Allocation Views: Investing Through AI Crosscurrents

Summary

Robust growth and underlying corporate fundamentals support a continuation of our “risk-on” approach, despite recent market volatility driven by concerns about rich valuations for global technology stocks.

Besides solid fundamentals, our analysis of artificial intelligence (AI) demand shows consistent adoption, despite concerns around financing and commoditization. This research supports an AI tilt within our equity portfolios, with a preference for the United States, emerging markets (EMs) and Japan.

Inflation remains a primary driver of bond markets and has influenced our fixed income positioning moving into November. A reflationary environment in the United States means we have curtailed our optimism toward US Treasuries, as we see greater relative value in international bonds issued by countries with weaker macro backdrops, such as the United Kingdom and Canada.

Macro Themes

Strong Growth

• Macro growth remains strong, supported by resilient corporate earnings power.
• The US economy has proven especially resilient. Estimates of US growth are above-trend, while the labor market appears stable.
• Leading economic indicators and business activity appear healthy, but we are monitoring the impact of higher rates and input costs.

Inflation Uncertainty

• The US inflation picture remains challenged by a prolonged period of elevated core readings. Recent sticky data supports this view.
• We expect limited second-order effects from the energy impulse, as supply-driven inflation reduces real incomes and suppresses consumer spending.
• Core goods inflation remains a concern. Tariff pressures have waned, but we are monitoring global supply chain tightness.

Tighter Monetary Policy

• Heightened tensions in the Middle East continue to influence a recalibration of policy expectations, with a tightening bias in all major regions, including the United States.
• The market now expects a more hawkish Federal Open Market Committee (FOMC) as the US Federal Reserve (Fed) focuses on reinforcing its credibility.
• US midterm elections should have little impact on fiscal policy or bond yields, although debates on budgets and the debt ceiling may cause some volatility in bond markets.

Portfolio Themes

Cross-Asset: Risk-On

• Corporate fundamentals remain strong amid double-digit earnings growth expectations for the next 12 months.
• Macro growth remains constructive but is offset by a complicated inflation and policy backdrop.
• Sentiment and positioning have become more supportive amid equity market volatility, particularly around AI-sensitive themes.​

Equity Diversification

• Our equity exposure is tilted toward artificial intelligence (AI), reflected in overweight exposure to the United States, emerging markets ex-China (EMs), and Japan.
• Optimism around US earnings breadth is confined to large-cap stocks, as higher interest rates disproportionately affect small-cap earnings.
• Australian equities remain our least-preferred region due to a mixture of weak domestic growth, unsupportive fiscal policies and tight monetary policy.

Value in Duration

• We expect higher energy prices to weigh on demand, potentially reducing the likelihood that major central banks raise rates as much as markets currently anticipate over the next year.
• We hold a relative preference for international bonds, downgrading our view of US Treasuries amid a reflationary macro backdrop.
• We believe equities may offer more attractive relative return potential than credit, supported by strong earnings expectations. Heavy AI-related issuance is also pushing yields higher, crowding out lower-quality issuers.​