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Investor access to Shareowner accounts and Closed End Funds accounts.
The past month saw a recovery in risk assets on the back of continuing disinflation and indications that the Fed is close to peak rates, leading US and European yields to retreat. We aim to balance our long-term convictions (for example, positive on duration) with tactical opportunities across asset classes and strengthening of hedges. Hence, we keep a cautious stance on developed market equities, but we acknowledge potential for a marginal upside.
We believe 2024 will see the tide turn for the economic and monetary policy outlooks, while fiscal policy may experience constrained consolidation with the focus remaining on the energy transition. We expect the United States to face a recession in H1 as stringent financial conditions begin to impact consumers and businesses. In H2, we expect growth to stabilize below its potential and inflation to move closer to its target. We expect a gradual weakening of global growth, while inflation is expected to temper but stay above central bank targets. We call this a fragmented outlook, marked by divergent economic trajectories.
How is climate change affecting the outlook for weather-reliant investments? The annual repricing of climate-related reinsurance means investors in insurance-linked securities should continue to be well compensated for the risks of severe climate events, even if they increase in frequency and severity. Additionally, the diversification benefits of the asset class, which is not linked to traditional markets, remain attractive to investors. We remain constructive on this asset class and believe ILS are even more relevant today in a diversified portfolio.
While cash interest rates may be relatively high today, those elevated levels may not last very long. For investors whose objectives can be measured in months or years rather than days, we believe today’s historically elevated interest rates may call for allocating at a point on the yield curve that controls for volatility risk without ignoring reinvestment risk.
Economic deceleration and ambiguity over monetary policy are collectively increasing complexity across markets. This is not a time to take bold risks; instead, we believe investors should stick to their long-term convictions around duration in the US and Europe. In addition, current uncertainty on US inflation strengthens the case for enhancing safeguards. We believe oil offers additional protection and diversification from the recent increase in geopolitical risks.
While COVID-19 led to a significant acceleration in central bank asset purchases to address pandemic-related lockdowns and disruptions to economic activity, the unexpected rise in inflation has prompted central banks to tighten monetary policy, first by tapering their asset purchases, then primarily through higher interest rates. Now that the policy rate hiking cycle could be almost over, attention could turn to central banks' balance sheet policies. Balance sheet normalization and prolonged government budget deficits imply a shift to an environment that will make bonds more attractive over time and increase the (risk-adjusted) required returns for other major asset classes.
We believe that equity markets are more risky than they have been over the last 10 years. Valuations are stretched, monetary authorities are much less supportive, and governments have probably already reached the limits of the fiscal stimulus they can provide. Given these challenges, we believe investors can potentially generate income and capital appreciation by employing a global, multi-asset approach with the flexibility to invest in all geographies and asset classes. Importantly, adoption of a more nuanced definition set of asset classes, or micro-asset classes without constraint of benchmark orientation, affords investors the potential to identify attractive opportunities in the midst of broader categories where the top level risk and reward characteristics may appear to be less favorable.
The significance of energy trends for the US economy has declined over the last three decades; the consumption of energy for each real dollar of gross domestic product has fallen by 3% every year and this will likely continue with the energy transition. While the importance of energy has gradually declined, the issue has returned to the fore following a series of energy shocks that have boosted price volatility. Oil prices pass through to the economy via various channels, including inflation, consumption, corporate margins and investment, productivity, the balance of payment and global savings (through petrodollars), and in the long run may accentuate social stress.
As economic conditions were favorable, investors expected high yield issuers would not be encountering severe economic headwinds, and high yield spreads declined to near the lowest levels for 2023. Lower-quality credits were bid up, which was exemplified by the ICE BofA High Yield Distressed Index quarter-to-date return cresting to 7% by early September. We believe the current environment suggests investors consider reducing the aggregate weight of their sectors relative to benchmarks based on a bottom-up valuation analysis.
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