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UIC retains its defensive stance

Opportunity-oriented assets underweighted across the board

  • Conditions shaped by slowing economic growth, high inflation and tightening monetary policy
  • UI forecast: slight recession in the US in early 2023
  • Eurozone and Germany expected to see GDP contract in 2023 as a whole
  • Long position in the Japanese yen against the euro closed

Outcome and justification

RoRo meter

The Union Investment Committee (UIC) confirmed its defensive risk positioning (RoRo meter at level 2) at its regular meeting on 27 September. The committee believes that the capital market environment will remain challenging with further downside potential for risk assets. In the strategic portfolio, the UIC made a currency position adjustment, neutralising the overweight exposure to the Japanese yen versus the euro. Earlier, the committee had already underweighted commodities more strongly in light of weak economic growth and established a short position in bonds from the eurozone periphery ahead of the parliamentary election in Italy. The equity weighting was neutralised temporarily but later shifted back to an underweight position in the second half of the month. As a result, all opportunity-oriented asset classes are currently underweighted in the strategic portfolio.

The prevailing market environment is characterised by slowing economic growth, high inflation and tightening monetary policy. Geopolitical risk factors such as Russia’s war of aggression against Ukraine are also taking their toll and recent developments in some European capitals are not helping to calm things down either. In Rome, the fiscal and European policy agenda of the (likely) new right-wing nationalist government led by Giorgia Meloni is being eyed with apprehension by the European Commission and investors. And in London, the new conservative government led by Liz Truss has announced a budget that is sparking concern about the future stability of the UK’s public finances and economy. On balance, the UIC thus believes that tensions relating to the key factors of inflation, growth, monetary policy and market structure have not yet eased to a degree that would merit a shift away from the current defensive positioning.

Having said that, the capital markets have already processed an onslaught of negative influences at a very swift pace in recent weeks. This is true for the fixed-income segment – which saw rising yields on safe-haven government bonds and widening spreads on opportunity-oriented sub-segments – as well as for equities and commodities. Typically, the bond markets are the first to respond to deteriorating conditions, followed by the equity markets and finally commodities. This pattern has been seen once again in the current environment. On this basis, the UIC expects the recovery in these sectors to commence in reverse order. However, at this point in time, the committee believes that the aforementioned key factors are not yet on a sufficiently solid footing to make a sustained recovery a likely prospect. It therefore regards it as advisable to maintain a defensive stance. Active management, intelligent use of relative positions and careful security selection remain key elements of a successful investment strategy in this environment.

Economy, growth, inflation

Economic momentum continues to slow around the world. The drivers differ depending on the region, but the outcome is ultimately the same across the board. In the US, for example, the economy is still in very robust shape and the labour market is booming. But at the same time, the real estate market is flagging, as evidenced by a decline in the NAHB property index and a fall in the number of building permits issued. Far from being a surprise, this shift has in fact been carefully orchestrated by the US Federal Reserve (Fed). The central bank wants to lower aggregate demand in order to bring high inflation under control. News on this front was not positive in August as consumer prices rose again, up by 8.3 per cent year on year. This is the lowest figure since April 2022, but nonetheless higher than analysts had expected. The biggest cause for concern from a monetary policy perspective was probably the core rate of inflation, which rose by a substantial 0.6 per cent compared with the previous month. Housing costs were a key driver behind this increase.

Against this backdrop, Union Investment’s economists expect that the Fed will tighten its monetary policy more rigorously and rapidly than previously anticipated, ultimately pushing the US economy into a recession. They have thus adjusted their economic outlook and now predict a slight contraction in US GDP in the first and second quarters of 2023. For 2023 as a whole, they lowered their growth forecast from 0.8 per cent to minus 0.2 per cent. This forecast is significantly lower than the market consensus. Nonetheless, our economists do not foresee a deep recession as there are no pronounced imbalances in either the corporate sector or among private households. In addition, rising employment and sustained wage growth are having a stabilising effect and averting a serious collapse in consumer spending.

Economic conditions in Europe are much more precarious. The old continent is also suffering from high inflation, but here, it is being driven predominantly by supply-side factors rather than demand. Above all, soaring energy prices are pushing up inflation. This was illustrated in impressive fashion by producer prices for August in Germany, which were up by 45.8 per cent compared with August 2021. According to data published by the German Federal Statistical Office, the cost of energy in mining, manufacturing and the utilities sector went up by 139 per cent.

