Webinar Q3 Market outlook webinar - All change?

Anthony McDonald (00:01):

Good afternoon, everyone. Thanks as always for joining us today for the quarterly market outlook webinar from Aegon UK. My name's Anthony McDonald. I'm Head of Portfolio Management here and I'll be joined later on by Dan Matthews, who's a Senior Investment Manager on my team. We've called today's presentation All Change with a question mark because it does well, we do think we're at an important juncture in politics. We've got a Labour government here in the UK, potentially a very consequential election coming up in the US, and in markets we're in the middle of a very sharp rotation away from some of the winners of the past 18 months ago. US tech is the poster child of that and very sudden gains in some of the assets that have languished like US small caps, the Japanese Yen.

Anthony McDonald (00:55):

So today Dan and I are going to have a look at some of the risks that might be a driver of change in the second half of the year, first economic, and then political and discuss what we think they mean for markets and for positioning. As always, and this is important, there'll be time for questions, so please do use the q and a button on your team screens, team screen to submit any questions you have. We'll make sure there's loads of time at the end time at the end to cover things that are important to you and we'll answer them at the end. And importantly we'll also share the CPD link in the comment section again towards end the webinar. So do please look out for that. And to the meat of things are learning outcomes.

Anthony McDonald (01:41):

By the end, you should be able to identify the current economic background, recognise the market themes of the quarter explain some of the valuation and risk opportunities, and understand our views and conviction across asset classes. So here in a nutshell, as, as I already said, what we're going to look at in a little bit more detailand if we go step straight into it as always, I do like to start with a philosophy slide. It gives context to, to the way we talk about things. We do take a long-term approach to investing your client's moneyanchored by our valuation analysis. And we think those are our edges in navigating the funds through different environments over time. And while it can require a better patience, patience, we do think that long-term return prospects are improved by avoiding overpaying for expensive investments. And on the other side of the coin, identifying the cheapermarkets where there is better opportunity.

Anthony McDonald (02:48):

Now, as promised, turning to the economic background, and this chart here very simply shows the quarterly growth rate for the US. That's the blue line and the UK the purple lineand what you can see is,or most of 2022 and 2023, that purple UK line was broadly flat lining and ultimately slipping into a shallow recession. The US economy was growing at a really healthy rate,and even picked up. You see that spike up in the second half of last year. What you can see more recently is that blue line has turned down US growth has, has softened a bit in the first part of this year. That's the Q1 data point. And actually,he, the initial estimate for growth in Q2 will come out later during this call and we think it might well be firmer than the first quarter number. But nevertheless, we do think there are rising headwinds to grow, specifically consumer risks that are contributing and will contribute to a lower pace of expansion in the US,over the course of this year.

Anthony McDonald (03:56):

Let's start with the jobs market. And here I show you the unemployment rate in the US that's, again, in blueand the UK again in purple. And the point here, you know, from the start of end of 2022, the start of 2023, you can see there's been a gradual but reasonably persistent rise in that unemployment rates over those 18 months or so. And although kind of it is gradual, you can see now you look at the blue US line at 4.1%, that's now meaningfully higher than the unemployment rate back in early to mid 2023 or 3.4% and we do think that's a real risk to the rate of consumption growth and in itself then will provide an ongoing and potentially increasing economic headwind if they zoom out. And this is again, the USCA unemployment rates, but just over a longer period.

Anthony McDonald (04:54):

While that rate of change we do think matters and does provide a more difficult growth environment, the actual level of unemployment rates is still pretty benign. You can see there that it's towards the lows that has been over that 20 plus year period. Actually, it's a similar story where with other measures of the jobs market like job vacancies, the direction of travel is weakening. Things are getting progressively worse, and that matters and may mean that economic activity softens, but the level itself remains pretty healthy and isn't yet suggesting that these economies are about to tip into a deep recession or anything like that.

Anthony McDonald (05:41):

What about consumer spending more generally? This chart comes from San Francisco. Fed data in the US estimates excess covid savings among US consumers. So the idea is that back in the, in the teeth of that covid crisis, sending support funds directly to individuals at a time when, you know, everyone was curtailed in what they could actually spend money on led to excess savings in bank accounts more than would otherwise have been the case in a normal environment. And you see, that's why that line goes up over 2020 into 2021 into a, a very, a very, very healthy number $2 trillion or so. What you can see since then is it's come all the way down as those excess savings have gradually been spent. The San Francisco Fed here is suggesting that they have now been spent, and that that measure of excess savings is now mildly negative.

