Mid-Year Investment Outlook 2018 - June 2018 - HSBC Global Asset Management ...
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Mid-Year Investment Outlook 2018 June 2018 This commentary provides a high level overview of the recent economic environment and our outlook, and is for information purposes only. This is a non- contractual document. It is a marketing communication and does not constitute investment advice or a recommendation to any reader of this content to buy or sell investments nor should it be regarded as investment research. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of its dissemination. This document can be distributed to non-professional investors as defined by the Markets in Financial Instruments Directive.
What’s happened so far in markets and the economy?
Financial markets have been changing in 2018:
In 2018, financial markets have been volatile again
2018 began with very strong returns for risk assets like equities, but about-faced in February.
Total returns1 are around zero for global equities, and are low or even negative for many bonds.
1 Total returns include capital gains and income.
We entered 2018 with a combination of synchronised global growth, low inflation and low volatility, but
since February there have been four negative shocks for financial markets:
US inflation has been There have been Globally, economic Because of these
faster than expected. concerns around growth has slowed growth and inflation
This economic scare trade agreements down a bit, and it trends, the US dollar
caused weakness in (the US announcing has slowed down has gained against
both bonds and trade tariffs created more than markets other currencies.
equities in February. tensions with China, expected. What is This is a headwind
In the second quarter, Europe and other new is that different for emerging
the same perceived trading partners). regions are growing markets, and
risk of stronger US There have also been at different paces. investors are worried
inflation impacted risk political tensions in This is a change that dollar strength
assets and emerging Europe and Asia, from 2017, where will continue,
markets. leading to market the whole world was destabilising
volatility. “in synch”. emerging market
economies.
1
What is happening now and what does it mean for markets?
Divergence in economic growth
US growth remains the strongest and the economy risks overheating.
Other developed markets are slowing down, although less so recently.
Most emerging markets continue to be in the “sweet spot” of good growth and relatively low inflation.
Divergence in inflation
Inflation is stronger in North America and lower in Europe and Japan.
Generally inflation is low in emerging markets.
Divergence in central bank policies
The US Federal Reserve is ready to raise interest rates further, while other developed market central banks are softening
their policy plans.
There is policy divergence across emerging markets too: China is balancing policy to reduce debt but still support growth,
while most (but not all) other emerging markets don’t need to raise interest rates.
What does it mean for our investment views?
We think US government bonds are now offering better potential returns than they have been for a long time, especially two-
year bonds. Elsewhere, we continue to like risk assets, but with a very careful selection. It is a complex and changing
environment, and we need to watch the risks and adjust our investments on an ongoing basis.
What are the biggest risks looking forward?
With the key themes of US inflation Other important risks are linked to Investing is not without risk, and
and divergence between current concerns around politics the value of investments can go
economies, the main risk to and trade agreements. down as well as up. In the current
financial markets in the coming And because the environment is environment, several possible risks
months is of an inflation shock in quite complex just now, there is stand out in particular. As always,
the US. That would cause a also a risk of a major central bank the key thing will be to take an
steeper rise in interest rates, with a making a policy error. active approach to our asset
knock-on effect on the world’s allocation strategies.
economies.
2
Emerging markets are Multi-asset outlook
still in the economic
“sweet spot” Investors have experienced a more volatile – and perhaps a “more normal” – phase
in financial markets during 2018 so far.
After the “in synch” global growth we saw in 2017, the economic situation in 2018 is
more diverse. Some economies, such as the US, are seeing good growth, rising
inflation, and the prospect of interest rate rises in the near term. Other economies
(such as Europe and Japan) are experiencing weaker growth and low inflation.
What does this mean for government bonds?
This economic backdrop, plus recent moves in government bond yields, means that
the outlook has become a bit more complicated.
We think US government bonds are now offering better potential returns than they
have been for a long time, especially two-year bonds.
In contrast, bonds in other developed markets offer unattractive returns. And we
continue to have underweight positions in many government bond markets in our
multi-asset portfolios.
What is our view on risk assets?
Prospective returns have improved a little for corporate bonds. But given the
complex outlook, we feel that there are better opportunities for our multi-asset
portfolios in other asset classes.
Instead, we continue to prefer parts of global equities, emerging market equities, and
emerging market government bonds (in local currency).
Will the dollar continue to rise?
The dollar strength is linked to recent economic divergence between countries. This
has been a headwind for emerging markets.
We believe that economic divergence is going to continue through the rest of 2018,
so some further dollar strength is still likely from here, albeit not as dramatic as what
we have recently seen. The one risk that could change this scenario is if we see
faster-than-expected US inflation and interest rate rises.
And what about emerging markets?
Many emerging economies continue to be in a “sweet spot” of good growth and low
inflation. After some recent market weakness, we think emerging market asset
classes are beginning to look very interesting.
