Having been overweight equities for most of 1999, we have become more cautious on the outlook for gl...
Having been overweight equities for most of 1999, we have become more cautious on the outlook for global equity markets.
There were strong share price gains during the fourth quarter of 1999. The US economy shows only limited evidence that consumers are responding to tighter monetary conditions. The question now is what it will take to slow the US economy.
We think that the higher level of bond yields will help slow activity and that higher oil prices should act as a tax on the consumer. But the labour market is tight and the momentum behind domestic demand will be difficult to slow. We therefore expect another 0.5% of interest rate rises by the Fed in 2000. On top of this, capital inflows into the US have helped to finance a growing current account deficit. If there is a perception that better returns can be achieved elsewhere, then these flows could recede, thus undermining financial markets.
Elsewhere around the globe economic activity is also strong. In Asia, the evidence is of an even greater recovery in activity than was initially expected. We expect to see continued above-trend growth in 2000.
In continental Europe, higher than expected export levels have fuelled an acceleration in domestic growth. We are also taking a more optimistic view than consensus on the prospects for economic growth in Japan this year. We think that confidence will continue to improve and result in a self-sustained recovery in the coming year.
The UK market also firmed at the end of last year, but was mainly helped by the international background. We expect UK equities to put in a neutral performance.
Against the background of stronger global economic growth, the main concern facing investors is inflation, where fears have intensified in the face of sharp rises seen in oil and commodity prices. Whether low inflation continues or proves to be unsustainable will depend on whether the global output gap closes, and the speed with which it closes.
On the longer-term outlook for inflation, we continue to believe that secular disinflation will continue, even if we do see a cyclical pick-up in the short-term.
Monetary tightening in the US, designed to combat the high rates of growth, could well be to the benefit of bonds, especially when much of this tightening and inflation danger has already been discounted. We expect international bond yields to fall in the coming year.
Against this background, we are neutral on equities, overweight bonds and underweight cash. Within equity markets we are underweight US and UK equities and overweight European, Japanese and Pacific equity markets. Within bond markets we prefer UK bonds, and US Treasury Inflation Protected Securities (TIPS) which offer a 4% real yield.
Adrian Wallwork is investment manager at AXA Investment Managers
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