A year of fragmented paths and prospects
Marketing Communication
For anyone watching markets, the conversation is still focused on inflation, central banks’ response to it, and the outlook for economic growth. A ‘year of fragmentation’ is how 2024 has been described as these paths and prospects vary across the world.
Disinflation, which means prices are still rising but at a slower pace, is unfolding at an uneven rate, and there have been several surprises. The Eurozone looks to be ahead in the process compared to the US, creating a disinflationary divergence. However, uncertainty over when the European Central Bank (ECB) and the US Federal Reserve (Fed), cut rates remains the name of the game. There is also uncertainty about the number of rate cuts that major central banks might initiate in 2024, though there is consensus now that there will be fewer than initially expected.
Underscoring this fragmentation, Japan’s policymakers raised rates for the first time since 2007 earlier this year1, while inflation dynamics have improved in many emerging markets (EM) economies. However, a strong US dollar has hampered EM performance in recent months.
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Uncertainty over when the European Central Bank and the US Federal Reserve cut rates remains the name of the game
Valuations in the US stock market remain high in 2024 compared to Europe (which may bring opportunities in European equities), with the American economy proving defiant despite predictions of a downturn. The S&P 500 Index delivered outstanding returns in 2023 thanks to the ‘Magnificent Seven’2, a trend that has continued in 2024. This, however, brings with it concentration risk3.
After decades of anaemic growth, the Japanese stock market has roared back to life, outperforming all other major equity indices.
Exports and consumer spending, supported by stronger wages and softer inflation dynamics, have propelled above-trend growth. A weaker yen is also favourable to international investors.
Local equities have regained international investors’ favour on the back of resilient earnings, attractive valuations and regulatory steps to improve corporate governance.
The Tokyo Stock Exchange has set out to improve profitability of Japanese companies with a series of reforms. Japanese firms have also stepped up share buybacks4 and dividend distribution.
With a likely deceleration in the US economy in the second half of the year, bonds could serve as a potential diversifier5 given stretched valuations on equities. However, uncertainty over the timing of a potential rate cut is an important consideration. This is partly due to bonds’ interest rate sensitivity, which measures how much a bond's price will fluctuate as a result of interest rate changes, potentially leading to assets losing or gaining value.
Still, high-quality fixed income could offer investors potential opportunities. In corporate credit, investment grade (IG) – which traditionally carries the lowest risk – has historically performed well in the economic phase following peak interest rates. Although fundamentals6 remain strong for IG, default rates in low-rated credit (see chart) are rising, particularly in the US. In an uncertain economic environment, investors may wish to consider the relative quality of DM government debt, in particular US Treasuries. An ECB rate cut would prove supportive to European government bonds and corporate IG.
GEM= Global Emerging MarketsSource: BofA, analysis by Amundi Investment Institute, as at 10 April 2024. Past performance is no guarantee of future results.
Source: Amundi Investment Institute, Moody's Investor Service, latest available as at 26 March 2024. 12m rolling data.
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Investors should consider the impact that uncertainty might have on market performance. The current disinflationary divergence could bring with it certain opportunities, but also risks. Remember, before investing, investors should consider their attitude to risk as well as their investment goals and time horizons, so that your portfolio allocations match the investment pathways available.____________________________________________
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1 Source: BBC news, available at https://www.bbc.com/news/business-68594141, as at 31 March.2 The Magnificent Seven refers to the top mega-cap tech stocks: Alphabet, Amazon.com, Apple Inc, Meta Platforms, Microsoft Corp, NVIDIA and Tesla.3 This is the risk of potential losses on a single large investment in a particular market.4 Share buybacks take place when a company repurchases its own shares from shareholders, thus returning money to investors.5 Diversification does not guarantee a profit or protect against a loss.6 Corporate fundamentals include a company’s earnings, profitability, share price etc.
