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WEALTHIFY’S INVESTMENT OUTLOOK Q4 2024
DIVERSIFICATION REMAINS KEY AS UNCERTAINTY PREVAILS
A patient and diversified approach is key to increasing potential returns. Interest rate cuts have been welcomed by markets, but risks to both inflation and the labour market remain.
Developed market economies continue to be more robust than expected under the pressure of restrictive interest rates. At the centre of global economic resilience is the US, which grew by 3.0% in Q2 2024. But signs of weakness have begun to creep in, and the focus has shifted from inflationary pressures to labour market softness.
This prompted a historic 50bps interest rate cut (0.5%) from the US Federal Reserve (the Fed) on September 18th. Despite a slowing economy, the market and the Fed remain confident in engineering a soft landing; where growth and inflation cool without a more severe downturn in consumer spending and the labour market. However, we remain more sceptical of the probability of this “Goldilocks” outcome (when the economy grows steadily enough to provide ‘just right’ conditions; preventing a recession while keeping inflation relatively low) and are more focused on protecting your capital.
As such, we continue to prefer interest rate-sensitive assets such as duration bonds, infrastructure, and property which have benefitted strongly from the rapid decrease in interest rate expectations, while providing insurance against a more negative-than-expected outcome over the next 12 months. As always, we remain ready to deploy capital into shares, but remain acutely aware of the risks of purchasing at what appears to be a mixture of rich valuations and uncertain economic fundamentals depending on which region or country one is looking at.
More specifically, we continue to favour UK shares from both a defensive and valuation basis. The UK’s FTSE 100 is filled with defensive and attractively valued global companies, while our exposure to the FTSE 250 is equally well valued; offering a defensive position, as well as the potential for significant outperformance if the UK economy performs better than expected (as it has done for much of this year). There are risks, but we remain long-term investors and continue to see the UK as a desirable destination for our customers’ capital. The UK economy’s resilience is notable, but so too is still sticky inflation from services. This is not just a UK problem, and is apparent in Europe and the US. We think there remains upside risks to inflation, including those emanating from a crucial vote in November that will decide the next US President and how fiscal policy will be calibrated.
The focus in 2024 for developed economies has shifted between inflation and growth, but is now firmly on growth given the trend of cooling we have seen. The labour market will be pivotal to how this unfolds. Jobs create incomes, and in turn, incomes create spending. We continue to think carefully about the downside risks of being too optimistic on the ‘soft-landing’. All historic precedents indicate that monetary policy would have to be calibrated perfectly to achieve this. What history shows us is that economic drivers gather momentum to both the upside and the downside — and that markets can become myopic and misled in complacent near-term optimism.
Protect capital while seeking opportunities
While inflation appears to have peaked, stubbornness in the service sector remains a concern. Central banks across the globe have begun to lower interest rates, which runs the risk of a potential resurgence of inflation.
We have favoured more established share markets as a defence against riskier ones, while favouring high-quality government bonds. We have also maintained a healthy allocation to alternative assets, which broaden the diversification of your Investment Plans.
We remain ready to take advantage of appealing pricing opportunities as and when they present themselves, but we are also conscious of protecting your Plans against losses.
Top risks
- Global Recession: Despite cuts, rates remain restrictive, and there remains a material risk of a greater-than-expected economic and corporate profit downturn.
- Debt Crises: Geopolitics, high inflation, and fiscal policy errors increase the risk of credit downgrades and crises fuelled by debt sustainability concerns.
- Geopolitical Crises: Ongoing crises in the Middle East and Ukraine are risks to supply chains and oil prices, and in turn, inflation.
- Stagflation: A resurgence of, or stickier-than-expected inflation is a concern given that rates are on the way down while services inflation remains elevated. Much hinges on continued goods disinflation which may prove to be volatile.
- China: Regulatory crackdowns and property market troubles remain an issue. Relations with the US remain an ongoing threat to the global economy.
- Climate Change: Increasingly disruptive impacts on economic activity and supply chains are a threat to growth and may drive further inflation.
