Hello there, and thanks for joining our latest monthly webinar that I've been hosting, running through some of our thoughts around global macro markets, trying to make sense of this world around us. And as usual, I'm planning to speak for about sort of 25 minutes or thereabout, just to hopefully leave some time at the end for some questions.

Anyway, I'm not going to leave it in a longer, I'll just jump straight into it, because obviously plenty to speak about and cover from a macro perspective, around the world at the moment. And sharing some observations fresh off a trip to Washington D.C. with policymakers last week, and I think that one of the initial comments here that I would reflect on is that it's one of those moments that you do a trip, and what you really discern is quite a material disconnect between what you're hearing from policymakers compared to perhaps what the embedded wisdom is sitting with financial market participants at the moment.

In particular I think that, speaking with policymakers, also meeting with physical commodity traders, I think there's a lot of focus on the prospective disruption to economies, which is likely to be manifest on the back of the supply chain disruption that is being warped by the closure of the Strait of Hormuz. And I think that the reality of that is still yet to be properly felt.

Bear in mind, obviously, oil tankers, if you like, they travel at the speed of a bicycle, and so, from that point of view, only the last of the Gulf shipments were arriving in Southeast Asia last week. And so, it takes a number of weeks before the supply issues really start to kick in.

But given what's already baked into the cake now, in terms of supply chain disruption, we can see how this is going to have a building economic impact over the course of the next couple of months. And of course, we still haven't seen the reopening of the Strait to this particular point. And for every day the Strait remains closed, obviously some of those supply pressures are just continuing to build.

In some ways, I'd almost sort of cast my mind back a little bit to the days of COVID. If we think back that far, I can still remember distinctly in January and February of that year, looking at the news flow, looking at this nasty-looking virus, which was steadily spreading and moving our way.

And at the same time, in that moment, life was carrying on very much as normal. We didn't really change our behaviour, and it was only when the reality really landed on our shores, we were forced into lockdowns, that you saw a more radical adjustment. Also, an adjustment that obviously was having a big bearing on financial assets at the time.

In the same way I do think, it could be as and when supply chain sort of restrictions really hit, this is going to be something that could have a bigger psychological impact than we've seen up until this particular point. And here, of course, we've been sort of focused on what's been happening around refined product.

It's clear that we're going to see shortages of product like diesel, of jet fuel, imminently. And of course, already this is starting to have an impact now. I think it was last week that Lufthansa cancelled 20,000 of its flights from its schedule over the course of the coming months.

I think that we'll be seeing more airlines follow in its wake as you're needing to reassess plans here. And effectively, what needs to happen when you reflect on the fact that the market is short, there needs to be an element of demand destruction before you can effectively align supply and demand more effectively and bring markets more into balance. But that does infer, sort of, elevated prices and an economic impact both on inflation and also on economic growth.

But, to this point the story isn't just about what's happening in oil. I've mentioned on prior calls how 25% of global fertiliser is moved through the Strait of Hormuz. And to give you a sense of the issues that we see occurring in that context, every 1 ton of fertiliser that's not been delivered, that's effectively 50 tons of food that we're going to be short of come the end of the year.

And from that perspective, there is this sort of narrative that actually the energy crisis in the global north going to be mirrored more by more of a food, a starvation crisis, if you like, in parts of the global south. We're already worried, for example, about the outlook and the context of a country like Bangladesh that looks like it will be facing a calorie deficit.

Furthermore, we see disruption to other sectors like sort of chips in the semiconductor space as we run short of helium. We're seeing issues around aluminium. We may even be sort of running out of cans for Diet Coke. What on earth will we do?

But you can see how across the global economy and interconnected supply chains, there are these impacts on prices that are already starting to show up. Already starting to see some fairly material jumps in food price inflation, and I do think that, in many respects, maybe some are slow to realize the magnitude of the likely inflation impulse that is going to be washing through the global economy over the course of the next few months.

At the moment, we've been sort of pencilling in the idea that on both sides of the Atlantic, we'll probably see CPI around about 1% higher than it otherwise would have been if we hadn't have been facing this particular shock. That'll put US inflation going up to 4, eurozone inflation going to 3.

In the context of the UK, we think that inflation is going to go above 4, but herein I'd emphasize that those projections have assumed that effectively would be sort of reaching the end of the conflict. We'd end up with a reopening of the Strait come the end of this month. With that now looking less and less likely. The thought that we may end up with a more protracted period of closure of the Strait is only going to build and exacerbate some of those inflation fears.

So, effectively if you like, as a simple rule of thumb, I think you can effectively add 0.1 onto your inflation number for every week that we're keeping that straight now closed. At the same time taking about 0.1 off the likely growth outcome at the same time.

