- Stay overweight Australia. Australia is beginning to outperform the US and history shows this can last for at least 12 months. Furthermore, Australia tends to outperform when the US yield curve is steepening. This outperformance was absent during the early stages of the pandemic, but it now appears to be gathering momentum.
- Australia is one of the only global markets to recently see significant earnings upgrades. Our call on Australian outperformance is not just based on time periods in the economic cycle. Our model of Australian EPS growth was signaling that analysts were too bearish on the outlook. We argued that earnings growth and not multiple expansion would drive returns in equities. The upgrades to earnings growth since domestic reporting season have been larger than the other major markets and EM.
- Back in July, we argued that we were at mid-cycle and that bought with it volatility. We’re sticking to our knitting and continue to favour risk assets over defensive assets. The bond market has absorbed concerns about rising inflation and it still appears to be more focused on the recovery in growth, despite the rise in inflation. Indeed, yields should continue to grind higher in line with the improving global growth outlook, although a key risk is that supply-side efficiency can’t return to pre-COVID levels. This is a key hurdle we would like to see cleared in the months ahead before we can be more comfortable about the longer-term outlook for equities. If this plays out then the yield curve would prematurely flatten and risk asset outperformance would then be questioned.
- Japan and EM have been the laggards in the past month or so. Japanese outperformance seemed to be running on thin air back in July when we put it and EM at the back of the queue in our equity market preferences. Japan and EM have drastically underperformed in the past month. Initial Japanese EPS growth estimates are normally conservative with a sustained increase in upgrades the norm. However, since the middle of last year, the large numbers of upgrades have been absent. In EM, Turkey seems to be the only major market to see a significant increase in earnings upgrades.
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