Anthony McDonald (06:34):

That needn't be a disaster far from it. But it does suggest that the US consumers likely to find things a bit tougher from here, have to start making the tough choices that maybe could have been postponed before. And the very least if the extra money's gone then spending should at some stage, you think have to step down to what the more sustainable level is. And then that sustainable level may itself be a little bit lower if the unemployment rate keeps rising. So certainly far from doom and gloom, but potentially moving into a different environment than we've had for the last 1824 months.

Anthony McDonald (07:13):

Another way to look at potentially building consumer headwinds is through delinquency and default rates. So here this focus is on credit cards. The blue line against the US delinquency rate on credit card loans, purple line is a slightly different measure. That's why it bounces around a bit more. It's in the UK and it's showing the UK survey based in indicator of credit card defaults in the credit condition survey. So that's a little bit less stable as a measure, but it's trying to capture a similar thing. And again, broadly over this period since early 2022 these measures of default rates and credit cards have been rising in the US. It's not far off doubling actually you know, from a little over one and a half percent, there's a little over 3% now you know, against the context of interest rates rising sharply. And for us, that suggests at least early increase in consumer stress might well also lead lenders to start to be a little bit more careful on the availability of credit, just when we've already seen that things might be getting a little bit tougher for consumers.

Anthony McDonald (08:16):

But again, if we zoom out the same chart over a longer period, now you can see that upward line of delinquency rates going up, a clear deterioration and the US level is a little bit higher than it was for most of that 2012 to 2020 pre covid period. It's not necessarily at levels that should be a course for imminent alarm. We're not at the rates there that, in advance of enduring the great financial crisis of 2007, 2008 at the start of this chart and that blue line. And so again, what I'm showing you is progressive deterioration of this measure but not to a level that's necessarily alarming.

Anthony McDonald (09:04):

So if I put all that together an excuse, a slightly busy slide, but an excuse for my 1990s 3D glasses is not one I pass up. The point I'm trying to make here is because perspective matters at this stage. And that's why I think it might be an important juncture. You can interpret the current situation differently depending on the lens that you economists, investors choose to look at it through. On the one hand the deterioration we've seen, there's a clear signs of deterioration in what we think are important metrics that are linked to consumer health. That can often be the first sign of a more meaningful downturn. Deterioration can become self-reinforcing and have a material impact on economies. And we think there's clearly some risk of that. But on the other hand, a different and perfectly reasonable perspective would be that the US economy in particular is just in the process of normalizing from an unusually healthy spot where there were high levels of excess savings where unemployment was exceptionally low. And job vacancies are actually exceptionally high and that this deterioration we've seen may simply be an evolution to a more sustainable but healthy economic backdrop.

Anthony McDonald (10:20):

Now, our own view is that the dye is not yet cast between these two camps. And we think the interest rate policy is really important here in helping determine where we go from this juncture. We think we moved on from one environment and interest rate policy will help determine what comes next. And the charts raised to capture that a little bit. In blue, that's the current level of US interest rates. So you can see it was rock bottom, practically zero most of the way through that kind of post-financial crisis period. And then you can see how sharply it rose in that, in that post pandemic inflation surge. I've compared that to the purple line, which is the Fed's estimate, or I suppose technically Fed members' estimate of the longer run interest rate that were prevailing in the economy.

Anthony McDonald (11:05):

And that's in purple. And, you know, for that whole period where interest rates are rock bottom, you can see how far below that long-term projection, they were, suggesting that the interest rate policy should have been supporting the economy. Now it's the other way around. See how far that blue line is ahead of that purple line suggesting to us that tight policy is absolutely contributing to that, that that deteriorating economic environment that we're seeing. And I summed up with a quote underneath from John Williams of the New York Fed. "The behavior of the economy over the past year provides ample evidence that monetary policy is restrictive." That's what one of the Fed members thinks. And that kind of sums up what I've been trying to say. What we think that means here is that economies of markets will move on from the equilibrium of the past 18 months or so.