On the growth side, I think although the inflation shock, we think, is kind of mirrored on both sides of the Atlantic. From a growth perspective, we do think that the impact is going to be much more severely felt in Europe and a number of Asian markets, where you actually enter physical supply shortages.

In the US, relatively speaking this is going to be less of an issue. You're self-sufficient in food and energy, you don't run out in the same way. Moreover, what we can see happening is, as sort of shortages occur and start to kick in to a greater degree, expect more and more countries to have a nationalistic approach towards trade, and that means potentially restricting trade in certain products, which means that if you are an economy that is reliant on others for delivering your energy imports, potentially here you're exposed to a much bigger economic downside.

So, from a growth perspective we still see the US economy this year growing around 2%. In the eurozone, that growth number is likely to be around 0.5. But we're now moving towards the realm if we extend this sort of crisis for another month, we start to move to a point, we think, where we'll be talking about a recession in Europe as being more of our base case, rather than a risk case.

And from that point of view, we don't think that this is something that's really factored into financial market pricing. In many respects US stocks, the S&P, are being driven higher by retail participation, ongoing leverage from retail investors buying stocks on margin, chasing earnings momentum, that's what really matters.

And in a way, you kind of get it. In the Middle East, in the US, the Middle East seems a long way away. They're still looking at nominal GDP growth in the US of around about 6 on the year. That will drive earnings growth that can continue to drive interest in stocks.

And so, from that point of view the S&P has been doing better. But I think it's a bit naive to look at the S&P and take that as a cue for the valuation of all other global risk assets, to be supported by that particular price action, because as I say the economic reality in a number of other countries and economies is going to be very different.

Certainly, when we start talking about recession becoming more of a base case, you need to factor that into things like credit spreads. It does mean that you're likely to see an elevated default experience if that's the direction of travel. And certainly in a number of sectors, we do see real problems growing, real sort of issues potentially ahead of us.

I'd also highlight the other thing that was interesting in Washington was speaking with a number of those very close to what's happening around the national security agenda and actually really coming to understand that there are a significant number of voices here who actually think that the most likely path forward in terms of the Iran conflict is going to be renewed military escalation.

And so from that perspective, I think if you were polling market participants, you'd probably have a renewed bombing campaign as something with a probability of less than 5%, but some of the most informed individuals and voices that we respect the most in DC were actually running with that view as a base case.

And so, I would suggest to you today that actually you probably need to factor in a 25-30% chance of a renewed sort of military sort of flare-up. And were that to occur, I do think that that would take markets by some surprise. I don't think markets are at all positioned for that particular outcome.

So these thoughts sort of fill me with a sense in which I currently want to adopt a relatively conservative posture when it comes to looking at the backdrop for risk assets, albeit, as I was saying, I think that we're particularly concerned around exposures in Europe and a number of Asian economies, which are oil importers. Relatively speaking, US assets may actually hold up better, given that you are not seeing the same magnitude of supply chain disruption.

I also think that coming off this, eventually over time we're likely to see more economies, more governments, look to actually learn the lessons of COVID and of the Russia-Ukraine conflict, and now the Middle East conflict. And that is to say, we can't be wholly reliant on others when it comes to physical security, energy security, food security.

Actually, there'll need to be more investment in our domestic economic architecture to ensure that's the case. And again, that sort of narrative is one that ties in with a bit of a retreat away from globalization.

In turn, over time, that's a factor that may be a negative for the US dollar, and we could see sort of portfolio shifts in a more of a home bias kind of situation, leading sort of reduction in overseas dollar weightings on the part of international investors.

I think from that perspective, that narrative, that shift away from the dollar, is a reason why, even though the US economy looks to be in better shape here on a relative basis, on an absolute basis we do think the agenda here, and the way in which the US has handled itself in the foreign policy sort of situation is actually leading to this asset allocation shift away from the dollar and dollar assets, which is something that's a medium-term trend that may re-exhibit itself in the fullness of time.

So, this is the way in which we've been sort of thinking through markets. I think the other strong view that we have been highlighting as well comes back to private markets. Maybe I ranted about this last month, but I'm going to rant again. There is no alchemy, there is no magic, despite what you've been told when it comes to investing in private markets. If you invest in private markets, effectively it's a game around leverage.

When leverage is really cheap, private markets are great, because you get access to that cheap leverage, and then if you have got a lot of gearing on your balance sheet, then that does very well for you. But that's a reason why private markets were so good in the 2010s.

But more recently ever since 2022, a normalization of interest rates have meant it's a much tougher environment for private markets. And actually, with the problems that are built in areas like software, this is the part of the market that's been screaming for lower interest rate cuts more than any other jurisdiction.

