Cycle and Scenario:
Trump’s re-election has reignited a US "reflation trade”, similar to 2016. However, this time is different: the yield curve reaction, the narrow equity rally led by growth stocks suggest that the cyclical impulse will be more subdued than in 2016.
New US policy may prioritize immigration and tariffs over tax cuts. Tax reforms beyond cut extensions often take longer to implement, requiring congressional approval and facing higher fiscal constraints due to record-high debt and deficits.
New uncertainties are emerging. As the new US administration’s policies intersect with secular trends in productivity, demographics, and labour markets, new concerns arise, mainly related to: i) The trajectory of public debt; ii) The implications of tariffs, and the iii) more uncertain neutral levels of rates.
Lower interest rates, fiscal support, higher productivity, and robust capital expenditure plans will help sustain global growth, even in the face of rising tariffs.
We maintain a constructive risk stance into 2025 despite increasing uncertainty, tight valuations and compressed risk premiums. Three key factors support this view: i) Productivity Growth; ii) Scarcity of Quality Assets; iii) Ample liquidity despite QT.
When we include all these variables in our asset allocation framework, we conclude that the asset cycle in 2025 will likely remain in a mid- to-late phase, with rising inflationary risk but actual inflation moderating. This phase provides a favourable environment for risk assets, as long as inflation risks remain contained.
Against this backdrop, our asset allocation is structured based on three main pillars:
- Moves in FX don't seem to fully reflect the likely impact of tariffs especially for China, Mexico, Canada and to some extent the EZ. We think further positive supply-side developments are a particularly strong pillar of support, as they will allow the US economy to continue its current pace of rapid expansion next year;
- We think the market's pricing of inflation outcomes and yields are too low based on our expectations of incoming fiscal stimulus, higher import tariffs, and immigration restrictions;
- Any catch-up of non-US stock markets could prove premature in a world where aggressive US tariff increases are met by large-scale retaliation, at least until we have more visibility on the terms of the potential negotiations.
Once again, the main risk for our allocation will be a rise in inflation. If inflationary pressures resurface this could significantly alter return dynamics and necessitate significant adjustments in our asset allocation, particularly in terms of duration assets.