Investment opportunities for your portfolio amid resilient economic growth

An important driver of equity returns is the behaviour of economic growth — which has been stronger than expected in recent months. The talk of a recession a year ago has been relegated to a small risk and in its place we have a more positive outlook. This is a constructive environment for corporate earnings, which should help support equity returns. So, there’s a relatively constructive outlook for equity markets. 

There are some caveats. Valuations are stretched in some markets. Geopolitical risk remains elevated and market volatility is likely to rise as we get closer to U.S. elections in the fall. But the more immediate concern is around the stickiness of inflation. Markets started 2024 pricing in quite a lot of rate cuts from central banks the world over. But with inflation proving stickier than anticipated, the magnitude of expected cuts has been lowered. Using the U.S. Federal Reserve (the Fed) as an example, the 30-Day Fed Funds Futures market saw the probability of seven quarter-point rate cuts by December 2024 move from 58.9% on January 12, 2024 to 0% by April 10, 2024. The Fed Funds Futures market is now pricing closer to two quarter-point rate cuts during the remainder of this year.

In the early months of 2024, equity markets looked through that revision in rate cut expectations and the fact that interest rates will likely be higher for longer. Instead, they focused on economic growth and the implications for stronger corporate earnings and profit margins. That focus wavered in April in response to another disappointing U.S. inflation print, and market sentiment soured, at least temporarily. Sticky inflation will likely continue to be a challenge for equities in the next several months. Nonetheless, we continue to expect equity investors to be rewarded for selectivity and a focus on strong fundamentals and relatively attractive valuations.

For bond markets, we’ve become much more positive about the role of fixed income in portfolios. We’ve gone from a world in 2020 where the U.S. 10-year Treasury yield was close to zero to it being close to 4.5% as of the beginning of May 2024. That’s one of the advantages of the current higher-for-longer interest rate environment for fixed income investors. Not only are you getting a more attractive return than you were just a few years ago, but you’re also giving yourself a diversification benefit. If some of the equity risks mentioned earlier — including geopolitical risk and general uncertainty — persist, the performance of the fixed income portion of your portfolio will likely remain relatively attractive.

As long as the economic outlook remains relatively resilient — and we anticipate that it will — attractive equity and fixed income investment opportunities are out there to be found.

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