Investment perspectives

Knowledge Centre Advisory & Investments

As uncertainty recedes, the economic brakes come off

ECB extends bond-buying programme with lower monthly purchases

Preference for Italian government bonds after referendum

PLATFORM FOR GROWTH Edition 1st quarter 2017

1

Ben SteinebachChief Investment Officer the Netherlands of ABN AMRO MeesPierson

In this Investment Perspectives, we consider how you as an

investor can best position yourself for 2017 – a year in which

important changes can accelerate the transition to a better

economic outlook.

The incoming Republican administration in the US will give

the American economy a new impulse through a simple and

effective agenda for growth. The positive implications will, in

our view, be noticeable around the world. Against a backdrop

of higher growth and rising inflation, the US Federal Reserve

is likely to act resolutely and raise interest rates. Moreover,

while more traditional forms of trade globalisation may

stagnate, we see new avenues of trade opening up through

global digitalisation. This digital-driven globalisation will result

in a new economic order that presents opportunities for

consumers, business owners and investors.

Cyclical equities can benefit from the growth potential that

is set to be unlocked in the coming period. Bond markets,

by contrast, face the risk of higher interest rates, with bond

prices falling as a result of rising bond rates. In our hunt for

returns, therefore, equities are our favourite asset class. We

believe that equities can benefit from both positive cyclical

developments and from the structural changes that lie

ahead.

Rapid changes go hand in hand with risks. In the US, the

main risks now relate to the policy success or failure of

the new administration. In Europe, three key EU countries

are heading for national elections in 2017. This will delay

the introduction of fiscal stimulus measures, meaning that

growth in Europe will depend for longer on fresh economic

injections from the European Central Bank.

Nevertheless, we expect that, on balance, the global

economic recovery will outweigh these obstacles in 2017

and boost the financial markets. In our opinion, the main

risks lie in political uncertainties in Europe and changing

central bank policies.

As uncertainty recedes, the economic brakes come offGlobal financial markets have presented a significantly better

picture over the past two months. With the disappearance

of several geopolitical uncertainties, favourable underlying

conditions have come to the fore. Moreover, financial

markets tend to thrive on certainty rather than uncertainty,

even if the outcomes of the recent elections and

referendums were not invariably beneficial for the medium

term. The underlying economic picture is also brightening

in large parts of the world. This certainly applies to the US,

where the Federal Reserve – completely in line with market

expectations – recently saw sufficient reason to raise

interest rates.

Market environment > page 2

ECB extends bond-buying programme with lower monthly purchasesAs expected, the European Central Bank (ECB) has extended

the term of its bond-buying programme that was due to end

in March 2017. The programme will now run until the end of

2017 instead of the end of March. One disappointment was

that the monthly purchases are to be reduced from

€ 80 billion to the original € 60 billion. This provoked

speculation about the gradual tapering of the programme.

However, ECB President Mario Draghi has emphasised in no

uncertain terms that he does not share this conclusion.

Special > page 5

Preference for Italian government bonds after referendumOver the past month, we slightly raised our position in

Italian government bonds, the reason being less uncertainty

after the referendum had increased the relative appeal of

these bonds. Otherwise, no adjustments were made to

our investment policy. We remain underweight in bonds

as a whole, with an emphasis on corporate bonds (both

investment-grade and high-yield). In addition, we remain

overweight in equities, commodities and property.

Outlook > page 6

Platform for growth in 2017

2

Over the past months, we have consistently reiterated that the

uncertainties arising from all manner of geopolitical events

constituted a risk for financial asset prices. These risks did, in

fact, materialise. Nevertheless, the negative reactions in the

financial markets – particularly to the outcomes of three

electoral events – were short-lived. The British and Italian

referendums and the US presidential election produced

surprising outcomes which, beforehand, were also branded as

negative, but the uncertainty they caused has now dissipated.

The financial markets have welcomed this new-found clarity.

Despite a strong rise in – notably US – interest rates, the

equity markets have shrugged off the yoke of uncertainty.

Increased interest rates may lead to relatively less attractive

equity prices, but can also give the financial sector an impulse.

