Exposure rates of the Dorval Asset Management Range – 13th May 2022

US inflation did not ease as significantly as expected in April, as the pace slowed to 8.3% yoy. March’s figures could well have marked the peak in inflation, but increases in the core component – i.e. excluding energy and food – of 0.6% on the month and 6.2% yoy are still the Fed’s chief bugbear. In particular, rising goods prices are trickling through to services (+0.7% on a monthly basis, the highest since 1990) and fueling fears of excessive inflation for the long term.

The median figure for various core indicators is still on an uptrend, with a monthly figure of 0.5% in absolute terms (cf. chart 1). We will pay particular attention to the Personal Consumption Expenditures Price Index (PCE), one of the key indicators used by the Fed, which is due out on May 27th.

 

US CPI: % monthly changes, Total vs. Core figures

Median of four core inflation measures, based on CPI report: Core CPI, Core Sticky CPI, Median CPI and Trimmed mean CPI

 

As things currently stand, the comments from Fed members continue to drive market sentiment. However, figures published this week do not seem to be coaxing the Fed towards a 75bps hike in June. Chair Jerome Powell has confirmed that he expects two 50bps hikes, in June and July.

 

We note the emergence of certain signs of capitulation on the markets, with deflation for the most speculative assets (unprofitable stocks in the tech sector, cryptocurrencies), which have wiped out virtually all their gains notched up since March 2020. Meanwhile, this week’s bond rally is also indicative of investor jitters. We may therefore witness a technical rebound on the equity markets against this backdrop of extreme investor pessimism – as illustrated by the CNN Fear & Greed composite index below (cf. chart 2) – and with the plunge on the US market, which ran up against the 20% threshold during trading.

 

 

 

However, during this monetary policy normalization phase, US market valuations on a capitalization-weighted basis still remain lofty, with a price-to-earnings multiple (P/E) of 17.5x (cf. chart 3). The US market remains fragile in this respect, particularly the major corporations that came out triumphant in the previous cycle.

 

 

Caution remains the watchword on asset allocation, with a persistently unsteady macro pillar and limited visibility on developments over the weeks ahead. In view of the current inflationary environment, we feel that it is still premature to revisit sovereign bonds, with real rates still a far cry from normalization, although US nominal long-term rates may now appear more attractive at around 3%.

 

However, we have tactically raised our equity exposure at the end of the week to accompany a potential technical rebound, remaining consistent with the risk profiles of our various funds.

 

 

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