Weekly View - Against all odds
Last week’s successful passing of a USD1.9 trn fiscal package by Congress was a nod to president Joe Biden’s diplomatic credibility as acquired through his extensive experience in US policy making. More signs of improvement in the US economy appeared, with small- and mid-sized companies reporting that jobs are hard to fill. The University of Michigan’s consumer sentiment index also came out well above expectations. As a result, bond yields continue to move higher, now firmly above the 1.6% level. The US Federal Reserve will meet this week and while we do not expect any new action to be announced, we will be focused on its dot plot, given differences with the market’s current timing and size of the first rate rises. We expect the Fed to remain dovish. We are underweight sovereign bonds and short duration.
Last week, at the annual meeting of the National People’s Congress, China’s leaders committed to a 2021 growth target focused on quality over quantity. Normalisation will be the theme of Chinese macroeconomic policy this year and over the next five years we can expect greater emphasis on innovation and carbon neutrality. In the week ahead, the US and China will meet in Alaska in their first major engagement since Biden took office. This should set the tone for relations between the two largest economies. We expect tariffs to remain in place.
The European Central Bank committed to accelerating its pace of bond purchases over the next three months in order to support the euro area’s economic recovery and to help stem rising real rates. However, it also adjusted its wording to say that risks are now “balanced”, from “negative”, previously. In Germany, Angela Merkel’s party, the Christian Democrats, suffered a critical setback in regional elections in a crucial year in which national elections are also set to take place. Meanwhile, January data on trade between Europe and the UK came in considerably weaker than expected. We will monitor this closely to confirm whether orders were front loaded ahead of the Brexit transition period deadline or if this marks the start of a longer-term trend. In markets, the positive 30-day equity-bond correlation has now surpassed the level reached during the 2013 taper tantrum, implying that bonds have lost their portfolio diversification effect. We are overweight hedge funds for portfolio diversification.