After all, interest rates remain historically low and form no

impediment to continuing economic growth in large parts of

the world.

Benign conditions for global economic growthInternationally, the economy presents a heartening outlook.

Brightening conditions can be seen in many emerging

markets, with the exception of countries such as Brazil and

Russia, which are still suffering from low commodity prices.

The Chinese economy by contrast, which was viewed with

considerable scepticism during much of the past year, is

still powering ahead at a pace that many other countries –

including the emerging world – can only dream of. So far,

the Chinese authorities have achieved the transition from an

export-led to a consumer-led economy without relinquishing

too much growth. The economy in the eurozone, too, is

strengthening – witness the growing confidence among both

producers and consumers. The improvement is less visible

in harder output and consumer data but, given the recent

decline in unemployment, it will not be long before these

also confirm the upward trend. The United States, for its

part, has even seen unemployment fall in November to 4.6%

of the labour force, the lowest reading since August 2007.

Economic growth has been depressed for several quarters

because of companies running down inventories. These are

now so low that restocking activity can be expected to make

a positive contribution to growth in the coming quarters. A

further impulse is likely in the course of 2017 and 2018 from

the tax-cutting and infrastructure spending plans of incoming

president Donald J. Trump.

Federal Reserve lives up to general market expectationsThe improving economic conditions finally induced the

Federal Reserve to hike interest rates in December. The

financial markets speculated about this move all year long,

but each time new circumstances made an interest rate

step undesirable. As things stand, the expectations of the

policy committee members suggest that three more interest

rate increases will follow in 2017. Although the Fed’s policy

has proved hard to predict throughout the year, the increase

in December was widely expected. In this sense, the Fed

was a lot more predictable than the European Central Bank

(ECB), which unexpectedly decided to reduce its monthly

bond purchases in December (for more information, see

Special on page 5). The current rate hike timeline in 2017

corresponds with our outlook, but the increases will no

doubt be very gradual. Formerly, high interest rates were

desirable to effectively counter the threat of recession.

However, at the conference in Jackson Hole, Wyoming, Fed

chair Janet Yellen convincingly argued that the Fed has other

effective instruments in its toolkit.

Market environment

3

In the month after the previous policy committee meeting

(17 November), the financial markets focused mainly on four

events. Firstly, the effects of Donald Trump’s election as

president of the United States. Secondly, the output reduction

agreement of the OPEC oil-exporting countries along with

several non-OPEC oil producers. Thirdly, the referendum in

Italy, where the rejection of the reform plans prompted the

resignation of Italian Prime Minister Matteo Renzi. The final

prominent factor was the policies of the ECB and the Federal

Reserve. Almost immediately after Trump’s victory, global

equity markets jumped in the expectation that Trump’s

presidency would galvanise the economy and give corporate

profits an extra boost. The main beneficiaries in the equity

markets were oil and oil-related companies, which were also

buoyed by the agreement of the oil-exporting countries. In the

run-up to the Italian referendum, equity prices faltered,

particularly in the eurozone, but immediately regained the

upward trend when the uncertainty dissipated. Since Trump’s

election, bond prices have fallen and bond rates have been on

the rise. One cause is the expectation that inflation is finally

set to rise again, in the United States in particular. Another is

that Trump’s policy seems to be a recipe for larger public

deficits and debts, which will augment the demand for public

capital.

Euphoria on equity marketsThe most important reason for the positive mood in the

global equity markets is the improvement in corporate

profits. This is reflected, for instance, in the many upward

revisions by analysts, both in the United States and Europe.

The higher profit outlook is the main justification for the

recent price momentum. The gradual disappearance of

geopolitical uncertainties is also contributing to the positive

equities climate. Moreover, investors seem to fear Trump

less as the president than as the presidential candidate

with his wild claims and statements. The underlying

developments are also favourable for equity prices and are

no longer overshadowed by the former uncertainties. Even

without Trump’s anticipated stimulus policies, the prospects

look bright. Although US equity markets (measured in local

currency) have so far considerably outpaced European

markets this year, the latter have started to catch up in the

past month.

