European equities: Markets boosted by the central banks
European equities, driven by the combination of a supportive Fed and hopes of progress on 
trade at the G20, rallied in June. Once again, central banks in Europe and the US were the big saviours, with Messrs Powell and Draghi explicitly indicating their readiness to intervene at the economy’s demand. Hinting at rate cuts or other stimulus measures was enough to encourage investors to re-invest in cyclicals and to push stock markets to higher levels
We reduced our quality/growth bias as it is relatively expensive, while reinvesting the proceeds in more Value-oriented names. We have kept our Financials ‘overweight’, as falling interest rates are already priced in, while the Italian budget deficit target seems to be improving. The resulting decline in Italian spreads is sector-supportive, while valuation is at a bottom. We have stayed ‘neutral’ in Real Estate, despite the low interest-rate environment amid uncertainties around the freezing of rental prices in Berlin and potentially beyond.
US equities: Cyclicals-driven US markets reached new highs.
Markets rallied through June with a particularly strong US and Asia. Unlike the previous month, and despite bonds rallying everywhere, cyclical sectors strongly outperformed defensives, and Value gained against Momentum. All sectors ended in the green, apart from REITs, but 2018 beaten-up cyclicals, China-exposed companies and cyclicals, as a whole, were among the best performers, while defensives, Low Volatility and Long Momentum lagged.
We have never seen this type of scenario, one in which cyclicals-driven US markets reached new highs, in the midst of a challenging environment with little visibility and driven by uncertainties around the trade war and soft economic data. As a result, some indicators – truck orders, for instance – dropped substantially, suggesting softness in the economy, while beta-exposed companies performed surprisingly well. Meanwhile, the $1 trillion of share buybacks we have seen this year provided the biggest boost to US equities. Equity markets should be stable during the summer, unless geopolitical tensions escalate further, while investors, being rather cautious, are not fully invested. Information Technology stock performance should drive a US market outperformance but uncertainties around the upcoming earnings season and stock-specific risk are failing to give clear visibility on the market.
Oil prices bounced back after a steep fall in May amid supply uncertainties, after the US introduced a fresh round of sanctions on Iran. Larger-than-expected inventory drawdowns also propelled prices higher. The US dollar declined in June after four consecutive months of gains, following a shift to a more dovish policy by the Federal Reserve.
We are slightly more exposed to cyclical stocks, while keeping our cautious/neutral stance in our US sector allocation in this current challenging environment, in which there is little upside left and less visibility on the market. We have stayed ‘neutral’ on IT, as we are rather cautious on the upcoming earnings season while positive on Health Care, a sector that should come up with supportive results. Our global positioning in the US remains unchanged as we closely monitor the (geo)political discussions (US-China and Iran).
Emerging equities: Easing trade tensions & dovish central banks
Emerging markets reversed to positive territory in June while underperforming developed markets.
Growing expectations of the Fed moving towards a clear accommodative stance, weakening the US dollar and relieving some pressure on EM central banks, were the main supportive factors of the market recovery in June, despite overall economic weakness and earnings expectations.
The on-going trade dispute between the US and China, followed by the Huawei case, turned positive towards month’s end, with Trump indicating a measure of truce in these issues in advance of his meeting with president Xi at the Osaka G20 meeting.
Stimulus from China and higher oil & commodity prices were additionally supportive of performance. With the exception of India, suffering from profit-taking following the euphoric reaction to Modi’s election victory in May, all markets gained. The markets and sectors that outperformed were those that had suffered most in May, like China, Korea, Russia and Brazil.
In terms of sectors, while energy was supported by a rising oil price and growing tensions between the US and Iran, technology-related sectors had their best month this year in June, following a weak period when tech was hit by the trade war, semiconductor weakness, Huawei and weakness in the US tech majors.
Year-to-date, while posting a positive return of more than 9%, with all markets ending in positive territory, emerging markets underperformed developed markets. Despite some weakness during Q2, and besides Russia (a standout performer, with a gain of more than 28%), Brazil (14%) and China (11.5%) were the best markets over the first half of 2019. With the exception of health care, most of the other sectors – to differing degrees – also performed well.
We cut our Health Care exposure to ‘neutral’, as the sector is relatively expensive and might suffer from a weaker US dollar. We kept our ‘overweight’ position in Industrials, supported by stimulus in China. We favour the ASEAN region, as it is more domestically exposed and less affected by uncertainties around the trade talks.
For 2H, we expect investor sentiment to be driven by global synchronized dovish central bank activity, in an environment of sub-par global economic growth and on-going trade disputes and discussions; these will have an impact on the USD and EM FX evolution and force China, in turn, to continue its stimulus measures. Geopolitics will add to volatility, as will oil and gold prices. Valuations remain supportive, but low growth will also result in downward risk to earnings estimates.