Looking back, the largest trend of 2023 was not AI. It was the rush into cash and longer-dated bonds to hedge recession risks and front-run rate cuts. Some $1.3 trillion dollars poured into global money market funds last year. 

At the beginning of 2024, that positioning had become extremely crowded and vulnerable to a sharp reversal. As the year has progressed, more and more investors have been lifting their heads above ground and seeing the economy for what it is: strong. The recession camp has been completely thinned out by the powerful surge in US growth, a revival in global trade and, more recently, signs of a trough in global manufacturing. 

Yet many remain anchored to the past decade, forecasting a return to slow growth and low inflation. This happens in all investment regime changes. People simply have a hard time giving up their investment paradigms. 

Looking ahead, our investment team believes that a new cycle is unfolding, led by productive assets in the real economy and underpinned by the unwinding of extreme risk aversion. This, in turn, will incentivize investors to rotate over the coming period from technology-related exposures to a more conventional pro-cyclical theme. 

To be sure, enormous risks still exist. We are monitoring them. But the bigger picture is that many investors are not yet positioned for a transitioning world economy, still clinging to the apparent twin comforts of fixed income and US mega-caps. We do not expect this to last. That means huge volatility and price swings beyond surface-level fluctuations as the cycle matures. 

Maintaining equity overweight

• Despite pockets of overvaluation, broadening global growth momentum should be supportive of corporate earnings.
• Risk appetite has picked up this year, but there is still an abundance of defensively-positioned capital yet to re-enter global equity markets.
• We remain overweight equity exposure in client portfolios.

Increasing European equity exposure

• Europe has struggled in recent years with natural gas shortage fears pressuring up energy costs and a German industrial slump. 
• A more constructive outlook beckons, as credit growth appears to have bottomed, manufacturing PMIs have turned positive and the European Central Bank has started cutting interest rates.
• We have increased exposure to European equities this quarter.

Adding to fixed income exposure

• A “high-pressure economy” is not an ideal macro backdrop for fixed income, as sticky inflation and above-trend growth are likely to keep long-term bond yields elevated; thus limiting the potential for capital gains.
• However, with yields grinding higher last quarter and major central banks embarking on an easing cycle, the attractiveness of bonds has improved.
• We have moderated our underweight fixed income positioning in client portfolios. 

 Staying short duration

• Despite the improvement in the overall outlook for bonds, the risk/reward ratio for longer-term bonds remains unattractive.
• Inverted yield curves in many developed bond markets offer poor risk compensation and are vulnerable to a re-steepening.
• Short duration fixed income positioning has been maintained this quarter.

Indian growth story intact

• Indian assets sold off in response to the surprisingly weak performance of incumbent Prime Minister Narendra Modi’s Bharatiya Janata Party in the general elections which concluded in early-June.
• Despite a hit to Modi’s ability to implement reform measures, we see little risk to India’s growth trajectory, which appears to be broadening out from public investment to private consumption. 
• Indian equity positions are held in the Global ex-North America Equity and Emerging Markets Equity strategies.

Loan yields attractive

• US senior leveraged loans were a standout in our analysis, as credit spreads were very tight in virtually every other speculative fixed income asset class we surveyed.
• Loan issuer fundamentals modestly deteriorated during the Federal Reserve’s rate hiking cycle, but should remain well-supported by US economic resilience and easing refinancing risk.
• US senior leveraged loan exposure has been added to the High Income Opportunities strategy this quarter.

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