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Asset Allocation Update January 2018

Economic lights at green

Growth has picked up around the world over the past few quarters, cancelling out the dip that occurred in 2016. Robust leading indicators are a sign that positive growth could well persist for the time being; economic growth is also slightly more widespread. There is a positive mood in almost all countries in which purchasing managers are polled. One exception to these positive signals is the yield curve, which has flattened substantially in the US. In the past, a negative yield curve has been a precursor to a recession but we have not yet reached that stage. Moreover, there are technical factors that are distorting the picture. Consumer spending is being boosted by growing employment and both corporate investment and global trade are also picking up. We are keeping a very close eye on inflation. It remains low and is showing few signs of rising more sharply but, given the current economic growth and tightening job market in the US, Japan and Germany in particular, higher inflation is definitely lying in wait. Rapidly rising inflation followed by a strong response from the central banks poses a risk to positive market sentiment, although we have not yet got to that point.

“Policymakers anticipate three interest rate hikes in 2018 and two in 2019.”

Monetary policy will become less expansionary

In December, the US central bank raised interest rates by a further 25 basis points. The Fed also adjusted its growth forecasts upwards but kept its inflation forecasts unchanged. Policymakers anticipate three interest rate hikes in 2018 and two in 2019. This is more than the market is currently pricing in. Furthermore, the Fed has started to reduce its sizeable portfolio of government bonds and mortgage-backed securities. The ECB also adjusted its growth forecasts in December and halved its bond-buying programme to 30 billion euros per month as of January. The bank will maintain this level until September; what will happen after that is as yet unclear. In Japan monetary policy has officially been left unchanged, but in practice the purchase of government bonds in 2017 was half that of the previous year. This was apparently enough to maintain 10-year bond yields at the target rate of 0.1%. On balance, last year total purchases by the three largest central banks were the highest since the 2008 financial crisis. This source of liquidity is expected to shrink significantly in 2018.

Market outlook

Positive growth and earnings forecasts and low bond yields mean that we are still positive about equities. US equities profited from the approved tax plans and the weaker US dollar but valuations are starting to reach very high levels. The lower valuations and greater capacity for improving margins lead us to prefer European equities. We believe that yields will rise in the Eurozone but are positive about emerging market debt listed in local currency.

Kempen Capital Management N.V. (KCM) is licensed as a manager of various investment funds and to provide investment services and is subject to supervision by the Netherlands Authority for the Financial Markets. This information may not be construed as an offer and provides insufficient basis for an investment decision.

The Asset Allocation Desk

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