Anthony McDonald (11:54):

And if we think rates are restrictive enough to be causing that deterioration, we think there's a clear risk that things will continue to worsen unless, not necessarily in a straight line, but on a trend basis unless or, and until interest rates come down to less restrictive levels. And for us, that's not just about the debate over whether Fed decides to do a first rate cut in July or September or November. It's also how far they're willing to go, because look how far above the purple line that blue line is you know, it will take more than one or two interest rate cuts to stop having an ongoing kind of restrictive effects on the, on the US economy. So we think there is space for them to act preemptively and prolong this upturn. That would be the normalization path. But we think they have to be willing to, to take the plunge and do that despite the soaring inflation of recent years. And that for us will help determine whether deterioration persists or whether we get to a kind of sustainable period of growth.

Anthony McDonald (12:55):

If I then think about the UK more specifically this is just a bar showing the quarterly growth rates of the UK economy over the last few years. And what you can see after that long period of smaller negative bars Q1, that that +0.6% really does show that we're in the midst of a reasonable recovery from that technical recession at the back end of the last year. And again, the big question is, can that persist? You know, similar to what I've just been saying about the US, again, it probably does need the Bank of England to step off the brakes a little bit with interest rate policy. The good news is we're probably in a window where they can start thinking about that. We all know now that inflation having peaked to over 11% in the back end of 2022 is now back down to that 2% target. And while some of the base effects might get a bit more difficult in the second half of the year, and it might tick up a little bit broadly we're hopeful that, that there's a lot more control over inflation than there was in that kind of post covid surge we saw before.

Anthony McDonald (13:58):

And there's other reasons for some cautious optimism too, as we've shown before on the left here. That's real pay growth in the UK. And that's really risen pretty sharply from those deeply negative levels that we saw previously that mark that cost of living squeeze, that all of us and our clients endured in 2022, 2023, things should be starting to feel a little bit better in terms of how far earnings can go. Then on the right hand side this is a, you know, a short term, year to date chart. It is actually YouGov's weekly mood measurement. And it does suggest that everyone is feeling maybe starting to be a little bit more optimistic after the general election. If we put these two kind of more positive points together there, there are reasons to at least suggest that sentiment and spending might have a bit more support than before.

Anthony McDonald (14:52):

And that's in a country where unlike the US their savings rate has been stubbornly high over recent years. So there certainly are reasons for a bit more optimism and optimism here in the UK to put that together. This just shows the economic surprise indices in the UK and the US. So the purple line shows that the UK economic data that's come in over the last few months has been surprising. Economists who were gloomier about what would come in expectations were pretty low and the opposite in the US perhaps expectations were a bit high, but in aggregate, the data points coming in have been a little bit disappointing to economists. And that doesn't necessarily mean that the UK economy is suddenly going to start performing better than the US, but we think it is indicative that expectations are pretty low. We see that also in equity market valuations. Look at UK mid caps, they're more sensitive to the UK economy and they look very cheap to us. Expectation was a little bit low. And, and at the margin things are probably getting better and possibly the other way around in the US. And given where we see valuations, those cheap UK mid caps, US equities looking a bit expensive, we do think any kind of economic convergence could have a meaningful impact in stock market performance as well.

Anthony McDonald (16:16):

Talking quickly about market performance, this is our normal slide just summarising the most recent quarter's performance. And as we can see here most of the left hand bars showing that the main story of the quarter was kind of ongoing appreciation from global equities, albeit led for a change by emerging markets. And that was helpful for our portfolios, given that our, as you'll see in a bit, our conviction has been overweight there. Over on the right hand side, government bonds are a bit softer even in the context of rate cuts in the Eurozone, Switzerland, Sweden, Canada. There was some investor caution on how far and fast central banks may be willing to reduce borrowing costs. And for us, I think back to the spectacles on the perspective slide, that's a pretty important question, engaging what comes next for economies and consequently the markets. I'll stop there. And I'll pass over to Dan, who's going to take us a little bit more through the political side of things.

Dan Matthews (17:18):

Thank you. Right. This next bit, we're gonna start by talking about the developments that are occurring in the US election starting with this slide helpfully illustrated here by these, these two gentlemen. Some of these slides we've used before so regular viewers may have seen some of them, but we haven't talked about them in a prior webinar. And obviously as the slide says this month, there's been some significant developments, let's say, in the race for the White House probably enough to fill an entire webinar of their own. But we're just gonna have a little brief look here. Obviously, you know, there's the most significant of those being the assassination attempt on Trump, and obviously the departure of President Biden there on the left. So at the moment, the Democrats are in the process of selecting their new candidate. In practice, what is occurring is something of a coronation more than a contest, I would say.