Inflationary pressure is starting to weigh ever more heavily on economic growth. Both the purchasing managers’ indices and consumer confidence indicators for the eurozone have recently deteriorated noticeably, as has the German ifo Business Climate Index. Foreign trade, typically a strong pillar of the European (and especially Germany’s) economy, is currently not providing significant stimulus due to the uncertain coronavirus situation in China and the continuing global slowdown in economic growth. Union Investment’s economists have therefore also downgraded their growth forecasts for the eurozone. For the bloc as a whole, they predict a contraction in GDP of 1.0 per cent for 2023, while Germany’s GDP is expected to weaken by as much as 1.4 per cent.

On the commodities front, inflationary pressure should ease a little over the coming months. Prices of many commodities, for example industrial metals but also oil and gas, have fallen somewhat over the summer months. In addition, year-on-year effects should result in lower headline inflation rates (i.e. inflation including energy and food prices) going forward. This should first materialise in the US and, with a certain time lag, also in the eurozone. However, the latest data points also indicated that core inflation (i.e. inflation excluding the highly volatile prices of energy and food) is becoming more entrenched. This trend is set to continue in the coming months, which means that the upward pressure on prices will persist for the time being.

Monetary policy: “whatever it breaks”

Against this backdrop, central banks around the world have been very vocal about their determination to curb inflation. In the week commencing 19 September, no fewer than twelve central banks held meetings, ten of which resulted in interest-rate hikes. The Bank of Japan (BoJ) and Turkey’s central bank were the only ones to buck the trend. Sweden’s Riksbank, the Swiss National Bank and the Bank of England all implemented sizeable interest-rate increases of 100 basis points, 75 basis points and 50 basis points respectively. Squarely in the spotlight was the US Federal Reserve, which used its September meeting to adopt a third consecutive rate increase of 75 basis points. This takes the Fed’s target range to 3.00–3.25 per cent. Fed chair Jerome Powell announced the rate hike in a statement that clearly conveyed a continued focus on tightening monetary policy. Once again, it was emphasised that combating persistent levels of excessive inflation remains the number one priority. Even though the Fed generally has a dual mandate of ensuring price stability and promoting maximum employment, its focus at present is – without a doubt – heavily skewed towards the former. Union Investment’s economists have adjusted their monetary policy forecast for the US to take account of this. They now believe that the Fed funds rate will be raised by a further 125 basis points by the end of 2022 to a target range of 4.25–4.5 per cent. More specifically, they predict another increase of 75 basis points in November, followed by an increase of 50 basis points in December. For the coming year, they expect neither further interest-rate hikes nor the interest-rate cuts that are still being priced in by the market.

The European Central Bank (ECB) raised its key interest rates by 75 basis points at the start of September. Persistently high inflationary pressure means that the bank will probably continue on this trajectory at forthcoming meetings. Union Investment’s economists anticipate interest-rate increases of 75 basis points and 50 basis points respectively at the ECB’s meetings in October and December 2022, but no further increases in 2023.

Accelerating rent inflation is pushing up core inflation in the US

  • US: change in rents

    US: change in rents
    Source: Macrobond, as at 27 September 2022.
  • US: change in consumer prices

    US: change in consumer prices
    Source: Macrobond, as at 27 September 2022.

Fixed income: yields maintain their uptrend

With it becoming clear that the central banks will hike interest rates further, bond market yields will continue to enjoy a tailwind on the whole. Yields on ten-year US government bonds, for example, are getting ever closer to the 4 per cent mark, having been at a little over 2.5 per cent at the start of August. The inverse US yield curve meant that shorter-dated paper hit this milestone in September, and two-year US Treasury yields are now at roughly 4.3 per cent. In the eurozone, bond prices fell as quickly as they had in the US. Yields on ten-year German government bonds rose from 0.78 per cent at the start of August to reach their current level of 2.14 per cent, while their two-year counterparts increased from 0.27 per cent to 1.95 per cent. The yield curve is therefore becoming increasingly flat, a trend that is likely to continue given that the ECB is expected to put up its key interest rates. Moreover, the short supply of – and demand for – safe-haven paper (eligible collateral) is bolstering short-dated German government bonds. As anticipated, the alliance between the Eurosceptic parties Fratelli d’Italia, Lega and Forza Italia won the majority of the votes in Italy’s parliamentary election. However, the composition of the new government and its policies are not yet clear. Bonds from the eurozone’s periphery responded with a slight widening of spreads but, overall, they have remained within a relatively narrow range for some months. Following the latest widening of spreads, Union Investment’s experts believe that concerns about the economy are now slightly better priced into corporate bonds again, but it is still a bit too soon to adjust the position. In the case of bonds from the emerging markets that are priced against US government bonds, the attractive yields have to be weighed up against the damping effects of the Fed’s monetary policy and country-specific risks (e.g. the upcoming presidential election in Brazil).