However, adjusted for the increased dollar rate since Trump’s

victory, the relative picture looks less favourable for the

European markets. With the exception of the Japanese

Nikkei, Asian equity markets have experienced more pain

than gain from Trump’s victory. Oil companies and banks

are among the sectors that have already benefited from

increases in oil prices and interest rates respectively. Barring

the vulnerable Italian banking sector, the Italian equity

market also staged a strong upturn.

Bond markets make a turnaroundSince Donald Trump’s victory, the global bond markets

appear to have made a fundamental turnaround. In the

United States, the ten-year bond yield has risen over a short

space of time from about 1.6% (end of September) to nearly

2.6% on 16 December. In other words, although the upward

trend started before the US presidential election, the lion’s

share of the increase was seen after Trump won. In Germany

and Japan too, ten-year bond yields, which were still

negative in October, have moved back into positive territory.

Owing to specific domestic causes (higher inflation outlook

and stronger demand for capital), the increase has been

stronger in the United States than in Europe, where the rise

remained below 0.5% points. In Italy, the ten-year bond yield

initially moved considerably higher ahead of the referendum,

but rapidly fell back again (albeit only partly) after the result

was known. The extension of the bond-buying programme

the ECB announced on 8 December (see Special on page 5)

pushed base rates somewhat higher. The Fed’s decision

to hike interest rates just under a week later also gave an

upward impulse to interest rates, although this had already

been fully priced in by the financial markets.

Market developments

INFOSCAN | FACTS & FIGURES

EQUITY INDICES 2007 - 2016

Despite the recent upbeat mood in equity markets, this has still

not really trickled through to European markets. At the same time,

US markets are posting new records. Taking the higher dollar into

account, European markets performed even less well.

YIELDS ON 10-YEAR SOVEREIGN BONDS

Ten-year bond yields were under slight downward pressure

throughout most of 2016. Since October and November, yields have

been rising. In the United States, this increase was partly driven by

Trump’s election. In Italy, bond yields rose in the run-up to the

referendum, but then fell back again.

0

1

2

3

4

5

6

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Fed funds rate ECB refi

%

Source: Datastream

40

60

80

100

120

140

160

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

S&P-500 Eurostoxx-600 AEX

Index: 1 Jan 2007 = 100

Source: Datastream

OFFICIAL INTEREST RATES OF FED AND ECB

The interest rate policies of the US Federal Reserve and the European

Central Bank will show further divergence in 2017. The Fed will conti-

nue raising interest rates. The European Central Bank is still engaged

in its bond-buying programme, a policy the Fed discontinued as early

as in 2014.

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

2016 Jan Apr Jul Okt

USA Germany Italy

%

Source: Datastream

3.0

4

5

SpecialEuropean Central Bank (ECB) foresees longer braking distanceOn 8 December, the ECB decided to extend its bond-buying

programme beyond March 2017, until at least the end of that

year. However, the total monthly amount will be reduced

after March by € 20 billion to € 60 billion, the original amount

when the programme was launched in 2015. The markets

had already factored in the extension. But the reduction in

monthly purchases was unexpected. Despite this reduction,

the total amount of money being pumped into the eurozone

economy in 2017 will be greater than if the ECB had

continued buying at a rate of € 80 billion per month until

the end of September. Strict criteria have been set for the

bonds that central banks are permitted to buy. This restricts

the available quantity of eligible bonds and the limits of the

universe are now in sight. The ECB has therefore found itself

compelled to relax two of these requirements. In the first

place, bonds with a yield below the deposit rate (-0.4%) are

now allowed to be purchased and, secondly, the minimum

remaining maturity has been lowered from two years to one

year. This greatly expands the universe as many bonds in

the one to five-year maturity segment (of e.g. the German,

French and Dutch governments) have yields below -0.4%.

One requirement has remained intact, i.e. the prohibition to

buy more than 33% of a single bond issue. A larger share

would give a central bank a controlling interest, which – in

the eyes of the Germans (and Dutch) – would look too much

like monetary financing of public debt.

