US and European equities are once again near all-time highs, having cautiously climbed their way up over the past few months, with broadly better performance in the more defensive segments of the market. However, after the US Federal Reserve’s (Fed’s) rate cut in September, should there be incremental hopes of a soft landing, we may start to see a shift in the balance of risks incrementally towards more cyclical sectors. For this to be sustained, an improvement in the earnings momentum has to come in as well, especially in places such as Europe where we have seen deteriorating earnings momentum in cyclicals.

Hong Kong/China equities, however, have seen a significant shift in sentiment to one that is risk-on, after the series of coordinated policies and easing measures that exceeded most expectations. In fact, the last week of September was the best week in Chinese equities in 16 years. This will remain the focus of investors’ attention ahead, as well as the upcoming US elections.

Overall, we maintain our Overweight position on the overall equities asset class, led by our Overweight stance on Asia ex-Japan equities, where we are positive on India, Hong Kong/ China, Indonesia, South Korea and Singapore equities.

US – A beneficiary of the Fed rate cut cycle

US equity markets were boosted by the Fed’s move to begin its rate cut cycle with a 50bps reduction in the fed funds rate from 5.25-5.50% to 4.75-5.00% in September. As rates fall and borrowing costs are lowered, corporate profitability should improve, especially for medium- and small-cap companies. This is also in-line with our expectation that the rally will broaden out beyond the mega-cap names into other sectors. Historically, equity price-to-earnings (P/E) multiples also tend to be supported during rate cuts if there is no recession, which is our base case. However, we are also cognisant of several risks on the horizon. Volatility could ensue in the coming weeks as investors could look to lock in profits heading into the US presidential elections. Also, depending on the outcome, there is a possibility of corporate tax increases, which could be an incremental headwind to earnings per share (EPS) growth for companies.

From the latest earnings season, we note that consumers are increasingly value-conscious in their spending while others have also been downtrading. We will be watching out for improvements in consumption sentiment, especially if lower rates and a soft macro landing translates into a more favourable outlook for discretionary consumption.

Europe – Draghi’s report is out; now Europe must come together

Given long-standing concerns over Europe’s competitiveness and strategy for the future, one of the most significant recent developments was the release of Mario Draghi’s long-anticipated report, “The Future of European Competitiveness.” Slow productivity growth over the last 20 years has been identified as the root cause of Europe’s structural challenge, and this has to be tackled in sectors where productivity has been lagging. Thus, actionable policy proposals were recommended for various sectors, of which important thrusts include leveraging on the large single European market to increase bargaining power, as well as standardising equipment and processes for economies of scale. Importantly, total annual additional investment needs came up to EUR750-800b. However, the report comes at a time when political polarisation has increased. Countries need to come together to think for the whole region, and we expect serious work from the new European Commission to start in early 2025, as time is needed for all new Commissioners to be approved by Parliament. 

Japan – Keeping a watchful eye on macro events

The MSCI Japan Index underperformed the broader equity markets in September. We believe there are near-term uncertainties over Japanese equities due to currency volatility, central bank policy action and geopolitical risks. Investors would have to deal with not just the US presidential election but also local elections (first the Liberal Democratic Party election, where Shigeru Ishiba won to become the next prime minister, then the general election to follow). We note that the rolling 12-month correlation between the USDJPY and the MSCI Japan Index has increased sharply since July this year.

We update our earnings growth assumptions and continue to forecast below-consensus EPS growth. We see downside risks to the street’s projections due to the recent steep appreciation in the Yen from mid-July to mid-September, although the currency did see some weakening following the 50-basis points rate cut by the Fed in September.

Asia ex-Japan – Levers pulled to support the capital markets

The MSCI Asia ex-Japan Index saw a firm rebound in September due to the bonanza of policy easing measures announced by the Chinese government. Besides China, we also saw some other governments in the region introducing measures to support capital markets. In Thailand, the government has rolled out the Vayupak Fund, which plans to invest in constituents of the Stock Exchange of Thailand 100 Index or other local stocks with high ESG scores. Investors in the fund will receive principal protection and are guaranteed an annual return of at least 3% for 10 years, but returns are capped at 9%. South Korea has also stepped up on its Value Up Programme, with tax amendment proposals announced and the Korea Exchange unveiled its Value-Up Index, with selection criteria being high price-to-book (P/B) stocks and inclusion priority is given to companies with Value-Up initiatives.

China/HK – Half time reality check

The Hong Kong and Chinese markets saw significant rallies on the back of the policy stimulus focusing and the unusual September Politburo meeting signalling a policy pivot. The coordinated rate cuts and easing measures came in stronger-than-expected. The stock market stabilisation policy and the explicit mention to “stop housing price decline” also exceeded market expectations, signalling the urgency and determination of policymakers to support growth and fighting deflation.  We see upside risk should meaningful fiscal stimulus measures follow up as the implementation details have yet to be announced at the time this was written.

We believe the monthly changes to the People’s Bank of China’s (PBOC) balance sheet and leverage would be key indicators to monitor given that the PBOC will grant loans to both banks and non-banking financial institution (NBFI). We believe brokers and exchanges would be key beneficiaries, along with major index-heavy stocks that have improving earnings outlook, such as key internet and platform companies. We maintain our preference for (i) quality yield stocks despite some recent rotation, as well as (ii) market leaders and reform beneficiaries.

Global Sectors – Fed’s pivot continues to be a key driver for now

Over the past month, the Utilities and Communication Services sectors continued to perform relatively well but it was the Consumer Discretionary sector that has outperformed most as of the time of writing. We continue to believe that amidst the Fed rate cuts and potential volatility leading up to the US election, segments such as REITs, utilities, and biotechnology are relatively well-positioned, and the former two sectors also lend an element of defensiveness during times of uncertainty.

Divergence in Energy and Materials sectors

Meanwhile, although both the Energy and Materials sectors normally move quite closely together, they are now diverging in terms of price performance. The former is underperforming due to concerns of lower oil prices due to an oversupply, and especially on the back of reports that Saudi Arabia is considering returning to its strategy of pursuing market share rather than supporting oil prices. On the other hand, China’s stimulus blitz has injected optimism in the metals markets, supporting share prices of mining companies as well.

Large boost for China internet

Over in Technology, China internet names re-rated significantly in September, catalysed by the stimulus blitz by policymakers in China. We remain constructive on the prospects of online games and local services companies, while selected e-commerce names could benefit from potential market share gains.

In Developed Markets, concerns continue to linger about technology export restrictions and the longevity of the artificial intelligence (AI) trade. We continue to be constructive on the prospects of a number of Big Tech names but believe the broadening rally should also be beneficial to other semiconductor/hardware/ software stocks too. However, we continue to be cautious in the near-term on analogue semiconductors, as some end-markets might still require more time for fundamentals to turn around.