Multi-Asset Investments Views: Don't let me down

“When you see one cockroach, there are probably more”. This metaphor was coined by JPMorgan chief executive Jamie Dimon after the US regional bank Zions Bancorporation revealed it has been defrauded of around $60m through manipulated loan structures. The fear is that if multiple frauds surface in quick succession, it may indicate deeper systemic weaknesses, especially in some corners of the private credit markets. Recently, the bankruptcy of First Brands Group, a privately held US auto parts manufacturer with opaque off-balance sheet financing, and the collapse of Tricolor Holdings, a subprime auto lender accused of fraud, raised investors’ concerns about governance risks in more marginal parts of the financial system. This last episode of fraudulent activity briefly rattled credit markets and focused concerns on vulnerabilities in the private credit ecosystem.

We remained invested but quiet tactically on credit markets and have been for some time, as we considered spreads to be too tight, offering an unattractive risk/reward profile, but we are not worried about an imminent credit crisis. At below 2%, the non-performing loans ratio of US banks remains far from levels seen in the aftermath of the global financial crisis (it peaked at 7.5% in 2010). The loose covenants and light regulatory environment in parts of the private credit market are not new and can be traced back to deregulatory trends that began during US President Donald Trump’s first term. We remain neutral on credit as we prefer to concentrate our risk-taking within equities.

After six months without a daily correction of more than 2% for the S&P 500, equities endured a bout of volatility on 10 October when Trump took to social media to berate a hostile trade attitude from China relating to its actions on rare earths and export controls. In a classic Trump gesture, he first threatened a massive increase in tariffs on Chinese products, only to finally appease markets later by confirming he will be meeting President Xi Jinping in South Korea -  the first time since Trump returned to the White House. As tariff uncertainty made a comeback, the positioning reduction from volatility-controlled strategies and discretionary investors was well absorbed by the market judging by the limited losses on the S&P 500. This is especially important considering the return to a higher volatility regime also triggered some profit taking in high-momentum trades which have been retail favourites since the market rally began in late April.

In our view, the hyperbolic rise in the gold price and other precious metals is another expression of the speculative trend which was fueled by substantial inflows on exchange-traded funds from individual investors as well as price-insensitive demand from central banks, rather than a higher expression of defiance towards US Treasuries and the dollar. Being at its most overbought in 45 years, the gold sell-off reflects a positioning wipe-out rather than any macroeconomic shock.

We view the recent reduction in investor positioning as a constructive development. From a fundamental standpoint, the macro and micro backdrop remains supportive. Earnings continue to send a constructive message overall in both the US and Europe. The beat rate for the S&P 500 is higher than usual, above 80% at the time of writing and earnings-per-share is on track to exceed 10%, assuming the historical trend of estimate revisions. The combination of looser monetary policy in a non-recessionary economic environment, enthusiasm around artificial intelligence adoption, ongoing fiscal stimulus, and resilient corporate earnings creates a favourable setting for risk assets into year end.

Retail investors’ participation has shifted higher since the pandemic, and has been the backbone for equity risk through the summer