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Economic Resilience Powers Global Markets: April 2024 CIO Market Commentary

Market Highlights

  • World growth: Continued resilience
  • S&P 500, Nasdaq, Euro Stoxx, Nikkei: New highs for equity indices
  • Gold: New highs on sticky inflation, declining interest rates and de-dollarization
  • AI & Tech: Optimize the exposure, diversify across regions and manage risk to maximize capital appreciation while preserving it
  • EUR FX risk: Watch the European Central Bank (ECB) interest rate cut schedule
  • USD FX risk versus Asian currencies (e.g. RMB, JPY): Downside risk from all-time highs
  • Sustainable safe income from bank bonds:  Can still be implemented at historically high levels
  • High coupon (10%+) on structured deposits: Opportunity from market volatility

Global Macro: World growth continued resilience

The first quarter of 2024 concluded with a robust stock market performance globally and a sturdy economic outlook. The US economy expanded at a rate of 3.1%, while Europe’s growth stabilized at zero, signaling a cessation of its previous decline. Asia demonstrated vigorous growth at 5%, fueled by its triumvirate of economic powerhouses: China, Southeast Asia, and India.

In the US: Solid growth at 3.1%

Given the growth dynamic, the US Federal Reserve is exhibiting caution regarding the reduction of interest rates prematurely. The prevailing economic strength and an inflation rate lingering at 3.1% — surpassing the Fed’s target of 2% — warrant a judicious approach to monetary policy adjustments.

In Europe: Due to no growth, rate cuts are happening here first

Economic stagnation persists as inflation, currently at 2.6%, declines towards the ECB’s 2% target. The central bank is poised to preempt the US Fed in lowering interest rates to alleviate financing costs for businesses and governments. This follows the Swiss National Bank’s (SNB) lead, which reduced its key policy rate by 25bps to 1.50% in March 2024, their inaugural rate cut in nine years and the first central bank to implement a policy easing this year.

In China: Industrial profits bounce back 10.2%

China’s industrial profits surged 10.2% year-over-year to RMB 914bn in Q1 2024, indicative of an economic resurgence energized by state-backed initiatives. Fixed-asset investment grew 4.2%, with manufacturing and infrastructure sectors leading the charge. Anticipated credit expansion could reach 9.5% by year-end, propelled by heightened government bond issuance. The Chinese government has enacted a suite of stimulus measures: a 50bp cut in banks’ reserve requirement ratio (RRR), equity market stabilization by state-linked entities, approval of over 6,000 real estate projects for bank financing, and relaxed home purchase regulations in major cities. These progressive policy measures are expected to solidify GDP growth at the 5% target.

Financial Markets: Equity markets powered by AI

Equity: Global equities delivered a total return of ~10% in the first quarter of 2024, on the back of resilient growth, the prospect of lower interest rates, and positive earnings expectations, underpinned by the optimism about the rapid commercialization of artificial intelligence (AI). Returns were positive across regions in Q1: S&P 500 +10.2%, Nasdaq +8.5%, Euro Stoxx 50 +12.6%, HSCEI +0.7%, and Nikkei +19.8%.

Fixed Income: In Q1, the 10-year US yield increased 34bps to 4.21% and the 10-year German yield rose 30bps to 2.30%, while the 10-year China yield decreased 19bps to 2.42%. Meanwhile, High-Yield bond prices climbed 1.1% in USD and 0.2% in EUR.

Currencies: All major currencies declined 1-7% versus the USD in Q1 as US interest rates rose sharply, reaching higher levels than in other economic blocs, while the US Fed signaled a delay to start rate cuts.

Commodities: Gold increased 7.0% in Q1 on central bank rate cuts expectations in 2024. Oil prices bounced back 16.1% as OPEC continued its production reduction policy.

Equities: New highs for indices

Global equities advanced ~10% in Q1 2024, propelled by robust economic growth and momentum in the AI sector, fostering an enhanced market outlook. Earnings, which likely bottomed out in 2023, are projected to rebound in 2024. The technology sector is expected to spearhead this growth, capitalizing on the previous year’s cost optimization strategies and the rapid advancements in AI.

In the US: New all-time high fueled by AI

US corporate profits have accelerated, posting 3.9% growth, with the global technology sector projecting an 18% earnings increase this year, and AI revenue anticipated to surge by an annualized 72% over the next five years. The tech sector has appreciated by 8.5% year-to-date following a 50% surge in 2023, with industry giants Meta and Nvidia climbing 43% and 82%, respectively.

US equities have enjoyed uplift from improved economic performance, easing inflation, the cessation of Fed rate hikes with a shift toward potential cuts, and robust investment in AI technology.

In Europe: New all-time high with moderate relative valuations

European equities remain attractive from a relative valuation standpoint, yet the modest economic expansion signals a gradual earnings recovery. Recent corporate reporting indicates a potential earnings trough, although profit margins have outperformed consensus for the fourth consecutive quarter, a positive signal for equity markets. Nonetheless, the rebound in earnings is anticipated to be moderate, constrained by below-trend economic growth and the dampening effect of lower inflation. An earnings growth of 3% is projected for the current year, with a slight uptick to 4% in 2025.

In China: Compelling valuations with upside potential

Chinese stock valuations are compelling by both relative and absolute metrics, bolstered by improved market sentiment following the government’s reinforcement of equity support measures. Potential near-term upward momentum may stem from targeted stock market aid and policy relaxation. Economic directives from the National People’s Congress align with projections. Hong Kong’s equity market is poised to benefit from a resurgence in property transactions after easing restrictions and the prospect of declining US rates.

