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Equity Strategy: Global Equities Unlikely to Sustain Gains in 2017
Economics: The real challenge for France lies ahead
Multi-Asset: Risk appetite challenges pro-cyclical narrative
Top Convictions on a 12-Month View
• Equities could underperform bonds as the business cycle disappoints
• USD may be lower a year from now, hurt by adverse real-yield differentials
Our quarterly Strategic Asset Allocation report provides a summary of how ASR views the prospects for financial markets over the next 12 months. It expresses our ‘core’ calls in terms of probabilities. This allows the ASR view to be compared directly with the Consensus as tracked in ASR’s quarterly Multi-Asset Survey.
On a 12-month view, we have become more worried about risk assets. Because of the tightening in US and Chinese monetary policy, we believe that the global business cycle will be weaker, not stronger, a year from now. We think that the improvement in global inventory-shipment conditions will soon be over, reducing the scope for pricing power and corporate earnings growth – and exposing the equity markets’ demanding valuations. This view contrasts with ASR’s Multi-Asset Survey which is anticipating a sustained global reflation trade.
Against this backdrop, we think that the pressure on US interest rates could be less than the market expects. We think US 10yr yields will remain range-bound, and are unlikely to breach the critical 3% level over the next 12 months (unless the ECB tapers aggressively). We worry that equities may underperform bonds should investors start to see weaker earnings growth and lose confidence in the current rich valuations. We also question how long the global Equity Risk Premium can resist upward pressure from the persistently high levels of global Policy Uncertainty. We believe investors will have to prepare themselves for higher equity volatility over the next 12 months.
Finally, we believe the USD could disappoint if the ECB tapers on the back of rising core eurozone inflation, resulting in a narrowing of real-yield differentials.
EQUITIES: Global cyclicals/defensives poised at key inflection point (P3)
FX:USD/EUR 1m vol close to highs; CAD/MXN well placed to bounce (P1/4)
COMMODITIES: Cotton optimism growth spurt close to overbought (P17)
Cyclicals/Defensives poised at key levels; CAD/MXN ripe for rally
The failure of global equities to break out to new highs vs. bonds has chimed with the reversal in global cyclical sectors vs. defensives. It is notable then that cyclicals/defensives are now poised at key technical levels. In the past 12Y SBI levels of 58-60 have seen the relative rise over the next 30D on 64% of occasions. A break lower from here, however, would risk a further 5% fall in the relative. See charts on p3.
FX Watch: The initial reaction to the French election news has been a move to ’risk on’. While the euro has bounced, net short positioning in EUR is not notable, in the way it is for GBP versus USD. See p18 and here for more on FX.
Chart of the Week: In FX, the ‘loonie’ remains tuned into oil developments, with CAD futures hitting stretched pessimism territory against a backdrop of faltering Crude sentiment. CAD/MXN also hit stretched pessimism levels last week, which is notable given that in the past 10Y sub-5 SBIs have been followed by a pick-up in the cross-rate over the next 65 days on 73% of occasions (by an average 2.9%). This suggests room for CAD/MXN to rally off the key support area around 13.9, with 14.5 the first Fibonacci target (+3.5%).
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