
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Negative view
The strategic view up to June 2018
Equity indices, exchange rates and alternative investments:
The arrows signal whether we expect to see an upward trend , a sideways trend or a downward trend .
The arrows’ colors illustrate the return opportunities for long-only investors.
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Positive return potential for long-only investors
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Limited return opportunity as well as downside risk
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Negative return potential for long-only investors for long-only investors
Fixed Income:
For sovereign bonds, denotes rising yields, unchanged yields and falling yields.For corporates, securitized/specialties and emerging-market bonds, the arrows depict the option-adjusted spread over U.S. Treasuries: depicts a rising spread, a sideways trend and a falling spread.
The arrows’ colors illustrate the return opportunities for long-only investors.
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Positive return potential for long-only investors
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Limited return opportunity as well as downside risk
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Negative return potential for long-only investors for long-only investors
Footnotes:
* as of 9/8/17
** as of 9/14/17
1 Spread over German Bunds in basis points
2 These traffic-light indicators are only meaningful for existing private-equity portfolios
