Henk-Jan Rikkerink

Fidelity International (‘Fidelity’) has released its mid-year investment outlook highlighting the dramatic shift in global markets and the growing need for regional portfolio diversification. Titled ‘A Global Rewiring’^[1], the report reflects on the fast-moving geopolitical and economic developments of the first half of the year and offers strategic guidance for investors navigating a fragmented new world order.

Henk-Jan Rikkerink, Global Head of Multi Asset, Real Estate, and Systematic, Fidelity International, said: “We’re entering a phase where traditional safe havens like US assets can no longer shoulder global portfolios. Investors must actively rewire their allocations in line with structural shifts in geopolitics, inflation dynamics, and trade.”

Top convictions for the remainder of the year:

• Globally diversified portfolios: regional allocation will be more important as US assets experience heightened volatility.
• Hard currency and local currency emerging market (EM) bonds: these stand to gain from a weak US dollar. Many are very cheap. Some, including Brazilian and Mexican bonds, boast attractive yields.
• The euro and Japanese yen: these currencies should prove relatively stable and provide some of the defensive qualities lost from a turbulent dollar.
• EM equities: the rally in China is better supported by fundamentals than on previous occasions. Valuations are relatively cheap. China, India, and Latin America provide pockets of interest.
• Gold: likely to play its traditional role as a preserver of value as the dollar depreciates.

Henk-Jan Rikkerink, Global Head of Multi Asset, Real Estate and Systematic, Fidelity International, continues: “Tariffs, trade deals, tantrums: the first six months of this year have shown us how quickly narratives can change. We are closely monitoring current events in the Middle East and expect more market volatility in what remains of 2025. However, it is the deep-seated fragmentation of the global order started by recent policy shifts that will matter most to long-term investors. The US is pushing for reliable allies in supply chains, while China is being pressured to orientate away from supply-side stimulus toward domestic consumption. A managed decoupling between both countries in strategic sectors will push trade and capital flows along new geostrategic lines.

US macro: Prepare for inflation

“Effective tariff rates currently stand at around 14 per cent. This is likely to increase inflation in the US, to around 3.5 per cent this year. We believe there is a 40 per cent probability that this materialises as economic reflation, and a 40 per cent probability of stagflation (where prices rise even as growth falls). Meanwhile, foreign-produced goods will compete to find a home elsewhere as demand diminishes in the US. This should result in deflation in the rest of the world. Rising tariffs and volatile trade policy will likely bring US growth down to around 1 per cent this year.

“All this leaves the US Federal Reserve with a difficult balance to strike. We believe tariff relaxation and persistently sticky inflation mean the Fed is unlikely to cut rates this year (contrary to market expectations). But so long as the tariff picture remains unclear, so does the outlook for monetary policy. Given the stagflationary risks in the US, investors will now look to alternative shores for growth hedges.

Broadening horizons

“The diverging inflationary picture is symptomatic of a deeper-set, structural rewiring of the global economy. President Trump is determined to restore manufacturing to American workers and reduce the size of the US current account deficit by way of tariffs, while striking trade deals with friendly countries. China likewise is trying to support domestic consumption and increase the size of its service economy. Over the long term, we expect to see a fragmentation of the world’s economic, technological, and security order, as both pursue more isolationist policy.

“One likely consequence of these changes is a potential rebalancing of US assets in investors’ portfolios. The US dollar is most obviously at risk, given its status as global reserve currency has fed into the twin deficits that Trump is now trying to reduce. The effectiveness of the US dollar as a hedge to equity risk is also coming under question, building on today’s dollar depreciation as foreign investors lift hedge ratios.

“Diversification has always been important: now it is imperative for portfolios that have become increasingly reliant on US assets over the past 25 years. Capital outflows and a dollar depreciation mean index weightings will look very different in the future. Those who get ahead of these structural trends may stand to benefit as portfolios rebalance.

“The euro could prove a significant beneficiary from the repatriation of flows, while newly expansive German fiscal policy signals the potential for a revival of the region. The valuation and defensive characteristics of the Japanese yen also make this currency appealing, while gold should continue to respond well to any further geopolitical ruptures.

“Emerging markets (EM) are attractive. Debt will be buoyed by dollar depreciation – some countries such as Brazil and Mexico already offer very attractive yields. EM equities look relatively cheap. The market is underpinned by Chinese stocks, which have turned a corner following Artificial Intelligence breakthroughs in the country.

“Private assets including real estate offer further diversification potential. That’s particularly useful given their long-term investment horizon and active ownership in many strategies, providing investors with the ability to make adjustments to evolving market dynamics. Likewise, investors may find alternative opportunities in real estate, especially through higher income yielding European markets which can protect against inflation, and through the value-add of ‘greening’ previously unsustainable buildings.             

“And there is still room in a diversified portfolio for US equities. The S&P 500 comprises many of the world’s biggest and most innovative companies, which are highly profitable and shareholder friendly. It would be unwise to bet against the US entirely; but equally it is not the only game in town.

