Perspectives - Investment outlook remains constructive, but political risks are rising

Welcome to the 2024 summer edition of Perspectives.

The global economic outlook is improving. The headwind to growth posed by central banks is declining and broad financial conditions seem reasonably balanced. Early signs of recovery discussed in the last edition of Perspectives are progressing and the number of countries reporting a gradual strengthening in growth has increased. This doesn’t include the US. Here evidence is consistent with a benign slowing, and growth appears to be decelerating from an unsustainably fast pace to a rate more consistent with the US economy’s long-term trend. The global growth recovery will likely not prevent a further deceleration in inflation. In particular, recent data from the US service sector have softened. If maintained, this trend will likely facilitate the start of policy easing by the US Federal Reserve (Fed), while many other central banks are also expected to loosen policy further in the next 12 months.

Our constructive outlook for the macroeconomy merits continued cautious optimism for asset markets. We think that equities—particularly those markets with the strongest fundamentals and most attractive valuations—and fixed income can both do reasonably well over the next 12 months. In combination, they’re expected to deliver relatively attractive returns for investors in traditional balanced portfolios.

Assessing the size and source of potential risks to this relatively constructive outlook is, as always, top of mind. Currently, political risks appear to pose a more important challenge to markets and investor sentiment than either economic data or prospective central bank policy rate decisions. Volatility related to idiosyncratic political events has already risen in a number of markets, including in Europe and Latin America. Arguably, the most significant political risks still lie ahead, with US elections in November increasingly relevant to market price action. This event is often associated with positive equity returns and higher market volatility. The starting valuation of US equity markets this time around makes an outsized gain much harder to realize. By contrast, generalized market volatility remains low and is likely to rise as we approach this event, particularly given the current polarized state of US politics.

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