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Clarus Capital Group

Quarterly Pulse #1 24

9. Januar 2024

Economic Outlook

Currently, the most probable economic outlook suggests a gentle landing. The Fed is leaning towards easing policy this year, despite concerns about inflation. Interest rate cuts are still a very likely possibility, especially if progress is made in lowering inflation. The Fed's projections suggest that three rate cuts are expected by the end of the year. Additionally, the Fed believes that current interest rates are still too high.


TACTICAL ASSET ALLOCATION

Liquidity Neutral
Rates Overweight
Credit Neutral
Equities Overweight
Alternative Investments Neutral

Macroeconomics

Inflation is expected to decrease in the upcoming months, with temporary factors contributing to higher-than-expected releases earlier this year. The decline in inflation is anticipated to resume, particularly due to slower growth in shelter prices. Consumer pushback against price increases and softer economic conditions should also help alleviate inflationary pressures.

Economic growth is showing signs of slowing down, with the labor market cooling off as well. Retail sales are indicating a slowdown in US growth, with the Atlanta Fed's GDP model projecting a lower growth rate for the first quarter of the year. Recent trends in the labor market, such as a rise in the unemployment rate and slower growth in average hourly earnings, further support the idea of a moderating economy.

While unemployment remains low, there's a decreased willingness among workers to switch jobs. More individuals are opting for multiple jobs, reflecting shifts in labor markets and economic pressures following subdued real wage growth. Consumer spending indicators hint that growth won't significantly deviate from the trend, but there's a growing reluctance among consumers to tolerate price hikes. Market dynamics persist in driving inflation downward across major economies.

It is anticipated that the Fed will begin cutting interest rates in the upcoming months, likely around June, as economic growth slows, and inflation decreases. The Swiss National Bank recently announced a rate cut, and other major central banks are also preparing for policy easing. This makes it an appealing time for investors to secure high yields in quality fixed income investments, potentially benefiting from capital gains if yields decline and diversifying their portfolios against risks.

Fixed Income

Q1/24 has been difficult quarter for the Fixed-Income markets. 10-year US Treasury yields rose 35 bps to 4.25% amid strong economic data, hawkish Fed-comments and profit taking after the rally in Q3/23 from 5% to 3.85%.

The strength in inflation, coming on the heels of the strong employment data, has led markets to price in a decidedly shallower path of Fed easing in 2024. Now, futures are pricing in a full 25bp cut until the July FOMC meeting. At the beginning of the year, expectations have been for a first cut of 50 bps already in May.

Year-to-date Fixed-Income Markets have not been able to meet the high expectations at the beginning of the year. Only the higher yielding sector was able to end with a positive return (+1-2%).

Nevertheless, we think that current yield levels are rather toppish and fairly priced. We still believe that rate cuts will follow, although to a lesser extent. With yields near the top of their 3-month ranges and positioning more neutral we reiterate our overweight in rates and like maturities from 5 to 7 years. Current coupons should compensate for the wrong timing on interest rate cuts. More patience is needed. Although “the higher for longer” scenario made back some ground over the last month, we think that yields are going to be lower by the end of the year.  

In credit we stick to Investment Grade bonds as we don’t think that current spread levels in High Yield and Emerging Markets are attractive. Sure, risk-on sentiment is still dominating and helping spreads to perform but once the party comes to an end, this will be the first sectors to underperform.

Despite Investment-grade companies have issued a record $560 bn in new bonds year-to-date, which is the largest volume not seen for the last 30 years, spreads were able to perform. It’s the absolute level of yields which attracts investors demand and not only the credit premium. 

Although interest rate cut expectations have weakened, we believe that current levels of around 5% are attractive for solid corporate bonds.


EQUITY INDICATORS

Valuation Neutral
Momentum Positive
Seasonality Positive
Macro Negative

Equities

March was also a good month for equity investors. After a subdued start, the combination of encouraging economic data and largely dovish comments from the world's major central banks led to a strong rise in the second half of the month. International investors who invest in the CHF received an additional tailwind from its broad devaluation. Regional winners included Europe and, once again, Japan. In the sector universe, real estate barely benefited from the fall in bond yields. By contrast, the cyclically sensitive energy and basic materials sectors were in demand.

Compared to the MSCI World, equities in the Eurozone and the United Kingdom have performed significantly worse since March last year. Among other things, the latter suffered from the fact that the commodities boom from 2022 did not continue and defensive sectors were less in demand than cyclical sectors. This was compounded by weak economic momentum compared to the USA. A circumstance that also weighed on the Eurozone equity market. While profit expectations for the UK slowly declined in line with commodity prices, they remained at such high levels for the Eurozone that companies were barely able to meet them due to the weak economic trend. Accordingly, the disappointments in the reporting season were also greater than in the USA, which led to a significant reduction in the P/E ratio. However, earnings optimism now seems to be fading, as earnings growth expectations are bucking the global trend and losing momentum. This creates the potential for positive surprises in the coming weeks. This is because the leading economic indicators suggest a turn for the better, not only in absolute terms but also in comparison to other regions. If the signs of an economic recovery become more pronounced, investor confidence is likely to return, which usually results in an initial increase in valuations and a delayed recovery in earnings growth expectations.

We continue to regard US equity markets as attractive, even though their valuation, measured by the P/E ratio, has been significantly higher than that of other markets for some time. Earnings growth expectations are relatively modest, but not unrealistic given the robust economy to date and the profitability of technology-related sectors. The Fed's first interest rate cut, which analysts expect in July, should also provide some relief on the valuation side. In this respect, our assessments of the Eurozone and the US differ in that there is a realistic chance of improvement for the former, while the latter should outperform due to its fundamental strength. Hence, we continue to overweight equity markets, i.e. the US tech sector which should be very supportive for the US broad based markets. Regionally speaking, we also continue to favor US over European equity markets, while the latter is catching up.

Alternative Investments

OPEC+ has decided to continue with their voluntary production cuts, which has helped support oil prices as demand has been stronger than expected. The market is expected to remain undersupplied until the end of June.

In the base metals sector, supply shortages and low inventories are likely to drive prices higher this year despite volatility in the near term. Gold prices have reached a new record high, with central bank demand and potential rate cuts by the Fed expected to further boost prices. Consensus Year-end target for gold remains at USD 2,250/oz

The Bitcoin spot ETFs caused a sensation in the cryptocurrency world during the first quarter of 2024. Not only did they provide real institutional access to physical Bitcoin, but they also generated unprecedented demand. With a consistent $500 million to $1 billion of Bitcoin being bought daily through the spot ETFs, the market was able to shake off the struggles of the past two years and enter a period of speculative excitement. The exuberance seen in Q1 2024 suggests that the next quarter will be challenging.

Many anticipate that Bitcoin will continue to reach new highs, especially following the Bitcoin halving in April. There is also a great deal of anticipation surrounding the potential approval of an Ethereum spot ETF, which could lead to a repeat of the frenzy seen in Q1, but with even greater enthusiasm. The question on everyone's mind is whether Bitcoin will surpass $100,000 by June.

Clarus Capital Group

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