House Views - May 2020 - Glimmers of Recovery

Macro
Over the past month, more and more governments have begun to ease lockdown restrictions, encouraged no doubt by the absence so far of a second wave of infections of CoViD-19. Nonetheless, they will remain vigilant –we still have not seen the peak in active cases – and some restrictions on activity are likely to linger. Business confidence has begun to stabilise as activity levels have stopped plummeting. However, output remains at depressed levels and unemployment levels continue to rise rapidly, meaning that recovery will be gradual. Given these factors, fiscal and budget support packages will remain necessary, with the focus switching from shortterm support for companies and households towards measures to foster recovery via investment in areas such as green energy or IT.

Central Banks
The recent German Constitutional Court ruling on European Central Bank asset purchases does not appear to have diminished the ECB’s willingness to pursue its programmes. Indeed, recent statements by policy-makers suggest that the size of its Pandemic Emergency Purchase Programme could be boosted at the next meeting. The US Federal Reserve (Fed) has similarly given no indication of any wavering of its commitment to pursue its various support  programmes, even if the speed of its asset purchases is likely to slacken from the recent heady pace (its holdings have risen 63% since mid-February). In addition, emerging world central banks have been busy cutting rates so far this year, despite marked currency weakness.

Markets
With government deficits skyrocketing across the globe, central bank asset purchases will be key to keeping sovereign bond yields at manageable levels. In addition, the support provided to corporate bond markets should help maintain yield differentials over government bonds (“spreads”) at relatively low levels, in particular for better-quality issuers. This provides a supportive backdrop for global equities, especially given the gradual easing of lockdowns thanks to the continued slowing of the coronavirus pandemic and the vast size of government support programmes. All in all, a more neutral stance in terms of asset allocation is now possible.

Bottom line
We suggest moving to Neutral in equities, but remaining underweight in sovereign bonds – today’s low yield levels diminish both their return potential and their usefulness for portfolio diversification. We continue to prefer euro-denominated High Yield (HY) bonds over those issued in dollars given their generally better-quality balance sheets. Within equities, the UK may continue to underperform in light of the rising risk that Brexit may occur without a favourable trade deal with the EU. Among emerging markets, we continue to prefer Asia over other regions where the pandemic continues to spread. Oil prices have recovered somewhat from the late-April shock while gold continues to benefit from safe-haven flows in the face of rapid increases in money supply.

In accordance with the applicable regulation, we inform the reader that this material is qualified as a marketing document. CAO9/H1/2020

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