Macroeconomic backdrop

The latest headline inflation rates have slowed, but risks remain. US average hourly earnings ticked up at the beginning of the year, and job growth was far stronger than expected, with recent data also revised higher. While the US Federal Reserve (Fed) and European Central Bank indicated that rate reductions later this year are possible, both central banks have stressed it is too early to consider such a move. The result was that hopes of interest rate cuts in March led by the Fed have faded. Elsewhere, expectations grew that China’s National People’s Congress in March could see the announcement of further stimulus measures.

Market update

Global equities surged in February. Those in China posting their strongest monthly gain since November 2022, while Japan’s Nikkei 225 Index surpassed its previous 1989 high. It was another strong month for US equities, with both the S&P 500 and Nasdaq Composite Index closing the month at record levels. European stocks lagged, but ended higher. Bond markets weakened as central banks dispelled hopes of imminent rate cuts. Investment grade corporate bonds also sold off, though high yield bonds were cushioned by their relatively larger coupons. The US dollar appreciated during the month, as did the oil price, reflecting concerns that OPEC+ might extend its production cuts.

Our view

We have kept our asset allocation unchanged since our last update. Risk assets continued to perform well in February and valuations have been supported by an improving earnings outlook and better than expected quarterly earnings across multiple sectors. Our base case remains that investment dynamics continue to be favourable. The continued strength in economic data offers comfort that markets will remain well supported in the near term.

The US economy is performing well, supported by a strong labour market and a resurgent US consumer. While January inflation data have raised concerns regarding the timing of any interest rate cuts, we view this as more an issue for the bond market and less one for equity investors. Here attention is turning more to the chances of a soft landing and the lessening likelihood of any meaningful economic slowdown.

In equities, the US and Japan remain our preferred markets. In contrast, we expect Europe to lag due to its weaker growth prospects.

Within fixed income, we remain neutral on longer dated bonds, but regard emerging market debt (EMD) more favourably. While credit spreads have tightened in recent months, EMD spreads are more attractive in a historical context and should also be supported by solid fundamentals. Valuations for high yield are less compelling.