Dan Matthews (18:08):

And it's likely that the photo on the left there is replaced with a photo of Kamala Harris in the immediate future. Policy agenda from Harris remains pretty much unknown. You know, she's very early in her campaigning, but it's reasonable to assume that it looks a lot like the Biden administration's agenda. Partly because any significant changes will open her up to attack, not only from Republicans, but also potentially from disgruntled members of her own party who are frustrated by the facts that circumstances have kind of allowed her to navigate around the traditional candidacy process to become the presidential candidate. So the next few slides, therefore are focused on Trump and the potential impacts that he might have if he gets elected. You know, so that we are assuming the Harris administration is more like the status quo. So we're looking more at the changes that Trump will bring, because those are more likely to be substantial.

New Speaker (18:57):

I suspect one of the questions we'll get at the end of this is the question of who do we think will win? It's safe to say that Biden stepping down and Harris entering the race has changed the outlook. Trump was doing, you know, rather well prior to that. And we do believe that Harris is capable of winning should you win a good campaign. But at the moment our view is that even with Harris having entered, Trump currently carries the advantage from prior events, but obviously there's a long time between now and November, so that advantage could easily be eroded. So the short answer before we get to the details of the policy is that we don't know there's too much can change between now and the election, but we do know that the race has become much closer. So the uncertainty is almost, you know, has increased.

Dan Matthews (19:38):

So then what do we do therefore is we look at it and say, what do we do when you're faced with uncertainty, you know, we can look at the probability and the potential market outcomes of the different scenarios and then look at our portfolios through that lens and see if we have any exposures that we're uncomfortable with under any of those scenarios. So with that in mind, let's try and dig into the Trump scenario or we know about it. Next slide if we can. So on this slide, we've got a few of, you know, what we're calling Trump's key policies. Obviously we're early in the campaign, so agenda can change, but we're starting to see an overall agenda take shape and it looks a little bit like this. So what does Trump want to do? First thing he wants to do is he wants to reduce immigration.

Dan Matthews (20:18):

You know, he's made a lot of noise about the number of people that's crossed, in particular America's southern border during the Biden administration, and he wants to put a stop to this. He wants to be seen to support American business. So how does that policy play out? Primarily in the form of tariffs and in particular, he kind of wants to be seen to reduce economic ties or indeed punish those nations that he perceives to be economically hostile to America. The primary focus for which of course is China. And you can see there on the slide, they're proposing a 60% tariff on all goods from China with 100% on cars. He also wants to reduce further tax cuts and some deregulation, although when we come to it later, we'll see that some of the tax cuts actually involve keeping existing tax cuts that he put in during his prior term. So there's a little bit of nuance there, and in the last two we don't have time for today. But you know, Trump has been pretty vocal around the Federal Reserve and Powell, and he's also been quite vocal around anti ESG and in particular green energy. And we think he's likely to seek to fund some of his other policies by reducing efforts that the Biden administration has made in the green energy climate change kind of sphere. Next slide if we can.

Dan Matthews (21:26):

So let's start by thinking a very high level about Trump's, you know, spending or saving. This is a chart of the deficit. I think we used this in the last webinar, but in a different context. Two things to point out this time round. The first is the green arrow. So the green arrow is roughly around Trump's first term. And you can see that generally during that time the deficit did expand. So Trump borrowed more money. But you can also see that under Biden there hasn't been a huge amount of change. In fact, you know, the deficit has continued to expand. So if you ignore covid, so the spike, there we're basically a deficit that's that's not really been seen since prior to the financial crisis. And we believe that running this deficit and the expansion of government spending that's occurred has been a significant positive contributor to the US economy over the last few years. But with that deficit spending, of course comes the risk that you can have further inflation if the deficit continues to expand. Or indeed, if you combine it with perhaps rate cuts, you might have an inflation re impulse, even if the deficit stays at this level because the anticipation will come to the tax cuts is that the deficit may reduce in future. Next slide please.

