The slowdown in economic growth, less favorable earnings momentum and uncertainty over the upcoming US presidential election have prompted us to downgrade stocks from overweight to neutral. This is underlined by the Strategy Unit Of Pictet Asset Management.
Stock Markets: Economic Weakness Calls for Greater Caution
Let us also take into account – the commentary reads – the fact that the US stock market, which dominates global indices, is extremely expensive. At the same time, “we have brought our liquidity position from underweight to neutral; we believe the global economy is heading for a soft landing (largely avoiding a recession) and this also justifies maintaining a neutral stance on bonds. Our equity downgrade further reduces risk in our portfolio, a stance that began last month with the reduction of our position in technology stocks, the sector we considered most vulnerable to a sell-off. This additional move is motivated by an intention to take profits in an asset class that has so far continued to resist economic warning signals, particularly in the USUnited States”.
Indeed, after an exceptional 2023 and 13% growth year-to-date for stocks, while most of these gains have been driven by a few leading companies (mostly technology stocks), concerns about the impact of tariffs, uncertainty over earnings and a momentum-driven downturn in trading have triggered losses in this very expensive sector, prompting investors to reinvest in cheaper stocks such as small caps. Smaller companies have suffered particularly badly from the rate-tightening cycle, suggesting they will benefit more from monetary easing once the U.S. Federal Reserve begins cutting rates in the coming months. The worst performer was Japanese stocks, with the Tokyo benchmark ending the month down 1%. The market witnessed to heavy foreign outflows in the week ended July 26, as a strengthening yen and a sell-off in global technology stocks prompted foreign investors to take profits. Over the week, foreign investors sold more than $10 billion in Japanese stocks on a net basis, the largest amount in 10 months. Emerging European and Asian stocks rose more than 3%. The biggest losers were information technology and communications services, after both posted double-digit gains since January. Real estate, utilities and financials gained between 5% and 6%, buoyed by the prospect of lower interest rates.
Pictet AM analysis
Overall, the prospects of the markets “will remain clouded political developments in the United States for much of the rest of the year. Our caution in interpreting the dynamics of the US market is echoed by what we read in the business cycle of the US economy. We expect growth to be below potential over the next four to five quarters. This will depend on the smoothing of consumption as the growth of real disposable income slows. It is residential investments are also likely to from the very high annualised growth rate of 13%. This should put further downward pressure on inflation, opening the door to rate cuts by the Fed. In the eurozone, manufacturing continues to struggle as firms are reluctant to invest. By contrast, private consumption is the main driver of growth. The UK, on the other hand, is showing strength that is likely to be reinforced by the new Labour government. Japan is likely to be the only major developed economy to grow above average in 2025, again driven by consumption. Meanwhile, we see a recovery in China’s economy, despite persistent weakness in the real estate sector. Here too, consumption will be the main driver, with investment in manufacturing supporting growth. The People’s Bank of China surprised markets by cutting its medium-term lending facility at the end of July, the same week it cut its prime lending rate to support growth,”
How are Central Banks moving?
THE our indicators of liquidity show that central banks they went on to define theand their own monetary policies based on local conditions rather than following the global trend (14 are on hold, 12 have moved to easing and four to tightening). The big unknown is how much easing can be done before inflation is rekindled. Policy divergence could lead to a dispersion in market performance, lifting some local markets in a sluggish global environment. Our asset valuation metrics were largely unchanged on the month, with equities still very expensive, bonds moderately expensive and liquidity cheap. Around 90% of the asset classes we analyse are trading above average, which has only happened three times previously in the past decade, suggesting a high degree of market optimism. A modest amount of easing from the Fed is likely to translate relatively quickly into credit growth, as banks would be willing to lend and borrowers would be in a position to borrow given the strength of private sector balance sheets. The picture is murkier in Europe, where the European Central Bank’s push for rate easing is tempered by its other policy of quantitative tightening.
Regions and equity sectors: Eurozone downgrade
Weakening corporate earningsthe economic slowdown and rising monetary and political uncertainty are driving our reduction in global equities; the same factors are also affecting our regional and sector allocations. The eurozone, for example, is now looking lacklustre across the board. Economic performance is tepid and the expected recovery is weaker than expected, as evidenced by weaker-than-expected June PMI data. The outlook for corporate earnings is similarly poor. Our forecast, based on our macroeconomic projections, suggests profit growth of just 4.7% this year, half that of the US. To be sure, eurozone stocks are attractively valued: according to our model, it is the cheapest region in its 20-year history. But we think this reflects the risks quite well. For this reason, we have upgraded European equities to neutral from overweight. Our current favorite equity markets are Switzerland and Japan. Swiss equities benefit from strong earnings momentum and attractive valuations, as well as offering access to an unusually large number of quality companies, i.e. those with stable revenue and earnings growth. Japanese equity markets, meanwhile, are supported by strong secular trends, including improving corporate governance, an economy emerging from a deflationary spiral, still-loose monetary policy and a weak yen.
Sectors under the lens
Among sectors, we continue to overweight utilities, whose defensive characteristics, stable earnings outlook and cheap valuations are now particularly attractive given the slowdown in economic growth. We are also overweight the communication services sector. Earnings prospects are relatively bright for companies in this sector, one of the few where share buybacks are continuing at a brisk pace. Valuations have improved relative to other sectors, and according to our model, communication services scores more neutral than expensive. In contrast, we are cautious about the real estate sector, where earnings momentum is weak and valuations are not as attractive as they were at the start of the year. Although interest rates are falling, the pace of benchmark rate cuts is likely to be moderate, potentially hurting housing markets.
