• Markets expect the Fed to raise short-term interest rates for a last time next week to the 5%-5.25% range and continue Quantitative Tightening. The Fed is acting even as the US banking system remains under pressure. The Fed’s tightening only increases the probability it will reverse course more forcefully in the future, in our view.
• As the Fed proceeds, it will be doing so even as the Index of Leading Economic Indicators has dropped by 8% over the past year. The central bank will be tightening even as US money supply contracts meaningfully for the first time since the late 1940s
• While a mild recession for the US is our base case, some unpredictable, negative tail risks are at play, including Congressional negotiations over the US debt ceiling. We think direct hedging of portfolio risks may be appropriate for suitable investors concerned with near-term performance risks. This is particularly the case now that many defensive investments have arguably become “crowded trades.”
• A strong decade of US dollar outperformance in currency markets is ending. This possibly suggests stronger returns for portfolios via global portfolio diversification. While we don’t expect this will necessarily help portfolios in the few key months ahead, we see a potential chance it will support investor returns measured in USD over coming years. We don’t believe US equities will remain above a 60% share of global market capitalization, nor do we think non-US shares will perpetually trade at a 40% valuation discount to the US.

Our Global Investment Committee took a second more sizable step to reallocate away from US dollar assets to improve long-run returns. While we held overall equities at a slight underweight, we shifted 3% of portfolios to non-US equities in Asia, Europe and Latin America.