Quarterly Market Overview

As a result, a so-called ‘soft-landing’, where interest rates curtail inflation without unduly impacting economic growth, has become the consensus narrative. Supporting the better market sentiment, central banks in Q1 swung behind the rate cut outlook - Bank of England Governor Bailey confirmed that interest rate cuts are “in play” at future meetings, European Central Bank President Lagarde laid the groundwork for bringing rates down, possibly as soon as June, and the US Federal Reserve (Fed)’s ‘dot plot’ of member forecasts pointed towards a median of three quarter-percentage-point rate cuts by the end of 2024.

Given this, it is arguably not surprising that Q1 should have seen a number of equity markets hit (local currency) all-time highs, led by the US, but also including Japan and Europe. Price-to-Earnings Per Share (PE) equity valuations have seen the aggregate global picture move above the longer-term (30-year) average, as investors appeared to be confident of both margins and earnings growth looking forward. Meanwhile, the enthusiasm around Artificial Intelligence (AI) continued to play its part during the quarter, and as adoption of the technology spreads to companies throughout the wider economy, those bullish on its prospects point to the potential to structurally lift productivity, enabling companies to do more with less.

During the quarter we moved some of our equity allocation away from Asia Pacific ex-Japan equities towards US Small and Mid-Capitalised (SMID) equities. Within our Asia Pacific ex-Japan reduction, we were focused on reducing our China exposure, largely closing out our previously long-held relative overweight position to the region. While Chinese equities appear relatively attractively valued on a twelve-month forward Price-to-Earnings Per Share (PE) basis, we see this increasingly as a potential ‘value-trap’ rather than a ‘value-opportunity’. Looking back, we have always been very aware of the structural challenges facing Chinese equities, but believed that policymakers, having emerged from pandemic lockdown at the beginning of 2023, would prioritise a cyclical stimulus to dominate in the near-term. Chinese equity market performance in 2023 showed this not to be the case as modest stimulus efforts underwhelmed. As we look forward to the year ahead, increasingly it appears that China’s policy makers are focused on only slowly and pragmatically defusing the structural challenges, primarily the property market which is still navigating years of overbuilding and indebtedness – however this will take time, and the investment outlook in China could well get worse before it looks better. Adding to the uncertainty, US political elections later this year are likely to mean geopolitical tensions will not be far from investors’ minds.

Our actions to reduce our China equity exposure are the outcome of a frequent ‘kicking of the tyres’ where we seek to establish where we believe we can best use our asset allocation risk-budget (defined as where we take positions materially distinct from our industry benchmarks). Over the past year, US SMID has underperformed large-capitalised companies, and currently sits at a PE relative discount, whereas historically it has enjoyed a premium versus large capitalised indices. The US economic outlook continues to improve, borne out by the US GDP forecast upgrades from the Fed in March. Coupled with the most recent Fed Senior Loan Officer Opinion Survey suggesting a relative improvement in credit conditions, should this inflexion point in the banks’ credit lending outlook hold, we would expect a broadening-out of equity performance, which has so far been dominated by a small group of mega-cap technology firms.  

Stepping back to consider the bigger picture, as we weigh up this nuanced investment outlook, the challenge for asset allocation is how to take a calculated position so that we keep exposure towards more than one economic scenario materialising. The following pages outline how we are well-positioned, staying invested and keeping balance, as we seek to help you target your own investment goals.