Dan Matthews (22:31):

So what's Trump proposing to do that we think will influence the deficit? The chart on the right here, we've pinched from one of the research providers that we read. This is Oxford Economics, and it's a waterfall chart that shows things that contribute positively to the defecit and negatively to the deficit. The first four bars show things that expand the deficit. The next three show things that reduce it. And then finally the orange bar on the right is what the overall price tag they are. They are saying, you know, they think the policies will be. The purpose of this exercise, we're not largely interested in the exact numbers, it's more that the direction of travel of the different policies that we're here to talk about. So we start with the first bar over on the left, which is the big red one. It's clearly the largest, and that's those personal tax cuts.

Dan Matthews (23:14):

So those are the ones that are already in place. Those were put in place as part of what's known of as the Tax Cuts and Jobs Act, which was done by Trump in 2017. Part of that act is that those tax cuts expire unless a new law is passed. So because this is an existing policy, that bar is already included in the previous deficit. So that bar is currently occurring because those tax cuts are currently in place. But the assumption is that under Harris, those tax cuts will be allowed to expire, whereas under Trump, they would likely, likely continue. There's probably some nuances there. Harris will keep components of it, but in reality there is a difference in tax policy there. Given this is an existing law that simply needs to be extended, there's a reasonable chance that Trump is successful in enacting this policy.

Dan Matthews (23:57):

The next few bars relates to Trump policies that we think probably comes as something of a package. So for example, removing the IRA climate provisions, those are the ones in purple. Those are IRA's Inflation Reduction Act. So that came in in the last few years, and those are largely the climate subsidies that the Biden administration has put in. It's likely that those are cut to fund something like the 15% tax cut, so that's the bar in yellow, and that those come in as a pair. It's possible that Trump chooses to say the tariffs will pay for some of these, these deficit increasing things. But in reality, politically it's far easier for him to say there is a pool of capital over here I'm cutting in order to spend over here. So we think there'll be some of these policies get paired together.

Dan Matthews (24:40):

Obviously both the grey bar there, which is the IRS funding and the IRA climate provisions are Biden policies. We would anticipate they will likely become Harris policies. And so those two cuts would not occur under Harris administration. So if we just sort of take a step back from this. It's reasonable to say that we anticipate under Trump that the deficit picture is, you know, at least slightly to persist, if not possibly slightly, to expand slightly. Under normal circumstances, you would anticipate that running a significant deficit representing injection into the household sector, you know, your government is borrowing more so your consumers have more. But in this case, you know, it's important in place in the context of the fact that we've just had a very strong inflationary period and you know, some of this deficit is also continuation of current policy. So we think this sort of spending is likely to alter future inflation expectations and then that will potentially sort of have a further impact on, on US bond yields. Next slide, please.

Dan Matthews (25:45):

So now we're gonna turn our eye to tariffs. I appreciate, I think Anthony said that his slide was busy. This slide is definitely busier. But you know, bear with me and we'll get through it together. Tariffs are, of course, you know, one of the more economically controversial things that Trump has promoted. It's also likely to be a key pillar of his agenda. You know, he wants to be perceived as a winner economically. So what we'll see here is, you know, he will try and claim the victory here regardless of what the final policy looks like. So the, you know, the tariffs are a key piece of his agenda, but whether the tariffs emerge exactly as he's talking about them remains to be seen. So with that in mind, if we start with the charts on the right, but focus on the two left hand of the four blocks, the two middle charts here.

Dan Matthews (26:27):

These are the overall level of tariffs that the US applies. The top chart being the global level of tariffs, bottom chart being the tariffs applied to China. What you can see is they jump around 2016. So Trump's prior term, Trump came in, he enacted these tariffs. Biden hasn't particularly reduced those tariffs, those tariffs have remained for most of, for most of this term. And in fact, Biden has added some more. We've just had some tariffs on electric vehicles from China in the last month. So the background here is we're starting from a much higher tariff base than we were for the prior administration. The chart on the left we've pinched from Allianz and it's slightly more complicated and it represents a way of showing American reliance on the exports of other countries. So, you know, just to remind ourselves, Trump is saying that he will put a 10% tariff on all goods and a 60% tariff on goods coming from China.

