Rising interest rates have weighed on gold, which is now trading below its USD 1,675 support level. Investors are extremely bearish on the metal, so we think it could be a useful hedge if the geopolitical climate suddenly worsens.
New bank lending in China beat expectations in September as the government gradually stepped up its stimulus. The rebound in lending was less bold than in previous stimulus cycles, since demand is still being kept in check by the authorities’ zero-COVID policy, but the Chinese economy now appears set to pick up in 2023.
US inflation continued to ease in September but at a slower pace than forecast. This is because rents and service sector prices have soared. However, we expect consumer price growth to normalise more quickly over the coming months as import prices drop sharply and retail sales level off.
Europe - poised for a major crisis
The surge in inflation caught the European Central Bank off guard. It now finds itself forced to speed up the pace of its monetary policy tightening just when the eurozone economy is slowing. If you believe the headlines, the question is no longer if the region will go into recession, but when. The good news is that European countries have been able to replenish their inventories of natural gas faster than expected and have reduced their consumption of the resource without manufacturing output collapsing. What’s more, governments have brought in emergency measures to help households cope with soaring gas and electricity prices at a time when the cost of living is rising sharply due to higher inflation and interest rates. Barring an exceptionally harsh winter, Europe could manage to avoid a severe recession. But that doesn’t mean today’s energy crisis won’t have lasting effects: public debt levels are set to swell further and trade deficits are likely to increase as countries import substantially more liquefied natural gas (LNG).
Against this worrisome backdrop, European equity funds have once again experienced record outflows, and surveys indicate that investor sentiment is at an all-time low. According to Bank of America, investment funds are underweighting European stocks to an extent not seen in two decades. Investors have clearly spotted the clouds on Europe’s horizon and have positioned their portfolios for a major shock. The 12-month P/E ratio for European stocks now sits at 11, and valuations in the region, relative to those of global peers, are falling back to levels not seen since the 2008 financial crisis.
Although it may be tempting to succumb to the gloomy mood and sell off European equities immediately, that might not necessarily be a wise decision, especially in the light of how bearish investors currently are and the steep decline in prices. If European companies manage to avoid a sharp drop in earnings, investors could respond positively. For now, firms are rolling out share repurchase programmes to make use of the cash on their solid balance sheets. We still recommend maintaining a diversified portfolio until visibility improves.
Opportunities on the US bond market
Economic agents, investors and above all monetary policymakers are particularly spooked about inflation at present. European central bankers are worried about skyrocketing natural gas and electricity prices, and risks could be high for the continent this winter. The US Federal Reserve (Fed) may be less concerned about energy supplies, but it is still taking its monetary policy cues from inflation data. Fed Chair Jerome Powell is keeping a very close eye on the jobs market, where strong pressures are likely to spur additional wage growth, with potential second-round effects on prices in the services sector. However, numerous indicators suggest that inflation has passed its peak in the US. Commodity prices have dropped considerably in recent months, starting with energy and food prices, which account for a significant proportion of household budgets. And with supply chains getting back to normal, upward pressure on the prices of both manufactured and imported goods should ease. Lastly, the sharp slowdown in property prices should help to keep a lid on rents, which have soared in recent months. At this point, inflation continues to weigh on bond prices, which have recorded their biggest declines in nearly 40 years. US Treasuries are currently yielding 4%, and this figure is higher for some investment grade corporates. That is well above medium- and long-term inflation expectations. At these levels, we recommend investing in US-dollar-denominated bonds.
Author
-
Daniel Varela holds a degree in business administration with a specialisation in finance from the University of Geneva and began his career in 1989 as a fixed income manager. He joined Banque Piguet & Cie in 1999 as head of institutional asset management and with responsibility for bond analysis and management. In 2011, he became head of the investment strategy and Piguet Galland's investment department. In 2012, he joined Piguet Galland's Executive Committee as CIO.