However of course, now the fact that we're seeing higher inflation is the reason why we're not going to be seeing those rate cuts anytime soon. And so here, we continue to see the problems build in private markets.

I feel that having been a bear here for the last couple of years is a bit of a I-told-you-so sort of moment. I don't take any joy in saying that, but I have been sort of making the point, making the case that where investors have got the ability to invest in less liquid assets, they should actually be looking at much more profitable areas, including emerging market liquid credit, or for that matter, European stressed and distressed debt.

These are the areas that we think offer more interesting investment opportunities. But that sort of problem in that corner of the market, I think, is something that is maybe having its presence felt in other parts of the high-yielding space. It means that we've been more cautious when it comes to CLO equity and parts of the credit market at the lower quality end.

But in terms of high-grade borrowers, still there continues to be demand for yield, demand for credit, which is just as well, because we're seeing an abundance of supply at the current point in time.

All of this is keeping spreads pretty unchanged at the moment, but again I would be voicing the thought that with European spreads returning back to where they were at the start of the year, back towards historic tights, you're not really being compensated very greatly now for some of the economic risks that you're actually facing in the region, and so now is the time that we have been sort of reflecting a bit more caution in this regard.

As to central banks, I should cover those. It's a big week for central banks this week. We've got basically every central bank in the G7 is having a meeting over the course of the next few days, starting with the Japanese overnight tonight. Bottom line, we don't expect any of these central banks to be moving on policy this month. However, we're expecting both the BOJ and also the ECB to tee up rate hikes come their next meetings, which will be taking place in June.

By contrast, I think the barrier to hike interest rates in the Fed is very, very high. Yes, it looks like Kevin Warsh, his nomination is now going to get confirmed, albeit we may end up with Powell now hanging around. This cloud around the investigation is not completely lifted from him, despite the news that we got at the end of last week. And so, some Washington insiders may think that Jay will stay on as a governor for another few months.

But when it comes to Fed policy, the bottom line is no rate cuts this year, because inflation's going to be too high. As I said, we think it's going up towards 4%. But we can't see the Fed hiking. I think they'll want to look through this on the other side of the trade.

When it comes to the ECB, we are pencilling in hikes. We do think you'll see two hikes. And so, interestingly both in the US and in the eurozone, you've effectively adjusted that rate profile by about 50 basis points compared to where we were at the start of the year.

In the UK, the movement in terms of what's priced on rates has been even more extreme. We were pricing two cuts: we're now pricing two or three hikes. That's a big repricing in UK rates, but I would sort of say here that some of that is justified, because the UK is an economy that has a proclivity towards delivering inflation. And the pass-through onto prices is much more, sort of, quick, to occur. Particularly with businesses facing sort of no caps when it comes to electricity costs, for example. Businesses are already being hit. And so having seen an upside surprise in inflation in March, we look for another one to follow in the month of April.

And from that point of view, although we think that the Bank of England would like to avoid needing to hike into what is going to be a weaker economy. The blunt truth here is they may be in a position where they've got no alternative, and they're obliged to move. And so, from that point of view, that's what we're thinking around some of those central bank meetings.

I guess another couple of things to highlight. Firstly, I'm making the point that we think that inflation-linked bonds are interesting. In a way, we have seen a big repricing in rates. We do know that a growth downturn is coming. Ultimately, that'll end up supporting yields, but in the near term, we're more concerned about higher inflation. So, if you're going to own duration, we like owning real yields rather than nominal yields. We like owning inflation break-evens.

As I said, I think there's some investor complacency over how high inflation may go, and if we did see this sort of tail scenario of renewed military intervention. If we did see a situation where things in the Gulf continue to drag on, and these supply chain disruptions continue to run, then from that point of view, we're going to be in a world where the inflation overshoot could be more magnified, more extended for a greater period of time. So, we do like the idea of inflation-linked bonds.

Otherwise, in terms of FX, we have been sort of looking at the currencies that we like. We've been adding exposure in the Canadian dollar. We're looking at Canada as being favourably exposed to the terms of trade shock that is currently taking place. And I don't say that as a proud member of RBC, I've got to love the Canadian dollar. No, not at all. For a lot of the time in the recent past, we've tended to be a little bit more negative on the loonie, but it does seem that things are building in the right direction in terms of the Canadian dollar.

As mentioned, we remain negative on the pound, partly because of the inflation story, but also on the politics. I'm kind of thinking that the next time we do one of these podcasts, I'll be speaking about the upcoming leadership election for a new Prime Minister. Starmer's days look very much numbered on everything that we're hearing from Angela Rayner's camp. There's almost a sense in which she's one to accelerate and bring forward a challenge soon after the local elections are out the way. So, the pound continues to be compromised.

