Speaking with investment managers in recent weeks, the dominant factor shaping their current thoughts is the impact of premature euphoria on the Federal Reserve ‘pivot' to rate cuts, but, such actions are taking longer to arrive than Godot.
Stubborn service sector inflation has jolted the expected smooth downward trajectory of inflation in the US.
The central case that most managers now anticipate is two Fed rate cuts in 2024, which is down from the five to six rate cuts they were anticipating at the beginning of the year. Interest rate options now also imply a 20 per cent chance of a rate rise.
The anticipated change in the pace of rate cuts in the US contrasts with the position in Europe and the UK, where the European Central Bank and the Bank of England may now cut rates in advance of the US; a situation that hasn’t happened since the mid-1970s.
The consequent flip in expectations has caused USD to strengthen against GBP and EUR.
With active hostilities in Ukraine and Gaza, and a fragile standoff with the Houthis, Hezbollah and in the South China Sea, the world remains in a state of heightened geopolitical tension.
Bubbling under this is the potential impact of the real estate market in China destabilising broader Chinese credit markets and compelling the People's Bank of China to sell down US treasuries to support domestic lenders.
While falling interest rates more generally support a positive view on equities, managers are currently focused on a defensive approach to portfolio construction and maintain a value-oriented mindset, focusing on high-quality businesses with resilient consumers.
Clouds on the horizon gather around the risk of persistent inflation further delaying rate cuts, which perhaps explains lacklustre sentiment.
With 2024 seeing major elections across much of the democratic world, most eyes are inevitably focused on the US presidential race.
However, many managers continue to emphasise the temporary nature of political shocks to equity markets, with most rebounding in a few weeks.
Research by Deutsche Bank shows that across 30 major geopolitical shocks (from the German annexation of Czechoslovakia in 1939 through to the Russian invasion of Ukraine) the median time for equity markets to reach a bottom is 17 days and recovery only a further 16 days.
While managers appear to see the rest of the year demonstrating modest growth with turbulence, the tail risk is US 10-year rates moving back above 5 per cent rather than geopolitical tensions breaking out into more ‘hot’ wars.
More generally, emerging themes are centred around the careful exploration of how best to exploit the future potential of artificial intelligence, and for those who missed the ride of the magnificent seven (several of which have fallen back in recent weeks), how best to express technology exposure in their portfolios.
Other themes cluster around medtech after the explosive performance of Novo Nordisk weight loss drugs (delivering more than 400 per cent share price appreciation in the past five years), energy transition (and in the US increased energy usage) and Japanese manufacturing focusing on robotics and automation.