Dan Matthews (27:17):

So this chart looks at what they have determined as US critical dependencies from other countries. So a critical dependency is something where the US imports more than 50% of its supply. So more than half the things the US has comes from a different country, and where the country that makes it is making more than 50% of the world's supply. So essentially it's something that you can't make at home. You can't make it in your country, and where the person you are buying it from has a monopoly. So you really need it and you really need it from them. The pink bars here are the ones that matter really with the 60% tariff, those are China. And as you can see that the US has become increasingly reliant upon China for key goods that it depends upon. And those are particularly sort of focused in technology type goods. Because of this dependency, that means that Trump's policy is likely to face some dilution as it hits the real world.

Dan Matthews (28:07):

And that remains the biggest kind of open question of the policies that are currently announced. You know, Trump views himself as something of a deal maker, so it's highly likely that he would consider it's a win if some sort of trade deal was reached with China, you know, before the tariffs reached these levels and then he could pretend it was all a bluff, et cetera. So there's definitely some room for maneuver within the tariff policy from the future Trump administration. You know, the economic tariff policy of tariffs, if they do come to be, it's kind of threefold. First it's pretty simple, inflation goes up because the cost of goods has been increased by between 60 and between 10 and 60%. The second is that you now need to make those goods somewhere else. So you have a misallocation of capital, so you know, both labor and capital in the wrong place.

Dan Matthews (28:52):

That's normally slightly inflationary for a period as those things have to readjust. And then finally you can just have a growth impact. You know, often when things become either more expensive or more difficult to acquire, consumers simply choose to forego those guts and they don't necessarily seek out a substitute, they just say, we don't need that anymore. And that can cause a reasonable knockoff in growth. So with that in mind, let's assume that America does want to do these tariffs. It wants to therefore expand its manufacturing base and make some of the stuff that China's making. What would happen if you did that at the same time as you did something to your labor market, for example? So let's look at the next slide.

Dan Matthews (29:29):

Trump's big policy that can of course impact the labor market is the immigration policy. This is a chart of US net immigration. I'm not gonna talk about this in very long. We've got a second slide in immigration. I'll come to the purple line is the estimate for January, 2023. And the blue line is the estimate for January, 2024. Obviously, you can see an enormous gap that occurs showing that US integration was revised upward by around about 8 million people. So in recent times, US integration has had a substantial uptick. Next slide please. So what do all those 8 million people that have come to America do? The evidence suggests that they pretty much overwhelmingly go to work and contribute fairly strongly to the American economy. Chart on the left is the change in labor force for the US and as you can see, a it's been expanding, but also the red bars there that are foreign workers have also been expanding and they make an ever increasingly large portion of those.

Dan Matthews (30:26):

Joining the labour force chart on the right shows the participation by different groups of the labor force. And if you just look very briefly at the blue and red lines, those are both the male participation in the labor force. The blue is foreign born men, the red is native born men. You know, if you are a foreign born man, you are 15% more likely to participate in the labor force than those that are natively born. So you think about it, what are the economic impacts of telling a significant portion of your labor force that they're no longer welcome? The answer is again, that it's likely slightly inflationary. You know, domestic workers probably command a higher wage. It's also slightly damaging for growth as there, you know, simply aren't enough people to manufacture some of the key goods. And also producers are also consumers. So these people also buy things within the economy. And those effects are obviously especially significant if you are also doing this at the same time as trying to restructure your economy because you're trying to reduce your reliance on imports from China. Next slide please.

Dan Matthews (31:25):

So quick summary. I think the slide pretty much sums it up, but we'll cover it very briefly. We do think the outcome was unpredictable. You know, prior to Biden stepping down, the outcome was looking a great deal more in favour of Trump. You know, and as we said earlier, we think the residual of that still remains. So Trump probably still has the advantage. Harris remains a bit unknown but she certainly appears to have created some momentum over the last few weeks and sort of brought the Democrats back into the race. So we'll have to see how that pans out. The outcome of Trump's policies, if they come to be, are likely to be a combination of increased volatility with that scope for potentially higher inflation, and also the potential for, you know, weaker long-term growth. As some of his policies undo some of the positive headwinds that we think the US has experienced in, in recent times.

Dan Matthews (32:13):

These economic risks, we believe will primarily impact the dollar and US government bonds, and that will also impact other markets that are intrinsically linked to those such as, you know, emerging markets which have a strong relationship with the, with the US dollar. We'll come to our convictions in a couple of slides time, but at the moment we believe our portfolio is not excessively exposed to these risks. And so, you know, whilst we acknowledge that the outcome is unknown, we don't think that we're taking unnecessary risk in the face of that unknown. Next slide please.

