Global CIO video: "Investors need to be more selective."
Risk assets have corrected lower in recent weeks amid lingering risks and uncertainty. We look at the latest developments and our current views.
Following a brief summer lull, risk assets have corrected lower in recent weeks as the recent escalation in the US-China trade dispute and other geopolitical risks roiled financial markets. While market sentiment is negative and risks are on the rise, we so far see the slowdown mostly in manufacturing and industrial production. Meanwhile, the services part of the economy continues to do reasonably well.
Yield curve sounds an alarm
Our belief that the global growth cycle will continue appears to contradict the recent inversion of the 2–10-year Treasury yield curve, which is widely regarded as a harbinger of economic recession. In fact, our analysis suggests the predictive power of an "inversion event" may not be as high as believed. For example, the 2–10-year part of the yield curve has given two false signals out of eight since 1978 and needs to remain inverted for at least 11 months to correctly predict a recession. Moreover, from both an economic and a markets perspective, such an inversion is unclear in terms of timing.
Timely reduction in equity exposure
We believe that market volatility is likely to persist over the usually illiquid summer months, exacerbated by decelerating global manufacturing growth and rising geopolitical risk. As such, the Investment Committee's decision to reduce equity exposure to neutral in mid-July was timely and appropriate, and helped us during the market sell-off in August.
Going forward, it is important to stress that we continue to see upside for equities. Yet given the current risks and uncertainties, investors need to be increasingly selective in their investment decisions and diversify wisely.