Fickle fiscal

“Fiscal policy also supports the case for portfolio rebalancing. It is impossible to ignore the US debt burden, and the country shows no sign of stabilising its trajectory. It is running wartime-level deficits at a time when the unemployment rate is at cyclical lows. High volumes of treasury issuance paired with today’s volatility are creating a risk premium on long-term debt, as the imbalances between supply and demand become more prominent. This further erodes the appeal of US Treasuries as a safe haven and strengthens the case for diversification elsewhere.

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Notes:
 [1] https://www.fidelity.com.au/insights/investment-articles/global-mid-year-outlook-a-global-rewiring/#:~:text=The%20first%20half%20of%202025%20has%20shown%20rapid,and%20capital%20flows%2C%20making%20diversification%20essential%20for%20investors.

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Henk-Jan Rikkerink

The world is changing faster than ever, and markets are moving to accommodate the accelerating pace of change. Technology has transformed every industry core to our economy, and artificial intelligence (AI) is no longer just a concept but has become a reality which has the potential to reshape business landscapes and herald a new era of innovation. Fidelity International sheds light into the innovative themes and new investment territories investors should consider beyond today’s ever changing financial landscape, and how generative AI could be a once-in-a-generation opportunity for investors.

Rethinking Global Investing

Markets have become increasingly fast moving and unpredictable, with investor sentiment increasingly being influenced by short-term noise. However, there are innovative themes and investment territories that investors with an eye to the future should consider.

Henk-Jan Rikkerink, global head of solutions & multi asset, at Fidelity International comments: “In this fast-changing world with cycles speeding up and becoming shorter, we believe that investors should remain dynamic and take a scenario-based approach. For instance, our scenario probabilities for the end of 2024 are 40 per cent for a soft landing, 30 per cent for no landing, 25 per cent for a cyclical recession, and 5 per cent for a balance sheet recession.

“We think a no landing outcome is significantly more likely than is implied in current market pricing, which places significant weight on a soft landing, particularly evident in risky assets. This means that the markets are still disregarding the potential for interest rate hikes if the no landing scenario continues to develop.

“When thinking about opportunities in tomorrow’s markets, private assets is one area that has been garnering a lot of buzz from investors, and rightfully so. For investors comfortable with lower liquidity, adding private assets could improve portfolio returns and provide additional diversification.  Private equity had a drop in dealmaking in 2023, but we expect private equity funds with strong value creation strategies to do well going forward.  In addition, direct lending remains attractive, especially in the middle market.

“In the past 12 months, there have been several consensus trades that have crowded the market. However, the winners of today might not be the leaders of tomorrow. We expect markets to broaden beyond large cap Tech, where extraordinary earnings are rolling over and positioning is becoming extended. US and Japan remain attractive markets, given the resilient growth in the US and positive earnings revisions as well as encouraging policies that aim to improve better corporate governance in Japan.

“Looking into opportunities in Asia, we believe that the region is cyclically in a better place, with exports picking up and China stabilising.  Additionally, valuations are attractive when compared to many developed markets, and we see attractive opportunities in Korea, India, ASEAN and Japan. The Asia pre-IPO market could also be a very interesting space in the years ahead as a source of attractive returns.  Asia is home to many high-quality growth companies, many of whom are choosing to stay private for longer.  With a strong backlog and attractive valuations, the Asia IPO opportunity is a bright spot to look out for.”

Investing in the Age of AI

AI has the potential for widespread adoption across both tasks and industries. Studies have shown that 40 per cent of all work may be impacted by AI, be it through automation or the augmentation of jobs. These include everything from admin work to computer services, sales, financial and business operations, and more. And with these changes also comes opportunities. Generative AI is a seismic shift that could provide direct and indirect pathways to long-term growth as AI reshapes business landscapes and heralds a new era of innovation.

Taosha Wang, portfolio manager at Fidelity International comments: “While the concept of AI has existed for decades, generative AI is a more recent development that is characterised by three aspects: easy-to-use, multi-purpose and unprecedentedly rapid adoption. And unlike many internet companies in the 1990s, many leaders in generative AI today are very well funded and are often backed by the deep pockets of major Tech companies. Often referred to as the ‘iPhone moment’ for AI, generative AI has the potential to be a defining milestone that enables decades of technological disruptions and innovative business models.

“From an investment perspective, we believe AI is a structural growth theme that should not be ignored. One way to consider it is taking a ‘stacked’ approach’. At the bottom layers are hardware and infrastructure. These include both the semiconductor elements – like GPUs and memory chips – as well as physical infrastructure such as data centres and electricity equipment.

“As AI models get bigger and more powerful, they also become more complicated and energy intensive to run. This means that structurally there will be greater demand for semiconductor content, especially ones that are designed with AI in mind. Smarter and more extensive physical world infrastructure like smart grids and power equipment will also be required, especially against the backdrop of ageing infrastructure in many parts of the developed world. The bottom layers are driven by AI related capex and currently this trend remains strong. It is also easier to identify winners as several manufacturers of hardware and capital equipment are already clear leaders in their field.