Dan Matthews (32:45):

So we include these next slides in all of our presentations, so I'm just gonna jump through them fairly quickly. But these are the themes for, for 2024 that we think still remain in place. So the first one is the inflation falls towards target. You know, obviously this one is of greater relevance in the US at the moment because the UK has indeed fallen towards the target having hit its 2%. Second one it relates to the first. So this is, you know, we anticipate that interest rates will be lowered on the back of the reduced inflation, you know, central banks try and engineer that soft landing that people talk about so much. Third we've talked about already, but you just remember that this is an election year. We've also had elections in, you know, elsewhere in the world, in India, in France, and indeed, you know, here at home. And then the final one is, you know, China, you know, we've had a slow down in China led primarily by the property market and just being aware of the measures the Chinese government could take and continue to take to mitigate the, the wider economic effects of this next slide.

Dan Matthews (33:44):

And then the flip side of that, the key market risks, you know, the inverse of the other slide, if you will. The recession risk remains. Inflation is coming down as per the previous slide, but this also implies that interest rates are having somewhat of a, you know, restrictive position on the global economy and, you know, the challenges of correctly reducing those interest rates at the appropriate times so as not to jeopardise that soft landing remains a challenge. You know, they are trying to thread the needle at this point. So that risk still remains there. Next one is elections again, I think we've covered that. And third, we've got sticky inflation. So for the most part, whilst we've seen inflation come down, we've seen the services component of inflation remain elevated in both the US and the UK. And you know, the risk is that even if just that component stays high, it limits central bank's ability to cut rates to where they want to cut them. And you know, this in turn increases your chances. You end up backing box one and the the soft landing you know, fails to come about. And then finally again, the inverse of the previous slide, you know, China downturn worsens rather than improves from here, given what's been going on in their property market.

Dan Matthews (34:50):

Next slide. Right, last slide from me and then I'll pass back to Anthony to round up. But this is our, our current convictions. You know, we remain underweight in the US there the valuations continue to be ever increasingly stretched. And this is balanced on the other side by the UK, Japan and emerging markets. Recent changes, we've upgraded the UK you know, we touched on that a little bit today, but that's been, you know, obviously when these things jump over the threshold, they move from neutral to overweight. But the reality is we've becoming more progressive on the UK for some time. We added mid caps earlier in the year, so this has been a gradual progression towards that overweight in the UK over the course of the last few months. Secondly, we've reduced our overweight in Asia Pacific, Japan, we remain constructive on the region.

Dan Matthews (35:35):

But we acknowledged that risks are elevated, you know, particularly with exposures to China and also those Trump tariffs sort of looming on the horizon In practice, these recent changes reflects our view that there's potential for a broadening out in the equity markets, you know, especially with the US valuations being so stretched relative to the rest of the world. So, you know, whilst there are individual market views at play here and there always are, you know, the changes overall are seeking to rebalance our non-US exposures so as to better adjust the overall portfolio risk level. So they need to be taken as a collective group. And that's it from me. I'll pass back to Anthony to round us up and then we'll take some questions if anyone has any. Thank you.

Anthony McDonald (36:18):

Thanks Dan. Yeah, and I can see two or three questions coming in there already on the Q&A tab, another one just there. So please, can we please keep them coming? I'll sum up very quickly and there'll be plenty of time for us to address those questions. But we have gone through a lot today deliberately because, you know, talk about that change question. We do think we're at what could be a quite an important juncture economically, politically, potentially a moment of change. So in that, what are our big messages? We think it's definitely early to be alarmed by softening economic data particularly in the US. But we do think there's a real risk that continues to deteriorate if borrowing costs don't come down from here. And if, if they do well in either way, that we think that can support government bonds here in the UK.

Anthony McDonald (37:05):

You know, we pointed to an economy that looks to be in a period of improvement. And that as Dan's touched on just there at low valuations we do think that can can provide some support for UK smaller companies in particular and in the US the election absolutely could matter very much for both the short term and the long term. Or we, you know, in the first analogy, outcomes uncertain but if we focus on the likely impact of different scenarios we're managing our positions carefully as you've heard. And we've touched a little bit upon perhaps taking a little bit out of the Pacific as a result of that. So at that point I will stop and we will pass over to the questions. I think Dan's going to pick them up off the chat read them out and then we'll take them from there.

