There is a real sense that markets are shifting at the moment.
Long bonds are rising, commodities appear to have bottomed earlier this year, and questions about the efficacy of monetary policy and the shift from austerity to fiscal stimulus are exercising the minds of market players.
How the outlook is changing and what it means for asset allocation and markets is also exercising the minds of Societe Generale’s cross-asset research team who have just released their latest “Best of Investment Ideas”.
The bank believes that there is a move toward fiscal stimulus in Germany, that the outlook for emerging markets growth is improving, that the oil market is turning and there is too much pessimism globally about the outlook for inflation. That is, it is likely to be higher than many forecast.
It almost sounds like a recipe for global reflation.
As a result of that they highlight seven key calls that will drive markets in the period ahead.
Call 1 – Get ready for fiscal policy easing across the G10. SocGen says that monetary policy has been used since the GFC but now “fiscal policy has resurfaced as a way to support economic growth”.
They note the changed global politics which is driving this push and say “following years of fiscal tightening, the upcoming elections in the US and the euro area could trigger more fiscal loosening. Easier fiscal policies would reduce the scarcity of bonds and eventually weigh on bond prices.”
Call 2 – Commodities and commodity-linked currencies are about to have another up leg. The bank says the “rebalancing process between supply and demand is gaining momentum” which helps underpin prices across the sector. But the cross-asset team has a clear preference for “energy over industrial metals”, they say. They like oil and they are staying long commodity currencies as a result.
Call 3 – G10 inflation is on the rise outside of Japan. SocGen says that as oil rises over the next 12 months, so too the outlook for inflation is changing. As a result they “prefer to keep maximum exposure to inflation-linked bonds, across regions, so US, UK and Euro”. The bank also says inflation expectations are too low in the US compared to fundamentals. They also say Euro area inflation will tick higher in the next few quarters as the “impact of higher energy prices is finally expected to kick in”.
Call 4 – Emerging market assets will keep appreciating. “The economic outlook is improving for emerging markets. The gap between emerging markets’ and developed markets’ GDP growth is set to widen, a pattern that usually supports flows into emerging market assets,” the bank says.
Call 5 – The British pound will have another leg down. SocGen believes “the Brexit impact has yet to be reflected in economic data in the UK, but this will come and the British currency will suffer more”.
Call 6 – Buy Russia and Brazil. Cross asset investors are nothing if not brave with some of their calls as this one shows. And to be fair, this one is their “outsider” call. But SocGen says “Russian and Brazilian assets have already recovered along with other emerging markets since February, but we expect a second leg of performance on the back of the favourable outlook for commodity prices in the medium term and potentially large monetary easing as inflation recedes (and pending favourable fiscal developments in Brazil).”
Call 7 – Keep your tinfoil hat close and focus on portfolio protection. Even though the recommendations read like a classic global reflation outlook, both individually and collectively, SocGen highlights that they come with risks to the outlook.
Equally because “sovereign bonds in G10 appear expensive, the asset class might not offer as good portfolio protection as in the past”, the bank says. So they are holding cash and focusing on portfolio protection even with their current outlook.
Here’s the full summary of SocGen’s calls and the risks associated with each of them: