Lift Protection – Downside Risks Are Rising

Key Points:

• During the past few weeks, some large cracks have begun to open in the US economic fortress. We have seen this several times during the past couple of years, but this time warrants some risk management.

• Recession indicators remain mixed. But pandemic era economic support has eased, savings has been exhausted and the US labour market is softening.

• The reason for cutting rates is shifting from a better inflation backdrop to defending growth. But the direction on rates is clear unlike the direction for risk assets.  We increase our overweight in duration (sovereign bonds and infrastructure) and move overweight property. We also shift US IG credit back to neutral.

• In equities, we increase our underweight by reducing allocations across the board. Australia and Europe are our most preferred markets.  The US, EM and Japan are our least preferred markets.

• The rotation from goods to services helped prop up the economy in 2022 and 2023 when interest rates were rising, but this rotation is mostly complete.

• Policy has been at peak levels for nearly 12 months. In previous periods of soft growth, rates were still rising.