Update Investment Strategy

Past the peak

Publication date: 28 July 2021

At its most recent meeting, the ABN AMRO Global Investment Committee left its asset allocation unchanged. Even though economic growth and earnings momentum have moved beyond peak levels, economic conditions, central bank policies and the market environment remain supportive for risky assets such as equities.

 

In the past few months, the successful roll-out of vaccination programmes enabled governments of many developed countries to lift most of the lockdown measures. Economies have been reopened, leading to a strong economic rebound and a surge in corporate earnings growth.

The rapid spread of the Delta variant of Covid-19, however, has led to a renewed tightening of restrictions in some countries. Although this implies a slight delay in the reopening process, we do not expect the spread of the Delta variant to pose a significant threat to the outlook for the eurozone and US economies. Due to high vaccination rates, the link between new virus cases and hospitalisations has been severely weakened. We therefore expect governments not to reimpose significant lockdown measures. As such, the economic impact of new restrictions should be very limited in developed countries.

Economic growth to remain strong

That said, the pace of the economic recovery appears to be slowing somewhat. We believe this is a healthy development, as it prevents the economy from overheating. We expect economic growth to remain strong in the coming quarters. With regard to inflation: although we need to monitor inflation risks carefully, we consider the recent rise in inflation to be transitory. Inflationary developments do currently not reflect a generalised rise in prices, in our view. Instead, inflation seems to be centred around a few areas within the economy that were hit particularly hard by the pandemic and are now catching up.

Given our view that the recent rise in inflation is temporary, we do not expect the major central banks to tighten their monetary policies anytime soon. We expect central banks to maintain an accommodative stance in the foreseeable future, as they do not want to derail the economic recovery.

Bond yields decreased in second quarter

Bond markets seem to have bought into the idea of ‘transitory inflation’ as well, sending bond yields lower during the second quarter. We expect bond yields to move generally sideways in the coming months, and for credit spreads to remain stable. We continue to be confident regarding our overweight in investment-grade corporate bonds and riskier fixed income segments at this point in time.

Equity markets could rise further

With regard to the economic recovery and the acceleration of earnings growth, we are likely past the peak now. However, we expect earnings growth to continue in the coming months, albeit at a slower pace. For equity markets, further gains could be in the offing – even though returns may be lower compared to the first half of this year. In addition, the so-called equity risk premium, which compares equities to bonds, continues to provide a more supportive outlook for equities in the current low-interest-rate environment.

Conclusion

Even though the post-pandemic rebound is losing some steam, we believe there are sufficient factors supporting risky assets. Against a backdrop of continued economic growth above trend, ongoing support from central banks, and low interest rates, we maintain our preference for equities (overweight) over bonds (underweight).

Richard de Groot
Head of ABN AMRO Investment Committee

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