The question of whether the US economy is on course for a soft landing remains unresolved, second qu...
The question of whether the US economy is on course for a soft landing remains unresolved, second quarter GDP growth was, at 5.2%, still above even optimistic assessments of a sustainable rate.
Despite this strong GDP growth, the US Federal Reserve has been content to leave rates on hold since the middle of May, when investors' concerns over inflationary pressures were at their height. Subsequent data have not confirmed these fears. Any upward drift in inflation has been due almost entirely to oil price strength.
US rate forecasts have consequently improved. Projections of money market rates in the middle of next year have dropped from 7.7% in May to 6.8% - still above current levels, but only just.
Likewise, UK interest rate forecasts have been on an improving trend, as average earnings growth has eased in recent months and the housing market has shown signs of cooling.
Here too, there are lingering suspicions that interest rates may not yet have peaked. In contrast, upward pressure on euro interest rates has, if anything, increased under the influence of improving economic growth, continuing currency weakness and a central bank that appears to be more concerned with oil-induced rises in headline inflation (now above the 2% target) than its counterparts elsewhere.
Overall, developments in the last three months have done more to confirm than to challenge the view that global growth will slow over the rest of the year and extinguish any risk of a more broadly based upturn in inflation.
Survey evidence suggests that institutional cash levels have been rising, so further evidence of a US soft landing could provide the basis for a liquidity driven rally in equity markets later in the year.
Nevertheless, we are not yet taking a more aggressive stance and are allowing cash exposure to remain marginally above average.
We have also increased fixed interest exposure to an overweight position via a further reduction in equity weightings. Our increased preference for bonds reflects in part the insurance they offer against a hard landing for the US economy, but more generally the still high level of equity earnings forecasts.
Within our equity portfolio, we have moved in a defensive direction. Exposure to Continental Europe, a region with a relatively large weighting in cyclically sensitive industries, has been cut to neutral in favour of the US and UK markets.
There has been little to choose in performance terms between the three regions: all have traded in fairly tight ranges over the last three months.
Graeme Johnston is an investment manager at Britannic Asset Management
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