Weakness in US manufacturing highlights the growing dichotomy between the softness of business investment compared to the resilience of the consumer. We anticipate this trend to have a greater impact on financial markets than on the economy. The manufacturing sector accounts for less than 10% of US GDP, but markets have outsized exposure to goods-producing firms which account for 44% of the S&P 500 index by market cap. Read More
The European Central Bank announced a fresh stimulus package in September, including a 10 basis point (bp) cut that pushed the deposit rate further into negative territory at -0.5%. The new open-ended approach to asset purchases is tied to the inflation outlook. Given economic weakness and political uncertainty in Germany and Italy, we expect purchases to continue through 2H2021 and possibly beyond if inflation remains subdued. Read More
The Federal Reserve lowered rates by 25 bps in September, as widely expected. We believe inflation will start firming in 4Q2019, as weaker readings from late 2018 roll off annualized core PCE. Below-target inflation, combined with global growth deceleration and US dollar strengthening, sets a low bar for rate cuts. We expect one more cut by year-end 2019, though timing will likely be data-dependent and trade-dependent. Read More
September’s sharp momentum reversal was triggered by rebounding yields on perceived progress in US-China trade, and intensified by an unwind in over-crowded positions. We expect broad S&P 500 returns to remain healthy, though sector leadership may transition. Read More
Pressures from supply-demand imbalances in the repo market reflect the structural shift in short-term liquidity, catalyzed by declining bank reserves from Fed balance sheet run-off and tighter bank regulations. Over the longer-term, we anticipate the Fed to expand its balance sheet to stabilize rates, reducing the likelihood of spillover effects into other asset classes. Read More
Low rates have supported strong performance in high yield (HY) credit, but we see this upside to bond prices as limited. Over 48% of the HY market is trading above its call price, a phenomenon particularly elevated down the credit spectrum. While coupon clipping may offer attractive return, we think further price appreciation will be constrained by negative convexity. Read More
Favorable positioning on European equities and commodities reflects our idiosyncratic preferences: European financials have attractive valuations amid an improving macro backdrop, and we expect oil prices to remain anchored by potential OPEC supply cuts with gasoline offering attractive valuation and carry opportunities. Read More
On the following page, we highlight the importance of idiosyncratic factors in European equities, where we continue to view the best opportunities in Europe as more micro than macro. Read More
International equity markets have been challenged but still offer an expansive opportunity set. On average over the last ten years, ¾ of the 50 best-performing stocks each year have been domiciled outside of the US. These global outperformers are distinguishable by strong fundamentals, even more so than in the US. The importance of idiosyncratic factors is especially evident in Europe, where beta may have diminished potential but we see alpha opportunities as plentiful—and best captured through bottoms-up analysis and concentrated positioning.
The relationship between European economic growth and equity performance changed after the financial crisis. Due to structural challenges and consistent economic and political uncertainty, European equities have underperformed to a greater extent than economics would suggest.
The European market has become increasingly value-oriented while the US has seen a surge in new growth companies. This compositional weakness has limited the attractiveness of long-term European beta exposure, though we do expect episodic outperformance driven by such sector composition during periods of growth acceleration, rising rates, higher US inflation, or aggressive US tech regulation.
Presently, the best opportunities in Europe are more micro than macro in our view as high-performing companies have seen higher returns. These companies have distinctive characteristics like strong earnings growth and robust profit margins – fundamentals that have signaled return differential ~2x greater than the spread in the US, on average, and that make a strong case for active management internationally.
Top Section Notes: As of September 26, 2019. 'Relative strength ratio' refers to the relationship between Europe and the US based on equity and economic ratios. The equity ratio is calculated by taking the ratio of the Euro Stoxx 600 Index cumulative daily performance over a denominator of S&P 500 Index cumulative daily performance. The economic ratio is calculated by taking the ratio of monthly Euro area Markit Manufacturing Purchasing Managers Index (PMI) over a denominator of monthly US ISM manufacturing PMI. Middle Section Notes: As of September 10, 2019. Bottom Section Notes: As of December 31, 2018, latest available annual data. Analysis is done on an annual basis from 2009 to 2018. Each data point represents the 10-year average difference between the median of outperforming and underperforming stocks for each respective measure. 'Outperforming stocks' refers to securities with an annual return that exceeds the index, and 'underperforming stocks' refers to securities with an annual return less than the index. Past performance does not guarantee future results, which may vary.
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