Investment Outlook

Hopes of an autumn resolution

Bond yields in Spain and Italy have fallen from the highs seen in mid-July due to speculation that the European Central Bank (ECB) is ready to step up its efforts and intervene once more in bond markets. Minutes of the recent Federal Open Market Committee (FOMC) meeting hinted at further quantitative easing (QE) in the US as the Federal Reserve keeps one eye on next year's looming 'fiscal cliff'.

As we enter an important few months that may settle the fate of the eurozone, we remain cautious in the near term, given the risk that policymakers will again fail to deliver. While many equity markets look attractively valued on a relative basis, our long-term focus remains on good quality companies with robust business models, global franchises and high and sustainable dividend yields. We are also focusing on a suitably diversified mix of index-linked, conventional and good quality investment-grade corporate bonds. Our stance is designed to combine a measure of insurance against further deflationary pressures with reasonable exposure to the assets most likely to generate sustainable positive returns in a fragile economic environment.

UK equity market surprisingly resilient

The upward revision to the second quarter GDP figure from -0.7% to -0.5% does little to change the bleak outlook for the UK economy and failed to provoke a positive reaction from financial markets. The UK economy remains a big underperformer among the major developed economies. According to the official statistics, GDP is still more than 4% below its precrisis peak, although employment has shown a surprising degree of resilience.

The Bank of England downgraded its growth forecasts from 1.3%, to closer to zero by the end of the year, with growth of around 2% expected in 2013. The Government and the Bank of England are pinning a lot of hopes on the funding for lending scheme (FLS) that was launched on 13 July, designed to stimulate more bank lending. Further QE and/ or another interest rate cut are likely to be delayed until the impact of the scheme becomes clearer. Although inflation picked up marginally in July, this looks to be the result of temporary factors. Consumer price inflation is expected to drop below the Bank of England's 2% target by the end of the year and provides further scope for a more dovish approach by the Bank's monetary policy committee.

Despite a backdrop of poor economic growth and an uncertain outlook for the eurozone, the...

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