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Each month, LBP AM deciphers market news in a video. Today, Xavier Chapard, a strategist at LBP AM, reflects on the turbulent summer experienced by the markets, with significant declines in interest rates and high volatility in equities.
It's been an eventful summer on the markets, as is often the case, with significant falls in interest rates, and high volatility in equities. This was partly due to significant changes in the macroeconomic backdrop. Inflation has resumed its decline after surprisingly rising at the start of the year, allowing Central Banks to move surely towards rate cuts. At the same time, global growth seems less robust than in the first half of the year, be it in the USA, the Eurozone or, even more so, China. Against this backdrop, how should one approach markets in the second half of the year?
As has been the case since the beginning of the year, we favor diversification between asset classes in our allocation. In particular, exposure to equities and bonds allows us to capture attractive returns while hedging risks, now that Central Banks are beginning to ease monetary policy.
Our central scenario of limited but resilient growth is rather favorable for risky assets, even if the market has already factored in a lot of good news. That said, rising economic risks and persistent political uncertainties warrant a degree of caution in the short term.
Interest rates on government bonds fell sharply this summer, although they are still fairly high. This downward trend is set to continue as inflation continues to normalize and central banks cut rates.
that said, potential gains on bonds are limited in the short term, as markets are already pricing in rapid policy rate cuts, especially in the us. and the market will still have to absorb a lot of issuance, given the large public deficits and shrinking balance sheets of Central Banks.
All in all, we are cautious on sovereign debt, favoring European bonds and inflation-linked bonds.
We remain exposed to European corporate bonds to capture yields that are still attractive, since company fundamentals remain sound, especially as monetary easing dampens the risk of default.
But we remain highly selective on the riskiest issuers, who will have to issue more debt in the coming months.
Our equity positioning is at an average level, with a preference for European and emerging equities over US and Japanese equities.
Equities are rather expensive, except in emerging countries. But valuations remain reasonable, in a context where earnings are rising and interest rates are set to fall. And with inflation falling, Central Banks can come to the markets' rescue in the event of unpleasant surprises.
That said, market expectations are very optimistic, especially in the US where markets are anticipating more than 15% earnings growth for next year, despite the slowdown in economic growth.
All in all, we favor a diversified and agile market allocation for the second half of the year.