Key points
- Recent market volatility reflects a fundamental shift in the dynamics driving equity markets. We believe what we're witnessing is not merely price fluctuations but a recalibration of the relationship between primary market drivers.
- The path forward requires disciplined analysis to understand the new reality of corporate earnings across regions. This environment demands both resilience and opportunistic positioning, with rigorous region-by-region assessment to navigate what remains an uneven landscape.
- The late-cycle volatility, intensified by a shifting in the underlying rules of the road, is creating selective buying opportunities for discerning investors across undervalued regions.
Speakers
- Niamh Brodie-Machura Co-CIO, Equities
- Henk-Jan Rikkerink, Global Head of Multi-Asset, Real Estate and Systematic
- Matthew Quaife, Global Head of Multi-Asset
- Oliver Trimingham, Global Industrials Sector Lead Analyst
Current market backdrop
Matthew Quaife: We came into this year looking at four domestic policy areas for the US administration: immigration, tariffs, fiscal policy and deregulation. What has spooked markets has been that tariffs have been bigger, bolder and more immediate, albeit now with a 90-day pause.
In terms of how we think about growth and inflation over the coming quarters, over the long term between 1-3 years and beyond, we see a material effort to rewire global trade and rework political alliances, which will impact all asset classes and earnings. In the medium term over 3-12 months, we expect a material impact on consumer and corporate confidence, which will have a downward impact on growth. In the short term, we expect data to be noisy and this will have an impact on various buying patterns. This will take a few months to have an effect on hard data.
Shifting ground in equity markets
Niamh Brodie Machura: Recent market volatility reflects a fundamental shift in the dynamics driving equity markets. We believe what we're witnessing is not merely price fluctuations but a recalibration of the relationship between primary market drivers.
At its core are three critical factors: earnings expectations, long-term structural growth assumptions, and required rates of return for perceived risk. We believe the ground on all of those issues has moved.
Entering 2025, economic forecasts increased the probability of recession and stagflationary risks in the US, driven by tariff concerns and deteriorating economic indicators. Small business metrics, consumer confidence, and broader momentum indicators showed signs of weakness. Given that US economic growth and innovation globally have been the oxygen driving equity markets, the sudden removal of this oxygen - driven by tariffs - has triggered significant repricing.
The market's vulnerability has also been amplified by elevated US valuations that had priced in continued robust growth. When growth expectations falter, investors reassess what they're willing to pay, creating a multiplier effect where both earnings expectations and valuation multiples compress simultaneously.
While the recent pause in reciprocal tariffs for some countries has reduced immediate growth risks, significant concerns remain. Market expectations of double-digit US earnings growth for the next two years are at issue and the path forward requires disciplined analysis to understand the new reality of corporate earnings across regions. This environment demands both resilience and opportunistic positioning, with rigorous region-by-region assessment to navigate what remains an uneven landscape.
Not all crises are the same, but history does rhyme. One key lesson is that volatility in the equities market is to be expected and does not at all detract from the fact that over the long run it is, within public assets, expected to be the highest returning asset class. But what separates investors from speculators is understanding this as well as having patience and investing through the volatility and through the cycle.
There are three key questions to address: valuations, leverage, and earnings quality. While US valuations appeared elevated compared to the rest of the world, we are not in bubble territory.
Our view is that the corporate sector globally maintains robust balance sheets, and banks are well-capitalised following years of regulatory oversight, reducing the likelihood of systemic risk. There are pockets of leverage and issues in some parts of the market that could cause short-term dislocations, as there always are, but this is not creating any immediate elevated risks in the corporate sector.
The key opportunity lies in disciplined, granular analysis - evaluating earnings sustainability on a country-by-country, sector-by-sector, and stock-by-stock basis. This late-cycle volatility, intensified by shifting ‘rules of the road’, is creating selective buying opportunities for discerning investors across undervalued regions.
Industrial Sector: Navigating tariff complexities
Oliver Trimingham: Our global analyst team have been conducting rigorous analysis on tariff implications through a two-pronged approach. Initial efforts focus on quantifying first-order impacts by calculating blended average cost increases for affected companies through supply chain mapping and origin assessment, helping to identify corporate sensitivity to tariffs and immediate risks for our portfolio managers.
More valuable insights emerge from second-order analysis examining longer-term competitive implications. Key questions include: Do companies possess excess US capacity? Can they leverage pricing power to pass higher costs to consumers? Will different sourcing footprints create competitive advantages or disadvantages?
Our on-the-ground research team and access to companies also provide critical insights far beyond the headline reactions. We also work collaboratively with our global portfolio management team to gain a nuanced understanding across the whole value chain on multiple complex issues.
The recent tariff pause has significant implications. While immediate price increases have been averted, supply chain disruption persists. Companies face documentation burdens proving component origins, and a likely acceleration of pre-buying behaviour is expected in Q2 as businesses rush to secure supplies during the 90-day window.
Business confidence has been shaken, with capital expenditure decisions being delayed rather than cancelled at this stage. Companies are hesitant to commit to new production facilities without clarity on future tariff regimes, creating a cautious industrial investment environment.
