Asset allocation quarterly – July 2018

11 Jul 2018

SUMMARY: The second quarter of 2018 was tainted by trade tensions; investor concerns about Italy and European growth; and stress in emerging market (EM) and China-linked assets. However, not all news was bad for the markets: US equities and crude oil outperformed other risky assets and credit markets outside of the eurozone ‘periphery’ and EM have been generally stable

We foresee calmer markets over the next few months and have identified these reversal themes:

  • (i) The crude oil market has likely seen a top already as it has priced in plenty of good news on demand, supply and geopolitics.
  • (ii) Relative monetary policy divergence between the US Federal Reserve and the ECB is also largely priced in. We therefore expect the USD to stabilise against the EUR and the spread between US Treasury (UST) and German bond yields to tighten.
  • (iii) More stable US rates markets and a stable USD should support EM currencies and therefore EM local debt

The hallmark of Q2 has been the progressive economic divergence between the US and the rest of the world. This has been fuelled by several key elements.

In the US, stimulus from the tax cut boosted economic activity and consumer confidence. This positive development could have benefited the global economy and financial markets. However, President Trump’s protectionist agenda got on the way.

The implementation of several import tariffs alongside aggressive rhetoric on trade unsettled investors and accentuated the divergence by hurting export-oriented economies such as emerging markets and developed countries such as Germany.

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