We maintain our overweight in fixed income and more specifically in short-term quality corporate bonds in USD and in EUR. Fixed income has the potential to offer lower volatility, greater resilience, and better relative value to equities.
The latest employment report and inflation figures support the view that the Fed rate-hiking cycle can be complete, with labor-market conditions cooling enough to help inflation continue its inclination lower, while remaining healthy enough to avoid a severe recession.
As inflation and growth continue to moderate through 2024, interest rates are likely to drift lower. This environment presents an opportunity to start lengthening duration, while still favoring high-quality issuers. By locking in higher and attractive yields for a longer period, we can limit the reinvestment risk.
We doubt it will be smooth sailing from here as the lagged effects of high interest rates will continue to filter through the economy, driving softer growth, a gradual cooling in the labor market and consequently sparking bouts of volatility. Geopolitical tensions are also likely to fuel volatility. In addition, one cannot rule out the risk of the Middle East conflict transforming from a localized and temporary conflict to one that is prolonged and engulfs a larger range of countries. However, there is a compelling case for a favorable momentum as we close out 2023. In addition, not only have we entered a seasonally favorable period for equities, but data also supports an outlook for ongoing (albeit moderating) growth with a Fed that can remain on pause for a while. Our optimism remains nevertheless tempered and for this reason any rebalancing should be done in favor of quality names.
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