Converging Expectations

Also Interesting

• Global Macro Funds’ Disconnect Coming to an End
• Focus on Europe
• Global Economic Outlook

In February, concerns about inflation caused a partial reversal of gains in the stock and bond markets, leading to a convergence between risky and risk-off assets. Strong US jobs and retail sales data, along with higher-than-expected inflation reports, led to the unwinding of the recessionary rate-cutting cycle previously priced for 2H23, and instead, further rate hikes are expected through the end of 2023. This has discounted a recession and looks towards ongoing economic strength. The hedge fund allocation was able to shelter portfolios from the back-up in interest rates and drawdown in equities, benefiting from the anticipated volatility.

As markets continue to reprice growth and inflation expectations, a cautious stance is taken on equities due to the deteriorating earnings picture and rising real interest rates in the US and potentially in Europe. However, this repricing may provide tactical opportunities for agile investors to exploit. A tug of war between growth, inflation, and policies is already unfolding in the Euro area, where rebounding PMIs suggest that earnings expectations can stabilize, moderated by the headwinds posed by rising ECB rates. The prospect of upside surprises to policy rates and inflation in Europe leaves opportunities to add to long EURUSD positions looking ahead, despite the stalling of the US dollar bear market in February due to upside surprises to growth and inflation.