A sweet spot, but keep a sharp eye on the macro side

Monday 25 March 2019

Global Investment Views, Fixed income, Equity

Download the Complete April Global Investment Views

Contributing Authors

Pascal Blanqué
Group Chief Investment Officer,
Amundi

Vincent Mortier
    Deputy Group CIO, 
Amundi

Risky assets have been in a very strong uptrend since the beginning of the year. The key question now is, where do we go from here? There are two main driving forces to focus on in the current context. 

Force 1 is the dovish turn of the main Central Banks (CBs) – the game changer this year. The Fed hiking cycle seems to be over for the moment, with the probability of further hikes now very remote. The ECB has gone the extra mile of dovishness by confirming that the “lower for longer” narrative is going to persist, announcing a new TLTRO, and also introducing the possibility of further accommodative measures.

Force 2 is the slowdown in global growth and the very limited inflation pressures, both of which form the rationale behind the dovish stance of the CBs. Macro data have been weak in the EU, and pockets of weakness are visible in the US as well. Going forward, we expect the EU economy to bottom out, and potentially improve in the second part of the year (barring the probability of a confidence shock), and we anticipate a slight deceleration in the US, while we see a very limited probability of a recession.

In the first quarter of the year, the looser monetary policies (Force 1) have clearly dominated. The biggest beneficiaries have been risky assets, as goldilocks trades have come back into vogue. 

In a short-term view, chasing the market does not appear to be a smart move. Most of the valuation gap we highlighted at the start of the year has now been absorbed. Moreover, the pendulum of the prevailing driving force for the market could swing back somewhat from low interest rates (good news) to weak growth (bad news). Also, the move from the prevailing "bad news is good news" environment to the "bad news is bad news" mode is the major risk investors are facing right now, which is clearly important at a time when the peak in earnings is behind us and trade disputes are prevalent. In fact, it is still uncertain how far the bad news could go. A small taste of this uncertainty came two weeks ago when the ECB revised down its growth and inflation forecasts, and financial stocks suffered despite the new TLTRO announcement. But as long as the sweet spot is intact (ie, a consensus of CBs on the accommodative side and no further deterioration in the growth outlook), there will be some support for risky assets, evn if the valuation gaps are less attractive.

We continue to see some opportunities in risky assets, but at the same time we suggest moderation in the deployment of risk budgets in view of the price action already seen. As we see limited directional upside ahead, we prefer to avoid areas where the risk profile looks asymmetrical in the short term (with more risk of correction than further upside). This is the case for equities, where we have become more cautious, with a preference for EM over DM. A new entry point (especially for European equities) could emerge when the negative trend in earnings revisions bottoms out, and we believe this will happen, if we are right in seeing no further deceleration and some improvement in H2. In this "wait and see" phase, corporate markets (in particular in Europe) remain attractive. Going forward, it will be important to watch the macro side: the sweet spot could end if there is an increasingly deteriorating macro – and this is not our call. However, it will be a close call, and it will be crucial to identify any signal or factor that could jeopardize the persistence of the sweet spot, with an eye on risks that could worsen the scenario, such as a hard landing in China, a chaotic Brexit with negative consequences for European growth, and/or further escalation in trade tensions harming global trade.

On a medium-term view, beyond the cyclical moves and beyond any sweet spot, structural forces (demographics, low structural inflation) will continue to keep interest rates down. Facing lower expected returns, investors have no option but to be able to identify and exploit value where it lies or where it is restored. This implies being systematic and quick – and this is one of the key lessons learned this year, given the speed of the market moves this year to date.

DM= Developed Markets, EM = Emerging Markets, CB= Central Bank, ECB= European Central Bank, Fed= Federal Reserve. TLTRO= targeted longer-term refinancing operations.

Fixed Income: Are stars aligning for fixed income investors?

Contributing Authors

Eric Brard
Head of Fixed Income, Amundi

Yerlan Syzdykov
    Head of Emerging Markets, 
Amundi

Ken Taubes
    Chief Investment Officer, US, 
Amundi Pioneer

Overall assessment

Positive conditions seem to be aligning for fixed income investors: slowdown in global growth, little or no inflation, and CBs committed to avoid further economic deceleration. Against this backdrop, we expect interest rates to remain low, capped by CB dovish positions and stable demand for assets perceived as safe havens. We expect that the search for yield will remain in strong focus. In March, more than $9.3tn debt in global bonds had negative yields, up more than $3.5tn from the lows recorded in October, before the CB’s U-turn.

DM bonds

In US bonds, the fall of US treasury yields reflects the Fed’s more accommodative tone. The FOMC has paused its policy rate normalization process (we don’t expect any interest hike this year) and is messaging patience and data dependence with respect to future policy rate moves. We expect the Fed will conclude the balance sheet normalization by the end of the third quarter, which would be earlier than the market is expecting. Domestic inflation signals should be monitored as a key precursor to any shift in the FOMC’s current policy. At current levels, we take a more cautious view on US duration, within an overall stance close to neutral. Euro fixed income received strong support from the ECB’s new accommodative measures. This should benefit the peripheral bond market, favored in the search for income. We maintain a slightly short duration view in Europe (moderately increased vs the previous month).

