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After a strong start to the year, global equity and bond markets are trading near their highs. Bond markets have rallied on lower than expected inflation, while equity markets remain underpinned by moderate growth and strong corporate earnings. Investors may have reservations about valuations but, in truth, they have few alternatives. Importantly, despite the flattening of yield curves, the underpinnings of global growth have not been questioned. And ahead of the upcoming earnings season in July, investors are reluctant to reduce equity holdings. In our view, therefore, the outlook remains one of modest returns, accompanied by relatively low volatility.
Inflation has stalled and is even falling in many advanced economies. The primary effect of this has been to flatten yield curves, as bonds have rallied while expectations for monetary policy tightening in the US have lifted short rates. Flatter yield curves have broader impacts on capital markets, including a tendency for the dollar to weaken. Interest differentials at the long end of the curve seem to matter more for the dollar than those at the front end of the curve. Also important is rotation within equity markets. Steep yield curves tend to favour financials and value stocks whereas flatter yield curves tend to favour quality stocks, dividend payers as well as growth styles.
The Federal Reserves decision to hike rates last week and its strategy for forthcoming balance sheet adjustment paradoxically reassured markets. The Fed delivered a message that growth is resilience and declines in inflation are transitory. That message reinforced the predictability of the Fed and its commitment to gradualism, which tended to bolster investor confidence.
Over the next quarter, the biggest risk remains fears of a harder landing in China. The credit impulse has turned negative, accompanied by greater regulatory restraint on off balance sheet and small bank credit formation. In the past, a negative credit impulse has typically led to a slowing of fixed asset investment, adversely impacting commodity demand and pricing. Global markets have benefitted for some time from reassuring Chinese growth. It bears watching whether that will continue.
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Larry Hatheway, Group Head of GAM Investment Solutions and Group Chief Economist, June 2017
Please note that these are the views of Larry Hatheway for GAM Investment Solutions and should not be interpreted as the views of RL360.
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Larry Hatheway
Group Head of GAM Investment Solutions and Group Chief Economist, GAM Investment SolutionsJune 2017
Please note that these are the views of Larry Hatheway on behalf of GAM Investment Solutions and should not be interpreted as the views of RL360.