Dan Matthews (38:05):

Great. Okay. I'm gonna start with a very straightforward one, which is someone's asked about the overweight position in Japan, and can we sort of talk a little bit about why we continue to be optimistic in, in that region?

Anthony McDonald (38:19):

Yeah, good question. In a nutshell we don't think valuations are particularly demanding there. You know they, as with the rest of global equities, they've pushed up a little bit over the last 18 months. But they don't look in any way alarming to us. And we think that the structural change that we are seeing in Japanese corporate governance should be very supportive to Japanese shareholders. There is a clear focus on company corporate value creation linked to that. We can see that over the last decade has absolutely come through in higher dividends in higher buybacks, in more shareholder friendly behavior. And we think ultimately that will continue to provide a longer term support for that market.

Dan Matthews (39:13):

Okay, one more here, which is we were overweight gilts versus the, the overseas bonds there on that slide, and obviously we laid out a positive view on the UK. Isn't the US therefore likely to cut rates harder than the UK?

Anthony McDonald (39:32):

That's a good question. We think not in a nutshell it looks to us from our analysis as though the UK interest rate settings are more restrictive than those in the US and are certainly likely to bite sooner given how sensitive underlying economies are to interest rates. You know, a tangible example we can all think about there is the, you know a lot of people will, we know clients will be in the process of rolling off fixed rate mortgages in the UK and resettings are higher rates. You know, the mortgage market in the US is, is is much longer dated. And so that's much less of direct factor, albeit new mortgages still have the the same issue. And so if we think about that, we think there is a bit more momentum in the UK, but from a very, very poor starting point and actually we think for that to perpetuate it will need interest rate cuts from the Bank of England from the kind of more forward-looking discussions we've had from Governor Bailey and some of the other members of the monetary policy committee.

Anthony McDonald (40:44):

It looks as though they believe that too. And so we do absolutely think that it's reasonable to be overweight the gilts versus the US and overseas generally government bonds in that situation.

Dan Matthews (41:01):

One more and then but I'll tackle this one first. And it's particularly tricky. And so rather than dump you in it and then you can add if you want to. It says, will Trump's NATO negativity either prolong the Ukraine war or damage US defense manufacturing market? Interesting question, and I think I'll start by caveating it that you should not get military strategy advice from people that run multi-asset portfolios. So, you know, this is not our expertise, but I think it's interesting, which is, you know, because of people's negative perception of Trump, they assume he's entirely ineffective on various things. And you know, one thing that Trump does have is that he is a bully in places and he has in the past been quite successful with his NATO bullying.

Dan Matthews (41:47):

And so I wouldn't rule out the fact that actually trump's sort of view on NATO resort in them spending more on defense because they're not meeting their current commitment to NATO rather than, than NATO dissolving. So I think there's a possibility that could play both ways. The damage to the US manufacturing market to my mind is more likely to come from the tariffs and if the tariffs are enacted, people acting reverse tariffs on the US and, and you're entering some sort of trade war and that having a negative growth implication not just for defense, but for other components of US exports. Anything to add, Anthony?

Anthony McDonald (42:25):

I'd only add more broadly what what this touches on is Trump's foreign policy agenda more broadly. I think it's reasonable to say his rhetoric is more isolationist or at least less interventionist than we've been used to over most of the presidents in the recent past. Whether or not that translates into reality, we don't know. But what we should remember from his last term is quite how even in relations with North Korea, you know, they spring immediately to mind the volatility of the rhetoric and subsequent action from President Trump. And so we would be likely to re-enter a period of higher foreign policy uncertainty from the US. And that can at times come with more investment risk, whether the true underlying risk is, is real or perceived. And that's something that all investors would have to grapple with in the events of a second Trump administration. That's all the questions we've had come in here. So with that in mind, I'd say thank you very much to everyone who's engaged with us there. Thank you for joining us today. We always appreciate your time. Thanks from Dan there as well. And if you'd like any further information on our market views or investment solutions please do visit our website. Hope you enjoy the rest of the afternoon. Have a good summer, and we look forward to seeing you next quarter.