And otherwise, on the yen, the yen continues to look interesting, we continue to like the yen on a valuation basis, and as long as we don't end up in a situation where the BOJ holds rates overnight tonight and then delivers a dovish message, and that causes yen weakness. As long as we don't see that, I think we'll probably be encouraged to add to our long yen position that we've been running up at around 160, we think we're at a level where intervention is likely. Both Washington and Tokyo would like to see a stronger yen, so if we do push above 160, I think that we're likely to see some policy fireworks from that point of view.

At this moment, I think I'll probably leave some of my comments there. I've tried to cover as much ground as I can, as quickly as I can. The lights have come on, maybe I was turning the lights off because I was sounding too bearish. I was talking the world into a dark and miserable place wasn't I and the electricity was draining from the very building. But that being the case, lights are back on.

Let me move now to perhaps take a couple of questions. So, I'm going to pick up my phone and see who has put something into the chat. So, the first question I've got is, “What would be a trigger, what would be bigger in relative size, the market rally on a truce and reopening, or the market drawdown from renewed bombing?”

Well, here I think that because everyone is expecting the truce, I'm not sure that you see much further upside on the outbreak of a peace deal. I'm sure you'd see some positive sentiment, but I'd also point out that with a lot of supply chain disruption still coming our way, with the shortages still coming our way, regardless of whether there's peace or not. Actually, the news flow's not going to be that great, and we still think that oil prices won't go much lower than $70 a barrel in that scenario, so any sort of cheer that we get from a peace deal here may actually be relatively modest, and it may be somewhat short-lived before we go back to focusing on the economic data.

But if we did see a return to bombing, I do think that the drawdown would be much more material. And so, from that perspective, we do look at a degree of asymmetry to the downside.

Second question, “Are global investors over-concentrated in the US markets?” Well here, I think the reality is that sometimes we refer to the TINA strategy. There is no alternative. Investors have ended up owning more and more exposure in the US because indices have become more and more US-centric on the back of the outperformance of capital markets in the United States.

Obviously, the US is an economy which has been growing great guns. It's had a leadership in the emerging technologies of the day, so it's natural to understand, easy to understand, why we've all ended up with very US-centric portfolio allocations.

But I would infer that having met large CIOs, large sovereign wealth funds, large pension funds, other large influential investor groups, pretty much all are saying the same thing. And that is we've got very elevated US asset exposure and exposure to the dollar. Indeed, it's never been higher than it is today, and looking forward from this point, we're all expecting to be reducing that degree of that US exposure.

One other question that's come through has been how should investors be positioning portfolios for current volatility? Well, I guess if you're expecting volatility on an outrate basis, you can actually be buying futures or calls on the volatility index, the VIX.

Otherwise, I think the other thing that you would sort of be observing here is hunker down, batten down the hatches, don't take too much risk, and then look to buy on the back of a dislocation, rather than looking to position in the market today, would be the way that we would be thinking about things at the moment.

Certainly, being bold at this particular moment, doesn't really seem to offer a great risk-reward. I've also voiced the thought that you're looking for the trades that are going to work even into a dislocation. And here, I do think that because the dislocation means inflation, and I do think that markets are anyway complacent around inflation, that inflation break-even trade is one that we think is very robust.

And maybe a last question, “Where is there to hide with this bearish outlook?” Well, sorry to be so miserable sounding, I'll try and be more cheery the next time around. Maybe it's because I'm looking at my cameraman, who happens to be a Leeds fan, sulking after a bad day at Wembley yesterday. I'm a Chelsea fan, so I should be feeling more happy about life, but I would note, for my sins, I know that I'm supporting a club that hasn't actually scored a goal in the Premier League since the Strait of Hormuz has been shut. And so, from that perspective, I've got more of an interest than anyone here in actually seeing this thing get fixed.

But where should you be investing with a bit of a bearish outlook? Look, I've tried to give you a few ideas, a few thoughts, a few hints. I like the idea of inflation-linked bonds. I like the idea of owning, in emerging markets, oil longs versus oil shorts. Some of the countries in Latin America look pretty good, some economies in Asia, look relatively vulnerable. So, it's more of that relative value kind of thinking that I would be deploying.

I would be, elsewhere I'd be saying that when it comes to stocks, I've liked Japan. There are individual stock stories that you'll always be able to find, that you want to be able to go after. Corners of financial markets which are going to be more immune to volatility. But from that perspective, I think the skill here will be making sure that you can sort of deliver portfolios that can capture some upside if all is well in the world, but at the same time, run portfolios that don't deliver losses, if the unpleasant path is the one that lies ahead of us.

With that, I hope you're all keeping well. Thank you for joining again this month. I'll be back online again in a month from now.

All the best. Thank you.