The year began eventfully, with the US using its military strength and economic leverage to achieve President Trump’s foreign policy goals. The Fed receiving subpoenas and military action in Venezuela did not move oil prices and risk assets.
But his threats to the sovereignty of a NATO ally sparked temporary volatility, with markets eventually recovering from that scare and US lagging the other regions. Fiscal profligacy and inflation concerns in Japan pushed bond yields up.
We think economic growth that is neither too hot nor too cold to trigger a recession, along with a high degree of complacency among markets participants, could explain the continued appreciation of risk assets. In this scenario, modest GDP expansion and disinflation is allowing central banks to move cautiously, preserving market liquidity.
The path ahead is fraught with risks to the independence of the Fed, and Trump’s domestic policies as well as his stated intention to shake-up traditional alliances. Any challenge to the Fed could result in de-anchoring of inflation expectations (not our base case but risks are rising). All this favours our views of diversification out of US assets, and for Europe to pursue its strategic autonomy. For now, we observe strong US economic momentum, and have raised our Eurozone (EZ) growth projections:
- EZ growth slightly better than our previous expectations, but not as high ECB projections (1.2% vs 1.0%, real GDP). We now expect 1.0% growth, mainly due to strength in France and Spain. Our projections are supported by real disposable income, a boost to investment from rate cuts already implemented, and funds deployment under the NGEU in peripheral countries. However, we are monitoring the consumption dynamics and labour markets across the region.
- US CPI revised down for the year, from 3.0% to 2.8%. But we expect inflation to remain above the Fed’s 2% target for longer, particularly if we consider the fiscal push and upcoming mid-term elections. We expect shelter inflation – about a third of CPI – to decelerate, which would pull down overall inflation. Second, the pass-through of higher tariffs to consumers has been limited, and businesses are absorbing the higher costs. We continue to monitor this. On growth, consumption will be supported by tax refunds mainly in the first half, and we maintain our projection of 2% real GDP growth.
- Chinese GDP looks set to decelerate this year to 4.4% from 2025, owing to both weak domestic activity (correction in the housing sector and consumption) and softer external demand. We believe the government will deliver mild, targeted stimulus to avert a hard landing, but it is unlikely to implement a large-scale policy stimulus. The recent end-December announcement is in line with this view.
- Gold prices see a structural boost. Gold will be driven higher by geopolitical tensions (including Trump’s unorthodox policies), structural trends (higher deficits/debt), and demand from central banks. While recent US actions in Venezuela did not move oil prices, any potential escalation with Iran is a more relevant upside trigger because the risk would be supply disruption (through the Strait of Hormuz) rather than additional supply. That said, oil markets are currently in surplus, and we expect downward pressure on prices in Q1. As the surplus diminishes in the second half, Brent prices could settle in the range of $60–70/bbl.
In an environment of disinflation in Europe, fiscal support and ‘political noise’ in the US, and China stabilising to a lower growth rate, we stay risk-on with our asset class views as follows:
- In fixed income, we are neutral on duration overall, but slightly cautious on the US and positive on Europe, including peripherals, and the UK. Corporate credit offers good carry, particularly in EU IG BBB and BB-rated credit. Risks are around sticky inflation which is not our base case. We look for carry in emerging markets (EM) bonds – the global economic backdrop is encouraging – through a selective lens.
- In equities, we favour structural stories in the form of corporate governance reform in Japan, fiscal stimulus in Germany, and exploring names outside of the artificial intelligence euphoria. EMs are another area where we are constructive due to strong economic activity and Fed easing.
- In multi asset, we have upgraded our views on gold to benefit from its stability-providing characteristics and downgraded oil. In EM, we’ve cautiously raised our stance on Latin American equities. Overall, we prefer keeping a balanced, risk-on stance.