Credit

EU credit (peripheral financials in particular) is the main beneficiary of the new ECB TLTRO. We still see room for spread compression, as the search for yield will be particularly aggressive in Europe. Our preference is for IG financials (subordinated debt). In US credit, given the recent spread tightening, we have become more cautious regarding IG corporates. We favor sectors less vulnerable to event risk, including leveraging from mergers and acquisitions transactions, share buybacks, or increased dividends. Over corporate risk, we favor securitized credit, which offers the benefits of reasonable valuations, tightened rating agency credit standards, compared to pre-2008 structures, and a focus on the US consumer, less vulnerable to global growth than corporates.  

EM bonds

Although EM momentum has recently deteriorated, the continued dovish stance by the world’s major CBs might still play in favour of EM debt markets. A trade deal between US and China looks more likely; nonetheless, we keep a watchful eye on any negative surprise. We remain constructive on EM hard currency debt (for attractive carry, while spread compression is limited), and we tend to favour those countries with cheap valuations or which are qualified for index inclusion (GCC countries). On EM bonds in local currency, we expect extracarry returns from high-yield countries (Brazil, South Africa, and Indonesia). We remain positive on this asset class, focusing on selection as risks persist.

FX

In the short term, we don’t expect the Euro to regain strength vs the USD, on a macro and ECB stance. We have a neutral view on GBP (due to Brexit), and on JPY, with a tilt towards appreciation if China-US tensions resume.

10Y gov't bond spread vs Bund (bps)

Equity: Beware of the aging rally

Contributing Authors

Alexandre Drabowicz
Deputy Head of Equity, Amundi

Yerlan Syzdykov
    Head of Emerging Markets, 
Amundi

Ken Taubes
    Chief Investment Officer, US, 
Amundi Pioneer

Overall assessment

While the momentum of the global equity rally is quite strong, the outlook is uncertain, due to divergent forces at play: CB’s more dovish stance is generally supportive of equities, but, on the other side, the signs of global slowdown, along with persistent political risks and trade tensions are a challenge. The global profit cycle passed the peak, but we still expect single-digit growth in 2019. Revenues growth will be crucial. Earnings have already been significantly revised downwards and we expect some stabilisation, but a positive turn seems difficult. Valuations are less compelling, as many undervaluation gaps closed during this year’s rebound. On the other hand, the participation in the rally has been low, and this could further support the positive momentum. Given these conflicting dynamics, we prefer to play bottom-up opportunities and maintain a cautious top-down stance, expecting a range-bound market or possibly some consolidation.

DM Equities 

The US market is at an inflection point; a continuation of the risk-on rally would require improving, or, at least, no further deteriorating fundamentals; an earnings recession could trigger a move to a risk-off stance. We take a cautious approach to the market, awaiting an increase in visibility. We see attractive opportunities in financials and industrials. European equities have posted a strong rebound, driven by the cyclical sector where we suggest taking some profits and looking for new opportunities, for example, in healthcare names with strong balance sheets. There is limited support from the ECB for the banking sector, as the ECB will keep the deposit rate unchanged until at least 2020. Fresh positive news on the political front and stronger earnings growth are now needed to support further market upside. The focus continues to be on stock picking, as valuation dispersion remains high. In Japan valuations are still attractive even if EPS momentum is slowing. We take a neutral stance, aware of the headwinds coming from a potential stronger Yen in case of a negative surprise on the tariff negotiation side.

EM Equities

Our view on EM equities is positive given the supportive backdrop of growth (differential vs DM expected to widen) and valuations (which still look attractive vs DM). Potential headwinds such as a strong US dollar and deteriorating US-China trade relations have eased somewhat and might support additional growth for EM equities. In Asia, we mainly favour China, as valuations stand at attractive levels and a trade deal looks more likely after recent positive developments. We also favour Russia on the back of cheap valuations and because sanctions on Russian banks have already been partially discounted. In Latam, we have a positive view on Brazil and Argentina, as the outlook in both countries is promising, but we keep watch for negative developments. We suggest a cautious stance on countries with high valuations and increasing political risk.

Net earnings revision ratio (net up)

Important Information

Unless otherwise stated, all information contained in this document is from Amundi Pioneer Asset Management (“Amundi Pioneer”) and is as of March 25, 2019.

The views expressed regarding market and economic trends are those of the authors and not necessarily Amundi Pioneer, and are subject to change at any time. These views should not be relied upon as investment advice, as securities recommendations, or as an indication of trading on behalf of any Amundi Pioneer product. There is no guarantee that market forecasts discussed will be realized or that these trends will continue. These views are subject to change at any time based on market and other conditions and there can be no assurances that countries, markets or sectors will perform as expected. Investments involve certain risks, including political and currency risks. Investment return and principal value may go down as well as up and could result in the loss of all capital invested.
This material does not constitute an offer to buy or a solicitation to sell any units of any investment fund or any service.

Date of First Use: March 25, 2019.

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