Equities: monetary policy and interest-rate rises are the main influencing factors

The restrictive approach taken by the main central banks, which are evidently prepared to risk a recession in their quest to tackle inflation, marked an end to the rally seen in the equity markets over the summer. Instead of hopes of a ‘soft landing’ for the US economy, there were growing fears of an overshooting of US monetary policy, which would likely result in negative growth rates for the US economy. Leading indicators point to a decline in order levels, which is also reflected in companies’ slower profit growth and more cautious outlooks. Since the beginning of July, equity analysts have lowered their profit expectations for US corporations in the upcoming third-quarter reporting season by almost 7 per cent. This reduction can partly be explained by the strong US dollar, as it means that US companies operating internationally are seeing profits earned abroad dwindle or disappear completely when converted into their home currency. Conversely, this is providing support for the profits of European companies, but only where it more than offsets the cost of imported raw materials and base products billed in US dollars. With interest rates continuing to rise, there is sustained downward pressure on valuations. Despite the weakness of economic growth in China and other emerging markets, equities from these countries are likely to be slightly less affected than those from industrialised countries.

Commodities: weak growth is taking its toll on prices

The slowdown of the global economy, the restrictive monetary policy of the major central banks and the strong US dollar have led to falling commodity prices across all sectors in recent weeks. The drop in prices was particularly pronounced for energy commodities such as crude oil, oil products and natural gas, shortages of which have decreased owing to increased production, reduced demand and substitution effects. Overall, the market is in equilibrium. On average, energy prices have slid by almost 30 per cent since mid-June (as measured by the MS RADAR Energy ER index). Despite the sell-off, the forward curves look robust, although some have already dropped below the values that Union Investment’s experts consider to be fair. Nonetheless, the UIC is retaining its underweight position in energy commodities because prices are still falling. China’s weak economy continues to impact on industrial metals. However, inventory levels are beginning to diminish. As interest rates and yields rise, there are also increasing opportunity costs for holding gold rather than safe-haven government bonds such as US Treasuries. Investor demand for this precious metal has cooled markedly and is unlikely to bounce back quickly in the current environment.

Currencies: intervention from central banks

In the currency markets, the trends observed in previous months are continuing unabated and, in some cases, are actually gathering pace. The US dollar appreciated further as a result of the increasingly restrictive tone at the Fed, which has said that it will be fully focused on bringing down inflation in the months ahead. Another reason for the greenback’s appreciation is that the US economy is still more robust than other economic areas. On a trade-weighted basis, the US dollar reached its highest level since 2002; and it has not been so high against the Japanese yen since as far back as 1990. This is because the monetary policy of Japan’s central bank has remained the polar opposite of the Fed’s so far. The Bank of Japan is expected to stick to its ultra-expansionary approach until its governor, Kuroda, leaves office at the end of March 2023. Last week, however, the BoJ was forced to prop up the weak yen by making purchases in the currency market. In addition, the People’s Bank of China tried to stem the yuan’s rapid depreciation. And following the new UK government’s announcement of a vast economic package, the pound slumped against the US dollar and came close to the all-time low reached in February 1985. The US dollar also continued to rise against the euro – albeit to a lesser degree than against other currencies – and therefore moved well away from parity. The UIC is using the BoJ’s intervention as an opportunity to close out the remaining long position in Japanese yen against the euro. This means that there is currently no active currency position.

Convertible bonds: caught up in the wake of equity markets turmoil

The recovery of the equity markets came to an end in recent weeks, with prices falling. Convertible bonds were not immune to the movements of the equity markets and also declined. Paper from the US saw the biggest price drops, whereas Asian convertibles held steady. Average equity market sensitivity went down sharply from 53 per cent to 46 per cent. Valuations remained relatively low. A small number of new issues were placed, meeting with good take-up in the market.

Our positioning

As at 27 September 2022.


Unless otherwise noted, all information and illustrations are as at 27 September 2022.

Market news and expert views

Market news and expert views: September 2022

Economy, growth, inflation and monetary policy – the monthly report ‘Market news and expert views’ will keep you informed about the latest developments and our expert assessments. It will also give you a comprehensive review of and outlook for the relevant asset classes.
(As at 26 August 2022)