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July Investment Strategy: A fistful of dollar deficits

The end of the US’s deleveraging

  • The deleveraging process in the US appears to be coming to a close. A significant increase in government borrowing is likely to drive overall debt higher, while we expect a modest re-leveraging from households
  • Despite high levels of debt, we do not envisage systemic vulnerability in the corporate sector, given it continues to be supported by strong income and low interest rates. We have identified some pockets of weakness in credit markets, which should potentially only create local difficulties
  • The US re-leveraging should lead to a deterioration of external balances. Over time, the build-up of external indebtedness is likely to create headwinds for the US dollar

Macro: the US economy is most resilient to forecasting disappointment

  • The US has proceeded with tariff increases, with a pipeline threatening around 0.5 percentage point downside risk to growth. US policy still appears primarily a negotiating tactic, but its implementation looks likely to be more aggressive than we had expected and we fear a politicisation of the policy
  • Yet US activity remains robust – we expect 2.9% GDP growth in 2018 - whilst trade softening has made us downgrade our Eurozone growth forecast to 2.3%, even though recent data confirms our expectation of a sequential rebound
  • Several emerging markets are also likely to suffer from US protectionism. We are wary of economies with weaker fundamentals (e.g. Argentina, Turkey and Brazil) or a disappointing demand backdrop (e.g. India and South Africa)

Asset allocation: too soon to turn bearish

  • We maintain our positive view on equities, relative to fixed income and have a short duration bias
  • Emerging markets have started to stabilise after a significant correction in prices and positioning
  • Peripheral spreads have tightened as markets await for the Italian budget proposal in late September

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