Cross Asset Investment Strategy - September 2022

While a global recession may be avoided, we are likely to see growth deceleration and high inflation (higher cost of living) along with regional divergences. Thus, investors should consider moving to a more cautious stance on equities particularly in Europe, but retain preference for US and for China, although to a lower extent on China. In FI, government bonds are becoming more appealing but investors should stay active and in credit there is a need to focus on high quality debt and on liquidity risks. Overall, this is a time to keep a cautious view, and stay vigilant and well diversified.

The origins of inflation are not always well understood. While some economists had warned of impending inflation as early as last year, few had anticipated the dramatic shift in spending from services to goods and the effects of such a shift. The fact that inflation expectations remain subdued is likely due to rational inattention. In the absence of monetary tightening, we believe that inflation expectations would inevitably get de-anchored.

The Q2 earnings season was again stronger than expected and contributed to the equity market rally up to mid-August. However, the results are of ‘low quality’ and are not a reason to turn bullish on equities. Ultimately, margins coming down from very high levels should drive the earnings downturn in our view.

Russia’s recent invasion of Ukraine has focused investors’ minds on the Taiwan issue and the People’s Republic of China’s potential approach to it. We believe that the risk of war remains low.

LatAm’s dramatic elections calendar that landed three leftist presidents in the Andean region might be two-thirds over, but the political and policy uncertainty created by these election results is far from it. Chile and Colombia are expanding the size and role of the state, while intense political and macro conditions have forced yet another and a big-time government reshuffle in Peru and Argentina, respectively. In Brazil, which has yet to hold elections, Lula leads Bolsonaro comfortably, but the gap has been narrowing there as well.

We keep the same probabilities for the three families of risks. We see risks growing on all fronts, closely linked to each other. Economic fundamentals are deteriorating globally (which is reflected in the central scenario). The course of the war in Ukraine and its potential implications can tip the scenario in either direction. We consider Covid-related risks (including lockdowns in China) as part of the economic risks. Risks are clustered to ease the detection of hedging strategies, but they are obviously related.

Macroeconomic Picture by area and Macro and Market forecast.