Currency: De-dollarization is gaining momentum

De-dollarization is gaining momentum with an 8% decline in USD share of global reserves. The proportion of US dollars in global reserves diminished by 8% last year amid continued efforts by the BRICS nations to circumvent its dominance. US Treasury Secretary Janet Yellen acknowledges the possibility of a bearish trend for the greenback, expressing concerns over “de-dollarization” in a recent congressional testimony.

EURUSD: At 1.0775, trading within the [1.05; 1.10] range with downside risk

The EURUSD pair declined in March to close at -2.3% for Q1. The ECB is poised to reduce interest rates ahead of the US Fed, a move that may precipitate a rapid depreciation of the EURUSD pair, potentially driving it back towards parity. ECB Governing Council member and Banque de France Governor Francois Villeroy de Galhau signals a consensus within the ECB for early rate cuts as inflation pressure abates. This decision contributes to the escalating risk premium on the euro amid mounting geopolitical tensions due to Europe’s entanglement in the Russia-Ukraine conflict.

USDRMB: At 7.25, stuck in the [7.00; 7.30] range 

The yuan drifted higher to 7.25 against the US dollar. Chinese officials are anticipated to intervene to stabilize the currency as part of broader efforts to bolster economic recovery. The yuan has been underpinned by expectations of more decisive policy actions to support Chinese financial assets. Consequently, it is advisable for companies with exposure to the RMB to implement hedging strategies to mitigate the risk associated with currency volatility.

USDJPY: At 151.50, all-time high downside risk

Following the Bank of Japan’s (BoJ) assessment that a 2% inflation target is attainable, it ended its negative interest rate policy and yield-curve control at its March meeting. Yet, the yen’s response was muted, indicating market comfort with its status as a funding currency for high US yield carry trades. The ascent of USDJPY beyond 150 has triggered a response from the Finance Ministry and BoJ Governor Ueda, suggesting a cap to its upward trajectory.

Fixed Income: Rate cuts expected in 2024

Rate cuts expected in 2024, but there is still time to lock high interest on cash deposits or high bond yields.We believe there is a window of opportunity that we have not seen in the past 20 years where it is still possible to receive substantial income from cash deposits, with duration of 3 to 6 months (5.25% in USD and 4.00% in EUR). High interest rates can be locked for longer periods by investing cash in bonds from large Investment Grade banks, which can provide an income per annum of close to 6.00% net in USD or 4.50% net in EUR, with a duration of 3 to 10 years.

Commodities

The global commodity market has appreciated around 4% year to date. The surge is buoyed by a confluence of factors: accommodative monetary policies, a resurgence in worldwide industrial activity, and specific supply-side constraints, all of which are expected to drive further increases in commodity prices.

Gold: Reached a new all-time high close to USD 2,200

Gold appreciated 7% in Q1. Functioning as both a hedge and an asset with upside potential, gold has ascended to new highs, propelled by technical factors that have driven market participants towards gold futures purchases. Robust central bank acquisitions of the precious metal, coupled with the anticipated Fed rate cuts by midyear, are set to stimulate a resurgence in gold ETF demand, potentially serving as the next catalyst for price escalation.

Gold continues to be an effective portfolio diversifier and we expect to see investor demand for gold accelerating. Consequently, we expect gold prices to remain well supported in 2024.

Oil: Increased 16.1% year to date to USD 83/barrel

OPEC+ has agreed to extend its voluntary production cuts. In light of oil demand outperforming expectations recently, coupled with OPEC+’s continued prudent approach, it is anticipated that the oil market will maintain its undersupply status, thereby bolstering oil prices through at least the end of June.

Risks:

  • War escalation in Ukraine or the Middle East: These conflicts hold significant implications for Europe. Specifically, if Russian forces were to advance across the Belarusian border, 150 kilometers north of Kyiv, this could precipitate a rapid devaluation of EURUSD, potentially driving it towards the 0.90 threshold. Furthermore, statements made by former US President Donald Trump concerning the US’ potential withdrawal from NATO commitments have notably undermined the confidence of US allies.
  • US-China tensions: US-China friction remains strong, with increasing tension around Taiwan and the South China Sea.
  • Recession: So far, the US has escaped recession although growth has been tepid, while in Europe anticipated growth is close to zero. By contrast, Asia is experiencing stronger, sustainable growth, fueled by China’s slowing, yet substantial growth (close to 5% in 2023).

Opportunities:

  • Income from safe cash deposits: Cash can be safely placed in cash deposits and earn annualized net interest, e.g. over a period of 6 months: 5.25% in USD, 4.00% in EUR, 5.00% in GBP, 4.00% in AUD.
  • Income from Investment Grade bank bond issuers: Major banks are implicitly protected by central banks as demonstrated in the Credit Suisse crisis where actual bonds (not AT1) remained secured. Investors can benefit from the substantial yield of a diversified bank bond portfolio of 3 to 10-year duration: close to 6.00% in USD, 4.50% in EUR, 5.50% in GBP.
  • High coupon (10%+) on structured deposits: Opportunity from market volatility.
  • All-time high, compelling “risk premium” for Chinese stocks: We believe that historically low prices for China stocks is an opportunity for long-term investors looking for asset growth, substantial income and de-correlation with Western markets. Given attractive equity valuations and earnings upgrade expectations, we believe mainland Chinese and Hong Kong equity valuations are likely to increase significantly within the next 12 months.
  • Nuclear energy: We believe the nuclear sector will be instrumental in the world’s decarbonization efforts. To achieve fossil fuel reduction targets, the nuclear power industry’s safety standards need to be brought to the next level, for instance by using new technology to recycle uranium. New “green” nuclear energy is the number one priority of President Macron in France, while being high on the agenda in the US and China, which will build 150 nuclear power plants in the next 15 years.
  • Defense and security: The wars in Ukraine and Palestine have triggered massive investment in military defense and the overall security sector – including cyber, food, energy, and semiconductor supply security – in Europe and around the world.