As the days get shorter and the temperature drops, it is time to hygge – head inside, light some candles and snuggle up. This Danish verb (pronounced WHO-guh) has no English equivalent but describes an environment where amid the warm glow of firelight one is cozy, content and connected.
Similarly, while the growth phase is well worn in, and arguably fall approaches the economic cycle, there is still abundant opportunity for another leg up in equities and a bit of comfort despite the brewing future economic challenges. We are optimistic about the economy and the market over the next few quarters, but that is not to say that we won’t experience numerous bouts of market gyrations along the way. The corporate fundamentals are robust and the global economy, led by the US, is still putting up some solid numbers. We expect this economic growth trend to slow but remain positive. There are very few recession signals in the one-year time horizon.
The recent outperformance by the US, both economically and in the stock market, has stretched US valuations and brought us to a point where non-US companies are poised for growth and outperformance. This is positive. The bifurcation of the US vs. the rest of the world sits atop a bed of healthy global trade (notwithstanding the headline-grabbing trade spats), solid economic growth and weaker non-US currencies. This is supportive of what are now very attractively valued global corporations, as well as our portfolio positioning. Furthermore, concerns about emerging market contagion have lessened and investment fund flows have started to turn away from the US and into the global markets.
On the negative side, any whiff of higher-than-expected inflation or growth could result in a risk-off phase if the US dollar appreciates and equities sell off at the same time that bond yields are pushed higher. Likewise, heightened global trade tensions would again dampen economic and market optimism. Thus, our big three risks remain:
Our base case scenario is one where gradually rising bond yields are coupled with healthy (not too-hot) inflation, strong economic growth and resilient corporate earnings that can withstand slightly higher interest rates.
Overall, we remain constructive on global growth and therefore equities which we are slightly overweight. We reviewed our emerging market investment thesis and although early, we still see material upside potential. We have maintained our underweight to Canada, as regardless of the new USMCA agreement, numerous structural and cyclical headwinds remain. Similarly, bonds remain expensive and thus we have kept our lower-than-target position and short duration bias as this sector goes through the lengthy process of repricing. Preferred shares continue to offer good value and provide excellent cashflows for the portfolio’s income and capital preservation segment.