Financial Markets

Rising stock prices and improving economic data have us re-examining our bearish thesis, but we still see deterioration in leading labor market indicators and expect it will eventually culminate in a recession. We reiterate our defensive investment recommendations.

This week, we cover the main questions we fielded during our latest client trip in Europe. Among the many topics broached are Europe’s recession odds, the impact of China’s stimulus, and the outlook for European markets.

Our Q3 portfolio was defensive, which we believe will be the appropriate stance in the next six-to-twelve months. Data coming out of the US has remained robust which could cause US bond yields to temporarily overshoot. An overshoot in US bond yields will be an opportunity to dial up the portfolio’s defensive tilt. The average decline in 10-year Treasury yields 12 months after the first Fed rate cut is 100 bps. This time should be no different. There are not many changes to this quarter’s portfolio allocation. We have upgraded UK gilts to overweight and downgraded European credit to underweight. Portfolio duration remains the same. In terms of future changes, we are generally watching the trend in inflation given many central banks are delivering jumbo rate cuts. Any pause in the disinflationary trend we have seen will send bond yields soaring. This is a risk to our view. Otherwise, a recession in the first half of 2025 will cement our long duration stance.

The US election underscores three long-term trends of Generational Change, Peak Polarization, and Limited Big Government. Investors should expect more volatility around the election and should assess the results before adding more risk. While we predicted the October surprise from the Middle East, more surprises are coming before the final vote is cast.