INVESTMENT OUTLOOK TABLE Q4 2024
Outlook Key
| Shares | Outlook | Rationale |
|---|---|---|
| Region | Current Quarter | Why the outlook is what it is |
| United Kingdom |
Both large and small UK companies generate significant amounts of their earnings offshore and are historically cheap. Low valuations and defensive qualities are favourable in a slowing economy.
|
|
| United States |
US equities offer access to more resilient, diversified, and defensive business models and sectors. However, valuations have continued to expand, which has lowered their potential return (meaning we’ve moved from positive to neutral).
|
|
| Europe ex United Kingdom |
Restrictive rates and energy risks remain a threat to the region’s economic growth, which we’re beginning to see in the economic data. We don’t think the risk of a deeper downturn is currently priced in.
|
|
| Japan |
Japan’s economic environment has shown signs of improvement. Easy monetary policy has also seen a strong devaluation in the yen. The possibility of a sustained recovery is decent and, with a severely devalued yen, we’re mildly positive.
|
|
| Emerging Markets |
While Emerging Markets are likely to suffer more in the event of a global recession, they currently trade on attractive valuations.
|
|
| Asia Pacific ex Japan |
China remains central to the investment case for this region. While governance, geopolitical concerns and property market woes are a negative, we see a possible rebound in asset prices given cheap valuations.
|
|
| Shares Total |
|
We are cyclically underweighting shares due to the potential for 'greater-than-expected' earnings disappointments as a result of a deteriorating economic outlook.
|
Total
We are cyclically underweighting shares due to the potential for 'greater-than-expected' earnings disappointments as a result of a deteriorating economic outlook.
| Fixed Income | ||
|---|---|---|
| Government Bonds | Outlook | Rationale |
| Region | Current Quarter | Why the outlook is what it is |
| United Kingdom |
UK government bonds (gilts) have been through a sustained period of negative performance, as rates increased rapidly on the back of soaring inflation. With much of the rate hiking cycle behind us, gilts offer appealing upside potential with low downside risk.
|
|
| United States |
US government bond yields have increased dramatically over the past year. We think they offer desirable upside potential and protection in the case of a recession. With much of the rate hiking cycle behind us, little downside risk remains.
|
|
| Europe ex United Kingdom |
We remain neutral as we continue to monitor the outlook for this asset class. This is against a very uncertain geopolitical and economic backdrop, where strong European Central Bank (ECB) interest rate hikes have increased the risk of policy error.
|
|
| Japan |
Japanese bonds offer little income and remain severely distorted due to the Bank of Japan’s (BoJ) “Yield Curve Control” programme. While the BoJ might alter this program, there is little expectation for significant medium-term change.
|
|
| Emerging Markets |
While Emerging Markets government bonds offer a strong yield premium compared to Developed Markets, we remain slightly negative given the potential for a global recession (which would see a flight to safety to developed markets such as the US).
|
|
| Corporate Credit | Outlook | Rationale |
| Region | Current Quarter | Why the outlook is what it is |
| United Kingdom |
We are cautious on UK investment grade credit owing to tight spreads’ relative history and UK GILTs.
|
|
| United States |
Our outlook for US investment grade credit has dimmed somewhat, as valuations have fallen dramatically below long-term averages.
|
|
| Europe ex United Kingdom |
We remain negative on European credit as a result of the many remaining risks, such as high inflation, weak growth, and geopolitical tensions.
|
|
| Japan |
Like Japanese government bonds, Japanese corporate bond prices offer very little income and are therefore uninviting.
|
|
| Fixed Income Total |
|
We are positive on bonds due to the improved yield environment and defensive nature of them in a slowing and negative economic environment. We prefer government bonds over corporate bonds, which offer very little yield enhancement.
|
Total
We are positive on bonds due to the improved yield environment and defensive nature of them in a slowing and negative economic environment. We prefer government bonds over corporate bonds, which offer very little yield enhancement.
| Alternatives | Outlook | Rationale |
|---|---|---|
| Region | Current Quarter | Why the outlook is what it is |
| Environmental |
Companies focussed on reducing their environmental impact often have a competitive advantage due to greater resource efficiency, leading to lower costs. They may also experience lower downside risks, due to more robust corporate governance and better management teams.
|
|
| Global Real Estate |
Global real estate offers attractive value, underpinned by improved rental income streams and high interest rates. Recent troubles in the banking sector, however, mean caution is needed.
|
|
| Global Infrastructure |
The long-term outlook for Global Infrastructure remains positive, with a global need for advancement and investment. The asset class also offers exposure to stable revenue streams, which make it defensive in nature.
|
|
| Alternatives Total |
|
We are positive on alternatives over the long term.
|
Total
We are positive on alternatives over the long term.
Investment Table last updated 18/10/2024
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