Market Perspective

As of 30 June 2021

• Global economic growth to remain strong through the back half of the year, albeit off peak levels, as monetary and fiscal policy support moderates from crisis-level highs.
• Longer-term interest rates likely challenged to move higher as growth moderates, inflation softens from recent peaks, and Federal Reserve moves closer to tapering asset purchases, while short-term rates could begin to price in tighter policy leading to a flattening yield curve.
• While still supportive, global monetary policy should continue to see a gradual trend toward tightening among central banks, notably within emerging markets (EM), facing rising inflation.
• Key risks to global markets include the path forward for the coronavirus, elevated inflation, central bank missteps, higher taxes, stricter regulatory environment, and increasing geopolitical concerns.

Portfolio Positioning

As of 30 June 2021

• We remain modestly underweight equities relative to bonds and cash as the risk/reward profile looks less compelling for equities and could be vulnerable to fading policy support, increased rate volatility, high inflation levels, and potential tax increases.
• Within equities, we continue to favor value-oriented equities globally, U.S. small-caps, and EM stocks as we expect cyclically exposed companies to continue to benefit from strong economic growth and global reopening.
• Within fixed income we continue to have a bias toward shorter duration, higher yielding, and inflation sensitive sectors through overweights to high yield bonds, floating rate loans, and to a lesser extent, short-term Treasury inflation protected securities, which we moderated over the month.

Market Themes

As of 30 June 2021

Easy on the Austerity

Following a shaky start to its vaccine rollout, Europe appears to be recovering as businesses are reopening and lockdowns continue to ease in some areas. As the European Central Bank debates the extension of its EUR 1.85 trillion asset purchase program, due to expire next March, additional fiscal stimulus is being rolled out through the unprecedented European Union recovery fund, worth up to EUR 800 billion. While the fund shows signs of growing unity among member nations, lines are being drawn once again as members take sides on scaling back monetary policies put in place amid the pandemic. Leaders such as Mario Draghi, Italy’s prime minister, warn that shifting back to austerity too soon could ignite another decade-long recovery similar to the post-global financial crisis period. With Europe already lagging the U.S. and China, shifting back to austerity too soon could prevent the region from heading on a path towards more sustainable growth.

Curbing Our Enthusiasm

Global equity markets represented by MSCI All Country World Index have returned nearly 12% year-to-date in U.S. dollar terms amid signs that the worst of the pandemic may finally be behind us. But, as supportive trends that have fueled the global economic growth rebound start to fade, it’s hard to envision equity markets expanding at the same record pace. In the back half of the year, we expect that growth will be off peak levels, monetary policy will continue to tighten, fiscal stimulus will be at lower levels, and higher taxes are likely. Adding to these headwinds, equity markets are sitting at elevated valuations supported by low interest rates, input costs are rising, and earnings growth is expected to moderate next year. Despite these trends, equities remain attractive as pent-up demand continues to be unleashed and while moderating, growth remains elevated. However, the ultra-easy environment is changing quickly and may lead to more volatility ahead, so investors may need to curb their enthusiasm for equity returns going forward.

Regional Backdrop

As of 30 June 2021

United States

Positives

• Vaccinations widely distributed, case count near lows
• Infrastructure spending bill likely to be passed
• Healthy consumer balance sheets and high savings rate
• Strong earnings expectations

Negatives

• Elevated stock and bond valuations
• High corporate and government debt levels
• Fed dovishness has peaked
• Corporate taxes likely to rise

Europe

Positives

• Higher exposure to more cyclically oriented sectors that should benefit from economic recovery
• Pace of vaccinations has significantly improved
• Monetary and fiscal policy remain accommodative
• Equity valuations remain attractive relative to the US

Negatives

• Limited long-term catalysts for growth
• Limited scope for European Central Bank to stimulate further
• Brexit likely to negatively impact trade
• Potential for new coronavirus variants to cause continued outbreaks

Developed Asia/Pacific

Positives

• Outbreaks milder than in the rest of the world thus far
• Cyclical orientation should benefit from economic rebound
• Strong fiscal and monetary support
• Improving corporate governance

Negatives

• Vaccination effort has been slower than other developed markets
• Weak economic growth going into crisis, driven by long term demographic headwind
• Limited long-term catalysts for growth

Emerging Markets

Positives

• Exposure to cyclical areas of economy should benefit from broad global recovery
• Commodity prices are elevated
• Chinese economy remains strong
• Equity valuations attractive relative to developed markets

Negatives

• COVID risk remains high in Central Asia and Latin America
• Vaccine supply and distribution infrastructure are well behind developed markets (excluding China)
• Stimulus from China is fading
• Limited ability to enact fiscal stimulus (excluding China)

Asset Allocation Committee Positioning

As of 30 June 2021

Portfolio Implementation

As of 30 June 2021