Further strength in the dollar remains a key risk, so we need to track the economic
outlook closely, and also be selective in emerging markets.
Overall, in the current environment, full of volatility and complexity, it will be crucial to
be selective and dynamic in managing our portfolios.
Joseph Little
Global Chief Strategist
HSBC Global Asset Management
3
Asia remains one of Equities outlook
our top picks in 2018
What happened so far in 2018?
Global equities have been more or less flat in the first five months of 2018, as
investors became more concerned about the changes in the macroeconomic
environment, and about rising geopolitical risks including trade tensions between the
US and China.
But the good news is that the fundamental factors that have supported equity
markets last year are still in place. Valuations are still very attractive, particularly for
select emerging market equities, and for some markets that only showed signs of
picking up in the second half of 2017, such as Japan and Europe (after protecting
against potential currency risks for these).
How do we see the rest of the year for equities?
Current valuations show that investors have not taken into account any significant
earnings growth in the short term for many of the key global equity markets. However,
we expect corporate profits to continue improving in the medium term. To us, this
means equities in many major markets are still relatively inexpensive. They are also
backed by solid fundamentals, and this allows us to have a positive outlook on global
equities for the rest of 2018.
Asia remains one of our top picks in 2018 as we are seeing healthy growth in
corporate profits across sectors and markets in the region. Developing markets such
as India and China are experiencing a surge in earnings growth2 (15% to 19%),
alongside relatively high GDP growth.
At the same time, even a more developed market such as South Korea is expected
to see 12% growth in corporate profits2 in 2018. In our view, the Asian equity market
(excluding Japan) is substantially cheaper than its global peers, and also gives us
exposure to higher earnings growth.
Emerging markets have been very volatile this year. As an equity
investor, what is your view?
In recent weeks emerging-market equities have fallen, but we think there are a
number of reasons for us to maintain our positive view, particularly with valuations
looking more attractive after the market correction.
There are a number of specific risks, but growth is still solid in many emerging-
market countries, and fundamentals (like current account balances) have
significantly improved in recent years, so emerging markets are now better able to
weather external shocks.
There are many differences across the emerging-market universe, so being selective
is key to investing in emerging-market equities. Asia is very different from Latin
America, for example, and from one Asian country to another there are also big
distinctions. But overall, we think Asian equities benefit from a supportive
environment compared to most other emerging markets, in addition to more
attractive valuations and higher potential earnings growth.
Bill Maldonado
Global CIO Equities
HSBC Global Asset Management
2 Bloomberg, MSCI, data as of 31 January 2018. EPS forecast and forward P/E pertain to the respective MSCI index for each region. 4
Any forecast, projection or target contained is for information purposes only and is not guaranteed in any way.
We continue to like Bonds outlook
emerging market
bonds What has happened in the main government bond markets in 2018?
This year, bond markets have been impacted by the two economies that influence
them the most: the US and Germany. In those countries, full employment and the
risk of faster inflation have opened the door to interest-rate rises.
This made bond yields rise (meaning prices fell) in US and German government
bonds, but also investment-grade corporate bonds (i.e. those with the best credit
rating), especially in the US.
And green finance is What has this meant for other bond markets?
becoming a key trend Since the end of January, investors have been more risk-averse, making yields rise
(meaning bond prices fell) on government bonds first, before impacting corporate
bonds and, finally, emerging market bonds in May.
The political uncertainty in Italy also contributed to the volatility in bond markets,
most of which have posted flat or negative performance year to date.
How do we see the rest of the year for bonds?
Our expectations for developed-market government bonds aren’t radically
pessimistic. For example, we think US Treasuries are improving, and that 2-year US
Treasury Bonds are at their “fair value”. But there is a risk of interest rates rising,
especially in the US and Europe, and we prefer other types of bonds.
We continue to like emerging market bonds, and higher-yielding bonds like US high-
yield corporate bonds. We think emerging market bonds will perform reasonably well
thanks to strong economies, especially if the US dollar doesn’t rise much more
(which is what we expect). However, there are many differences between countries,
and performance will also depend on whether the bonds are denominated in US
dollars or in local currency. It will be extremely important to be selective.
What are the other key trends and risks that we are thinking about?
We think green finance is becoming a key long-term trend, and that we need to
adjust our allocations now, before everyone else does and it becomes more
expensive. Green bonds and ESG (environmental, social and governance) related
bonds therefore also have our preference, again with careful selection.
The main risk for our bonds outlook will be if inflation takes off more strongly in the
US and the Federal Reserve raises interest rates faster than the markets expect.
This could cause bond values to fall.
Xavier Baraton
Global CIO Fixed Income
HSBC Global Asset Management
5
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