Coffee Break

Last week in a nutshell

• Domestic challenges in the US remained in focus, as inflation preliminary readings of the Michigan survey revealed disappointing consumer sentiment and inflation expectations, while a government shutdown was averted.
• On the inflation front, US consumer and producer prices moderated somewhat in February but should translate into a strong core PCE price increase, the Fed’s preferred inflation gauge to set its funds rate.
• ECB President Lagarde warned that trade, defence, and climate disruptions are driving inflation volatility, reinforcing the need to uphold the Bank’s 2% target and adapt to ongoing shocks.
• Mark Carney, Canada's new prime minister, addressed the ongoing trade war with US President Trump and announced retaliatory tariffs on US goods …. and was promptly congratulated by China.
• While Ukraine agreed to a 30-day ceasefire during negotiations with the US in Saudi Arabia, the Kremlin stalled, laying out sweeping questions and tough demands.

Investment convictions

Core scenario

• US growth is suddenly at risk as trade policy uncertainty (TPU) and domestic policy uncertainty (DPU) weigh on confidence, while tariffs and DOGE measures dampen economic momentum more than they push inflation higher, keeping the Fed in a wait-and-see mode.
• In Europe, fiscal policy, particularly in Germany, is finally becoming more expansive, but with slowing wages, easing inflation, and looming US tariffs, the ECB remains on track to cut rates further this year.
• China’s muted response to US tariffs, coupled with persistent deflation and limited stimulus, raises questions regarding the upcoming measures to decisively improve consumer sentiment.

Risks

• Monetary policy expectations continue to diverge: The Fed remains cautious amid US growth fears, while European fiscal spending could jeopardise hopes for massive ECB easing, creating uncertainty in rate paths.
• The economic and trade policy uncertainty is weaving its way through the globe: Elevated policy uncertainty across G7 nations, particularly in North America, continues to weigh on business confidence and market stability.
• Escalating US tariffs keep making the headlines. With tariffs still in the early stages, the risk of further trade disruptions and retaliatory measures remains a key threat to global supply chains and financial markets.

Cross asset strategy

1. Our cross-asset strategy reflects a more cautious stance across asset classes and sectors. This shift implies rebalancing equities away from the US. Overall equity exposure has been somewhat reduced, particularly in US markets, where growth expectations and sentiment has turned more defensive. In fixed income too, the strategy also signals a preference for safer assets:
2. Within equities:
   • We have now reached an underweight stance on US equities as rising growth risks and policy uncertainty challenge the sustainability of “US exceptionalism”. Trade tensions, fiscal concerns, and monetary policy constraints are weighing on corporate earnings expectations, while stretched valuations leave little margin for error.
   • In contrast, European equities may benefit from a shift toward fiscal stimulus, and select emerging markets offer attractive opportunities. Nevertheless, trade war risk loom and temper the perspective. We are neutral European and Emerging markets equities with some nuance. We are positive on China vs India, as investors are flocking back to the former.
   • The stance on Japan is neutral.
3. Within sectors:
   • We remain selective, tilting toward defensive sectors with stable earnings profiles while reducing exposure to areas more sensitive to economic slowdown risks, a move that aligns with a late-cycle environment where defensive positioning becomes key.
   • In the US, we reduce our exposure to US Financials as growth concerns, policy uncertainty, and a cautious Fed weigh on the sector’s earnings outlook. Slower loan growth and tighter credit conditions could further pressure profitability.
   • In both the US and Europe, we favour Consumer Staples for their defensive characteristics, resilient demand, and pricing power. These companies tend to outperform in periods of slowing growth and heightened volatility. Specifically European Staples should benefit from their global revenue exposure, pricing resilience, and potential fiscal stimulus tailwinds. These companies provide stability amid geopolitical and economic uncertainty.
4. In fixed income, there is growing appeal for safer assets. We maintain a constructive stance on duration, as slowing growth and policy uncertainty support demand for high-quality bonds.
5. On Sovereign bonds:
   • We upgrade US Treasuries to a neutral stance, as growth risks, trade tensions, and a patient Fed reinforce their role as a safe-haven asset. With monetary policy remaining reactive and inflation pressures subdued, yields have room to decline further.
   • European sovereign bonds remain supported by an accommodative ECB and fiscal stimulus efforts.
6. On credit:
   • We remain overall neutral on Investment Grade.
   • The downgrade of European and US high-yield bonds reinforces our more cautious stance, as investors reduce exposure to credit risk. Rising economic uncertainty and slowing growth increase credit risk. While spreads remain relatively tight, weaker corporate fundamentals, potential earnings pressures, and policy uncertainty—particularly in the US—make the risk-reward less attractive.
7. We have a neutral allocation in emerging market debt.
8. Alternatives play a crucial role in portfolio diversification:
   
   • Precious metals like silver and gold remain attractive as hedges against inflation and economic uncertainty.
9. In currencies, exchange rates will remain a focal point in trade discussions and broader market dynamics:
   • We rebalance the EUR/USD pair.
   • The Japanese yen may appreciate further in response to higher rates in the region and its safe-haven status. 

Our Positioning

In the short term, navigating markets will require a pretty balanced approach that accounts for heightened uncertainty and evolving macroeconomic conditions. The recent adjustments made reflect a shift toward greater caution, emphasizing quality and resilience over riskier assets. This shift implies rebalancing equities away from the US as there is a clear recognition of potential headwinds such as slowing growth, tighter financial conditions, or increased volatility. At the same time, the move toward Consumer Staples signals a preference for defensive sectors that can offer stability in uncertain times. In fixed income, we are long EU duration and neutral US sovereign duration. We keep investment grade bonds but downgrade high-yield bonds to reduce exposure to credit risk.