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September 23 2019

CIO Viewpoint: Stay the Course

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It has been a mixed summer for markets but we are not fooled nor complacent. Real risks remain and those risks go in and out of investors’ notoriously short term memories. Global equity markets generally continued their multi-year bull-run since it is one of the only places for some liquid return when much of the adjacent asset class yields below zero. These results have clouded main street’s real focus: growth and trade. Global growth forecasts are moving lower by the month and a trade deal is an elusive butterfly, fluttering further away by the week. Uncertainty remains.

We do not think that markets are seriously qualifying or quantifying the balls in the air. One day it is China’s PMI numbers, another it is oil supply reductions, and another it is the date of increased tariffs on billions of goods. We also discussed this uncertainty in May and July. [See our May and July Viewpoints].

We outline our current view on the markets, growth, trade and then close out with our usual: “What to Do”.

Markets

Markets are looking for something to hold onto of late. They cannot decide if they want to bet on trade, growth, negative yields, rates, geopolitics or currencies. We caution that this causes angst and concern and sometimes results in volatile market index returns. If one day or week an investor bets on an upcoming Fed rate decrease, the next trading session may price in a 3am tweet from President Trump. It is all too unpredictable. Flows have been volatile and we do not see any concrete trend. We observe that some financial institutions have been advocating for extended maturities and increased duration in client portfolios of developed market bonds simply to gather yield and avoid riskier emerging market bonds in soft and hard currencies. We advocate for prudence and patience and a long term investment horizon.

Growth

The global slowdown continues, as we wrote in our July Viewpoint: Lower for Longer. The latest estimates are out from Fitch, who have downgraded their global economic forecast. Fitch notched down their 2019 and 2020 China, US and Europe GDP forecasts by 10bps each. A no-deal Brexit would drop the EU’s 2020 growth by another 40bps from 1.1% to 0.7%.

In the US, consumer data remains resilient. The University of Michigan, who has been publishing the Consumer Sentiment Index since 1952, reported its September preliminary Consumer Sentiment Index at 92, higher than the August reading at 89.8. However, the Index is still trailing from the July reading of 98.4. The key to consumer sentiment is jobs: people have them. July unemployment was at 3.7%, near an all-time low. Borrowing has been in an uptrend, and this concerns us. We will watch this and some related metrics, such as wage growth and employment to make a conjecture.

Trade

We do not foresee a comprehensive resolution to the US-China trade negotiation. Recall that we hoped some good news would result from the Osaka G20 meeting in late June. In reality, it was just a promise to meet again in September after a supposed summer of talking. Minor photo-op focused concessions such as delaying tariff increases to October 15 and China’s recommitment to buy soy and pork from the US helped market sentiment. We think they should be used as indicators of what will come as a final deal. We do not envisage it to be a flashy one-sided affair. Intellectual property and technology transfers are likely to be signaled in the press. No one will want to appear weak and both sides will try to trump it up as a great deal for their own country. It is notable that the US and Japanese governments signed another trade deal before the G7 summit in France at the end of August. It is largely a tariff re-alignment rather than a commitment to purchase or import/export more of one good. After the US and China make a precedent setting deal, the European Union is next on the docket. As background to all these events, President Putin remains convinced that liberalism has ‘outlived its purpose’. This is why we remain cautious on the markets.

What to Do

Stay invested and remain active through light exercise. Be defensive and add to strong fundamental stories in portfolios. We suggest to diversify on multiple metrics and stay active. We remain overweight equities but would be cautious about establishing positions in anything other than our conviction stock ideas. A tactically discretionary style to portfolio construction will be required to navigate bumpy markets. Negative yields and stretched covenants in the current policy backdrop may upend even the moderately safe investment grade issuers. We would be mindful of rapid shifts in the bond markets after many markets moved fast to negative. If there are several days of a black-box-led market fall, it could upend investors’ confidence in the markets. Active management and monitoring is key when faced with these uncertain markets.

Sources: Bloomberg, Financial Times, Investcorp, LGT Private Bank, Pictet, University of Michigan and Wall Street Journal.