Why are these measures necessary?Inflation in the eurozone is still too low, according to the

ECB. Although the pace of price increases has accelerated

from -0.2% in April to +0.6% in November compared to a

year earlier, that is still too far from the “close to 2%” the

ECB wants. With the impulse of the bond purchases – and

the extension of this programme – the ECB is looking to

kick-start growth and inflation. As the ECB sees a renewed

decline in growth and inflation as a greater risk than a

strong increase in these two variables, the ECB board is

keeping open the option of returning to € 80 billion per

month and also of continuing the bond purchase programme

into 2018. ECB President Mario Draghi thus also rejected

the suggestion that the reduction heralded the start of a

gradual tapering of monthly bond purchases. In addition,

the overcrowded election calendar in the eurozone (with

French presidential elections and parliamentary elections in

Germany, France, the Netherlands and – presumably – Italy)

will have played a role in this decision (and this opinion),

although he obviously made no reference to this.

Effects of the measuresSeveral national central banks will suffer losses on bond

purchases, but this does not conflict with the objective of

the ECB. According to Mr Draghi, such losses are inherent in

the policy and do not impede the achievement of the desired

inflationary effect. The most important impact will be that

bond rates in the eurozone will be kept under downward

pressure. Together with the continuing upward pressure in

the United States – particularly after the increase in the fed

funds rate on 14 December – this could push the euro even

lower against the dollar. We expect parity between the two

currencies in the first half of 2017, after which the euro will

sink further to about USD 0.95 in the course of the year. The

resulting increase in import prices will exert extra upward

pressure on consumer prices in the eurozone.

6

Positive outlook for equities maintained, no further changesOur strong preference for equities is based on our

expectation that the underlying fundamentals will continue

to improve. Another reason why equities are attractive is

that the expected return on equities is much higher than

on other asset classes. Macro-economic factors point to an

improvement in global economic growth. Profit forecasts are

also being revised upwards, particularly in the more cyclical

part of the market. Combined with an expected profit growth

of around 12% and a price-earnings ratio of 15.5 for 2017,

we do not see the equities market as overpriced. Within the

regions, we have made no changes over the past month.

We have no strong preference for a specific region at this

juncture. We expect a stronger dollar and higher interest

rates, which will have a negative impact on emerging

markets. Although the United States will benefit earlier

from President Trump’s expected stimulus policies, Europe

and developed Asia will follow in its slipstream. In addition,

European equities are cheaper than US equities.

Our sector preferences have also remained unchanged

over the past month. Since the summer, the sector policy

has become more cyclical with the financial and industrial

sectors being raised to neutral. At the same time, the

more defensive and interest-sensitive consumer goods and

telecommunication sectors were reduced to underweight.

We were already more negative about the utilities sector and

our positive opinion on IT and healthcare has also remained

unchanged.

Bond component remains underweightLast month, we quickly purchased Italian sovereign bonds

after the referendum in Italy. Apart from this, the bond policy

was unchanged and we remain strongly underweight in this

asset class. Bonds, and sovereign bonds in particular, have

a defensive character and fall in value as interest rates rise.

This is what happened over the past months and we foresee

a further increase in bond yields in the coming year. We will

continue to use the remaining bond component as a buffer,

based on an active duration strategy. When interest rates go

up, we shorten the duration to make the bond component

less sensitive to rising interest rates. We do the reverse

in times of falling interest rates. We remain overweight in

European high-yield bonds and investment-grade European

corporate bonds. The higher risk of high-yield bonds is

justified in view of the positive economic outlook and

the corresponding lower-than-average bankruptcy risk.

Investment-grade European corporate bonds are interesting

for investors as these are included in the ECB’s bond-buying

programme.

Property and commodities We remain overweight in property. Property has delivered a

good performance over the past month, but has struggled

since interest rates started to rise at the end of the summer.

Nevertheless, research shows that property can still do

well in times of rising interest rates. The underlying trends

remain solid and dividend yields are attractive. We also

remain positive about commodities. For the coming year, we

expect oil prices to edge higher due to the restriction on oil

production. In addition, we expect the negative sentiment for

gold to continue in 2017.

Outlook

ColophonBen Steinebach, Chief Investment Officer Ralph Wessels, Investment Strategist

In case you wish further information, please contact your portfolio manager orinvestment advisor.

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