Global Asset Allocation: The View From Europe

1. Market Perspective

• Global growth outlook remains positive against a backdrop of gradually easing inflationary pressures across most economies.
• While resilient, recent evidence suggests some cooling in US growth. European growth is stabilising, helped by services, with manufacturing still a laggard. Japanese growth remains stagnant, while Chinese growth shows signs of improvement supported by recent stimulus measures.
• US Fed rate cuts look to be still in play later this year, with recent signs of moderating growth and inflation. The European Central Bank (ECB) has taken the lead on cuts amongst major central banks, reducing its deposit rate by 25 basis points to 3.75% as expected, but stopping short of indicating that more cuts could follow. After hiking in March, the Bank of Japan (BoJ) is still expected to take additional steps towards tightening. The Bank of England (BoE) is expected to keep rates where they are for a while longer.
• Key risks to global markets include a steeper decline in growth, stubborn inflation, central bank policy divergence, election calendar, geopolitical tensions and trajectory of Chinese growth.

2. Portfolio Positioning

As of 31 May 2024

• We remain modestly overweight equities, supported by a still resilient economic backdrop, positive earnings trends and reasonable valuations beyond heavily concentrated areas of the market.
• We moved to an overweight to cash relative to bonds. Cash provides liquidity and attractive yields with further ECB rate cuts expected to be data dependent and gradual.
• Within equities, we are overweight US, with a preference to US large cap value that can benefit from more attractive valuations and potential for cyclical tailwinds. While we remain underweight Europe, we reduced the underweight. Valuations are relatively attractive but economic activity seems to have bottomed. A further catalyst may be needed to boost relative performance. We remain overweight Japan and neutral the UK and emerging markets (EM).
• Within fixed income, we continue to favour higher‑yielding sectors, including global high yield and EM bonds, as fundamentals remain broadly supportive. However, we trimmed the overweights to these areas in favour of cash because of tight credit spreads and to reduce overall portfolio risk.

3. Market Themes

Home Improvement

In their latest measures to stabilise the economy, Chinese policymakers took further steps targeted at improving sentiment within the country’s challenged housing sector. These measures included reducing downpayment requirements, lowering the floor on mortgage rates and providing low‑cost funding to help state‑owned enterprises buy unsold homes. Hopes are for these measures to restore some confidence in the housing market, which has continued to see price declines amid outsized supply. On a positive note, economic growth did surprise to the upside in the first quarter, expanding by 5.3%. However, much of the growth was driven by exports and infrastructure spending, while hopes for a rebound in consumption and business spending continue to be held back by housing market woes. While recent measures to expand the Chinese economy into higher value‑add sectors, including electric vehicles and semiconductors, will help diversify their economy in the long run, the property sector will likely need a much larger renovation before it turns around.

Big Spenders

While the Fed’s battle with inflation has been the leading driver in the direction of yields, the move higher over recent weeks was attributed to weaker Treasury auction demand as buyers became wary of even more supply ahead. With the US election looming in the back half of the year, few are expecting either political party to significantly reduce spending or address US debt, now above 120% of gross domestic product (GDP). The unbridled spending has been flagged by the ratings agencies and is causing investors, particularly foreign investors, to demand higher yields to compensate for the risk of more supply. While some argue the big spending in Washington is growth supportive and nothing to worry about, its spillover effects on the private sector can crowd out demand and raise everyone’s cost of borrowing. So for those hoping for lower rates ahead as the Fed finally reins in inflation, it could be the Washington big spenders that end up keeping rates higher for much longer.

 

For a region-by-region overview, see the full report (PDF).