22.03.2017

A sunny sky, any clouds around?

by Oddo BHF Asset Management

The economic outlook is bright enough to warrant a pro risk investment stance. Our overweight equities/ underweight duration seems consistent with a firming of global growth and an unwinding of prior deflation fear.

What could derail the recent rally of risky assets ?

Europe Political Risk: A Le Pen victory in France cannot be ruled out even if odds are slim. It would undermine European political cohesion (weak as it is), and would impose a larger risk premium on euro-denominated assets. A Macron victory would signal diminishing political risk in Europe, as the French and German leadership would be committed to supporting the European Union and the single currency. We underweight French sovereign and financial assets in search for clarity.

U.S. Policy Risk: Trump has promised a lot and has under-delivered so far, particularly on revamping health care, boosting infrastructure and cutting taxes. But the economy has tailwinds and the Republicans should be able to underpin business and household confidence. The threat of protectionism remains, but Trump should behave more conventionally than feared. A lack of organizational and policy cohesion represents a clear risk in the near term.

Global economics: Reflation raises at least two questions. Do firms have enough pricing power to maintain their margins ahead of rising producer prices? Is the risk of a significant slowdown in household consumption, due to rising inflation underestimated? Nevertheless, household demand fundamentals remain dynamic. Core inflation is fairly stable. The acceleration of productive investment is getting traction and supports growth.

The Fed : Fed tightening often triggers equity market corrections, especially if investors fear that the central bank is behind the curve. It might be the case if wages really start to accelerate. Concerns that Fed tightening/rising bond yields could dampen the economic expansion are premature. Policy is still accommodative and the Fed will proceed cautiously.

Chinese Growth: Markets have frequently overestimated near-term Chinese debt risks. Nevertheless, housing and heavy industry are destined to rollover in the coming months. Even if a growth slump is avoided, some volatility and fear is likely to develop as economic momentum fades.

Overall none of these risks alter our positive sentiment for the time being.

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Portfolio positioning

- We reduced our global equity positions compared to end of January, for technical reasons rather than a strategic change. Indeed, in view of Mr. Trump’s State of the Union speech and of the risks associated, we sold our emerging markets investments. It was also the occasion to take profit after a respectable rally.
- In the equity bucket, the US still represent a respectable share. The US market has for the moment a strong earning tailwind and a more robust financial sector than the Euro area. Globally, our equity portfolios still witness reliable earnings, particularly in technology (cyclical) and health care (defensive). We remain underweighted on energy and materials, which are vulnerable to the loss of steam of the commodity price bounce. We are also underweighted on industrials, where too much growth optimism is discounted. Finally, we continue to prefer small and mid capitalizations for both Europe & US.
- Concerning bonds, we have been even more tactical, trying to optimize our duration position, given our significantly long position in high yield, both US and European, and in (hard currency) emerging market debt. As our global macro analysis points toward higher yields, we avoid adding significant duration with long sovereign core European debt. Instead, when we think it is necessary, we try to short-cover (with futures) our credit risk.
- All over the month, we retained a USD long position, but limited in size, as the future dynamic of the currency looks highly uncertain. On one hand, many economists and commentators believe the euro to be undervalued against the dollar and, unless a far left or far right party wins the French elections, the gap could narrow in the coming months. Moreover, the new US administration seems to want the dollar to fall. On the other hand, the carry trade still favors the USD, and may continue to do so, unless the ECB turns less accommodative than widely expected.

 

 

 

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Nicolas Chaput
Global CEO & Co-CIO,Oddo Meriten AM 

 

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Laurent Denize
Global Co-CIO, Oddo Meriten AM

 

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Gunther Westen
Deputy Head of Asset Allocation​, Oddo Meriten AM

 


 

 

 






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