Fixed Income Markets: Navigating extreme volatility
Mike Riddell: Recent fixed income volatility has reached levels rarely seen since 2008, with the MOVE index (measuring implied volatility across the US yield curve) approaching Covid-era highs. This turbulence has been particularly pronounced at the longer end of the curve amid tariff uncertainties and potential fiscal responses.
The current volatility emerged from a starting point of extreme complacency. In January, markets were pricing in a base case of Fed Funds rate never falling below 4% and projecting perpetual 3% US growth, with credit spreads at record tights and equities at all-time highs. This absence of risk premium has particularly amplified the recent market action.
Despite the rates market turbulence, credit markets have seen less volatility than expected. For instance, high-yield spreads widened from high-200s to mid/high-400s basis points (bps)—significant but nowhere near recessionary levels of 600+ bps. Similarly, BBB corporate spreads peaked around 150bps versus potential recession levels of 250+bps.
We entered this volatile period underweight credit risk given valuations were priced for perfection. We have recently been selectively adding credit exposure as we have started to get compensated to take on risk.
US Treasuries have become more attractive following recent selloffs, with weaker growth and reduced inflation risks supporting the case for lower yields. While market liquidity remains impaired with wider bid-offer spreads, it hasn't reached crisis levels seen in March 2020.
The most significant concern lies in potential spillover effects to other sovereign markets with limited fiscal headroom, as seen in correlated selloffs in UK gilts.
Finding long-term opportunities amid volatility
Niamh Brodie Machura: Our equity portfolio managers are maintaining their disciplined approach across mandates while adapting to structural market shifts. Defensive and income portfolios continue to demonstrate resilience through investments in companies with strong free cash flow rather than speculative growth stories. The same is true for our value portfolio managers.
For growth-oriented portfolios, managers are conducting comprehensive reviews at both aggregate and individual security levels, identifying potential vulnerabilities in supply chains and reassessing valuation implications. This systematic analysis occurs sector-by-sector and region-by-region, evaluating whether risks and opportunities are appropriately priced.
Throughout this process, portfolio managers remain anchored to client expectations while recognising that adaptation to structural change in the economy is essential. As ever, our team is working to distinguish between transitory market noise and fundamental shifts requiring portfolio adjustments, while responding to changing economic landscapes.
Oliver Trimingham: The market volatility is creating distinct investment opportunities for our research team. Our analysts are evaluating how the normalised earnings power of companies evolves under shifting tariff regimes and global economic conditions.
The team is identifying several categories of opportunity: stocks that have sold off appropriately based on fundamental changes; those misvalued due to market misunderstanding of tariff complexities; and companies temporarily depressed by recession fears but well-positioned for the eventual recovery.
Most compelling are businesses poised to benefit from structural shifts in the global economy. One emerging theme is the continued revival of US manufacturing capital expenditure. With low unemployment and a declining manufacturing workforce, companies providing automation equipment stand to gain significantly as domestic manufacturing capacity expands—a trend likely to accelerate under the current administration's policies.
Mike Riddell: Current fixed income markets offer several strategic opportunities where price dislocations have occurred. With a global fixed income mandate spanning rates, inflation, credit and foreign exchange, we're seeing compelling value emerge in specific areas.
US rates, particularly long duration, have become increasingly attractive given persistent uncertainty driving weaker growth forecasts, while inflationary pressures appear more contained than previously feared.
While credit valuations have improved, they remain fair rather than cheap, supporting a measured reduction in underweights without aggressive bullishness.
Inflation protection presents compelling value with markets pricing tariff impacts as entirely transitory. US inflation expectations show 3.5% for the next year but only 2.3% thereafter, while Eurozone expectations remain exceptionally subdued at under 1.5%.
Perhaps most compelling are emerging market debt opportunities, particularly local currencies. With the US dollar near multi-decade highs, potential dollar weakness would significantly benefit emerging market assets. The combination of attractive real yields (Brazil at 10%, Colombia around 7%) and extensive risk premium creates a compelling valuation proposition that contrasts sharply with the stretched valuations of twelve years ago.
Matthew Quaife: A strong approach here is to build a stable portfolio to see through the volatility. In equities we like structural stories of domestic resilience, earnings confidence and rate sensitive areas more than consumer related areas. Away from equities, gold and bonds have a role to play, whilst we saw volatility in bonds, it is likely the lower growth outcomes will help them perform as long as inflation is not too aggressive. We also like using currencies like the yen to stabilise portfolios.
On China, there is no doubt this will be a strong headwind in the short-term, and we might see additional stimulus. China tends to plan on the long-term and they are likely to take such an approach to this difficult situation with the US. Moreover, it is important to remember China is making real artificial intelligence gains, so there are thematic stories that are not reliant on physical exports.
Outlook
Niamh Brodie Machura: So, as I think about the long-term outlook for global equity markets there may be a change in the longer-term ordering, and a change in what has been very clear US exceptionalism. For Europe, openness to trade remains a priority and the continent has options as the world order changes.
Some of the major economies, like Germany, are in a decent fiscal position. But if the two biggest economies - US and China - are at loggerheads, and if they head into a recession, the entire world will not be immune. So, while I think we still have a bright future ahead, it may be a rocky road to get there.
