LAST WEEK IN A NUTSHELL
- The US economy created 4.8 million jobs in June while the unemployment rate fell to 11.1%. Since then, the spread of the coronavirus has accelerated in the US, putting further re-opening at risk.
- There was a record rise in the global manufacturing PMI output index as the world factories are further getting on track. However, business sentiment and order books are staying well below pre-crisis levels.
- President Macron and Chancellor Merkel met to lay out the use of the EUR750 millions fund proposed by the European Commission to bolster the bloc’s economy.
- The latest round of Brexit negotiations were face-to-face in Brussels. Key issues remain unsolved: ensuring fair business practices, fishing rules and the border between Ireland and Northern Ireland.
- Regarding the coronavirus pandemic, we will follow updates on key vaccine programmes and try to find out if infections are decreasing in some Southern US States or if a worsening is yet to come.
- Germany took over the baton from Croatia to lead the EU-27 for the next 6 months. Expectations are high, starting with overcoming the Covid-19 pandemic, as well as funding the economic recovery.
- In terms of data, the US will publish the latest services and composite PMIs. The euro zone will also confirm retail sales.
- Elsewhere, discussions between the EU and the UK will continue on their future relationship.
- Core scenario
- Our central scenario forecasts a mild impact of the crisis. We expect a gradual recovery of financial markets, mainly thanks to abundant liquidity and government support. In the coming months, markets should nevertheless continue to trade in a wide range. From a short-term perspective, some reassurance can be found in the bottoming of economic indicators and the rise in economic surprises. Volatility is nevertheless here to stay as visibility on the epidemic and its aftermath remains low.
- Two messages stand out via the recent market performance: First, stay with the medium-term “winners” of the crisis (e.g. Technology, Healthcare, Sustainable themes) and, second, enter positions in assets at historically attractive valuation levels, also providing investment opportunities (we have identified Emerging market debt, value sectors, cheap currencies and euro zone equities relative to US ones).
- Various epidemic indicators reveal that in Europe, the rate of contagion is falling in spite of easing lockdown measures. In the US and South America, new cases are going up but for the moment, the severity is decreasing.
- Market views
- Most countries have reached their peak in terms of active Covid-19 cases, except for the Americas. The epicentre is now on both parts of the American continent.
- Mobility indicators continue to improve gradually but are becoming less useful as the incremental changes are becoming too small to be informative.
- Fiscal and monetary policy responses will outlive the virus. Monetary policy responses aim at ensuring ample liquidity and, for some regions, further asset purchases programmes.
- The European political response has given some reassurance: policymakers have addressed several flaws in the past weeks successfully which could result in a decline in euro zone equities’ risk premium. The past weeks could be seen as the fiscal equivalent to the monetary “Whatever it takes”.
- The coronavirus is a risk until it is contained or a vaccine is found, successfully tested, mass-produced and commercialised. A second wave is possible but a worldwide generalised shutdown is unlikely.
- US election risk. The handling of the coronavirus crisis, economic strains, social unrest and upcoming presidential elections are triggering uncertainty at a time when valuation is no longer appealing vs. historical levels. A Democratic sweep could represent a risk for the stockmarket (tax reform and regulation).
- The US-China relations will likely remain on edge and are clouding global growth. The Defense Department made public for the first time a list of Chinese companies that are operating in the U.S. and are tied to the Chinese military.
- Trade negotiations between the UK and the EU. EU negotiator Michel Barnier expects the “moment of truth” for any potential trade deal in October. A “thin” free trade agreement is a realistic assumption.
RECENT ACTIONS IN THE ASSET ALLOCATION STRATEGY
We are underweight equities while keeping a pro-risk exposure within our portfolio. We express our pro-risk stance via a bias towards value sectors, including banks, holding emerging markets debt (in both LC and HC) and European corporate bonds, as well as having a currency exposure towards the NOK. In addition to our underweight equity stance, we hold a protective derivative strategy on both US and European equity markets. Further, exposure to Gold and JPY act as risk mitigators. The market has become vulnerable to disappointments. We currently have a higher exposure to EMU equity vs. US ones, as the former benefits from several relative drivers, including a strong and coordinated policy response, better virus control, relative cheapness and light positioning.
CROSS ASSET STRATEGY
- Our equity exposure is slightly underweight, while increasing the relative exposure towards the eurozone.
- We have become overweight EMU equities vs. US. Policymakers have successfully addressed several flaws in the past weeks which could result in a decline in EMU’s risk premium and economies are re-opening without triggering a new wave of infections.
- We have become underweight US equities. The handling of the coronavirus crisis, economic strains, social unrest and upcoming presidential elections are triggering uncertainty at a time when valuation is no longer appealing vs. historical levels.
- We stay slightly underweight UK. Covid-19 has changed priorities in the UK. A “thin” free trade agreement (incorporating zero-tariff/zero-quota trade in goods, but significant non-tariff barriers on trade in services) is a realistic assumption. A no-deal end to the transition would hit foremost UK domestic stocks.
- We stay neutral Japanese and Emerging markets equities. Uncertainty surrounding the aftermath of the coronavirus crisis weighs on investors’ sentiment. On the other hand, the fiscal and monetary responses are massive.
- Since the onset of the coronavirus crisis, some assets have been badly hit and now offer historically attractive valuation levels, providing investment opportunities. While it is not easy to find the best entry point, it makes sense to strengthen some positions opportunistically. For instance “value” sectors such as European banks are already integrating a lot of bad news.
- We keep key convictions in various thematic investments. Technology, Oncology and Biotech sectors prove relatively resilient in the current context and reveal high growth potential driven by innovation and pricing power. Climate action and circular economy themes enable exposure to key solutions for a cleaner future. We believe that sustainability will continue to gain in importance for the social and environmental aspects. A robust governance appears to deliver better results during the pandemic, both at company and state level.
- We are underweight bonds, keeping a short duration, but highly diversified as the current environment has the potential to create opportunities on bond markets.
- We are underweight government bonds which provide no return potential except in risk-off phases and their accompanying flight to quality. We prefer peripheral bonds vs. core European countries.
- In a multi-asset portfolio, diversification into credit appears attractive. We are overweight US and EUR investment grade as central banks’ buying represent a support.
- We are also overweight Emerging debt, including corporate bonds, in both local and hard currency.
- We have an exposure to the NOK, which appeared attractive during the crisis, as well as gold and the JPY which are risk mitigators.