“In the middle layers of the AI ‘stack’ are cloud computing and foundational models. There are already winners in these lines of business and these are often Big Tech names. They will continue to see structural growth and will need to make heavy capital expenditures in order to satisfy growing demand.

“The top layer of the AI ‘stack’ are the various applications that incorporate AI for different commercial use cases in various sectors. AI is an innovative and disruptive piece of technology that will change the way businesses are run, regardless of their home industries. The companies that incorporate this new tech productively and profitably stand to win, whereas those who fail to adapt may encounter challenges.

“The fact is, AI is here to stay. And some old business models may become obsolete while new ways of satisfying customer demand commercially will arise. The competitive landscape is most dynamic in this layer and the winners are least certain. But ultimately AI related investments will need to be justified by commercial profit from the commercial application of the technology and development in this layer is crucial to watch.”

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CEOs of global companies are more concerned about government intervention and intrusive regulation than they are about inflation, wage costs, pricing issues or even their own balance sheets, according to a survey of Fidelity Worldwide Investment’s research analysts.

A survey of more than 110 of Fidelity’s research analysts in Europe and Asia, conducted last month, shows that only concerns about sales volumes are causing more corporate anxiety than the likelihood of  governments enacting or changing legislation or regulation that will result in a more challenging business environment. 

As each research analyst speaks with the senior management of an average 30 listed companies at least every quarter  – a key part of Fidelity’s ‘bottom-up’ fundamental investment process –  the survey reflects the thoughts of thousands of CEOs and other top management at listed companies in Europe and Asia.

Matthew Sutherland, Fidelity Worldwide Investment’s Head of Research – Asia Pacific, said: “Government interference in the free market for goods and services is a perennial concern for companies. However, it is running higher than usual now due to governments’ new religion of balancing budgets, which could cause them to seek revenue opportunities through new tax schemes.

“Also, a world of competitive currency devaluations potentially leads to trade wars, quotas, tariffs and other destabilising influences. 
“Additionally, governments such as China’s are increasing their tendency to micro manage business in order to achieve macro goals, particularly in the banking, property and environmental areas.

“Despite this, it is clear that if we can get some strong leadership from politicians and more confidence that the sovereign debt crisis in Europe can be brought under control, the corporate world is in good shape to fuel an economic recovery.”

The survey has found that the crisis of confidence within senior corporate ranks is not just a theoretical issue; it is causing corporates around the world to resist increasing their spending despite the recovery in their balance sheets compared with 2008/09.

Regulatory risk /government intervention are most feared in the Healthcare and Utilities sectors, even more so than by bank CEOs. Mr Sutherland said: “The balance sheet improvement isn’t filling corporates with confidence – they are keeping their hands in their pockets. Cash-rich companies in Asia ex-Japan alone are sitting on around US$1 trillion in cash. At the moment most seems to be going the way of dividends – cash payout ratios are set to increase from 12% in 1998 to 32% in the next year.”

Olivier Szwarcberg, Head of Credit and Structured Research – Europe, said: “The balance sheets of both Asian and European companies are considerably healthier than in 08/09 but CEOs are reluctant to spend their cash-flows as political and economic uncertainty continues.

“In fact, in 88% of cases, Fidelity’s research analysts believe that the companies they cover have stronger balance sheets than in 2008/2009, indicating that important lessons were learnt in the last financial crisis.

“Such relatively healthy balance sheet fundamentals are out of line with corporate debt valuations, with credit markets effectively pricing in outright recessionary fundamentals.”

Henk-Jan Rikkerink, Head of Research – Europe, said: “According to the survey results, most global corporates are planning on reducing or keeping constant their capital expenditure [71%], freezing spending growth in IT and marketing [68% and 62% respectively], and keeping employment levels constant [only 29% intend to actively recruit].

“Clearly there is a lack of conviction amongst CEOs that governments will leave them alone or that a global recovery is underway, and recent events have proven them right to be cautious on both fronts. Healthcare and utilities companies, in particular, fear intervention. The former have been hit in recent weeks by government restraints regarding reimbursement, for example, while utilities have been hit by tax increases.

“A dose of corporate Prozac, as well as clearer outcomes from our governments, are required to kick-start the corporate spending which could help spark a global economic recovery.”

Digging a little deeper into the survey results, there are regional differences. In Asia Pacific, Fidelity’s analysts believe that 32% of companies are looking to increase their capex by 10% or more in the coming year compared with last year, with 9% looking to increase their spend by over 20%. In Europe, only 21% of companies are looking to increase their capex by 10% or more in the coming year compared with last year, with 5% of companies  looking to increase their spend by over 20%.

Mr Rikkerink said: ”While the gap between Asian and European capex expenditure may not look significant at first glance, it is important to remember that European companies are starting from a much lower base than their Asian counterparts as capex spend in Europe has been extremely low for two to three years now. What this does mean, however, is that when companies feel confident enough to loosen their purse strings, the reversal back to the norm will look like an explosion of activity.”

In addition, the majority of companies in Asia and Europe are not interested in M&A activity as a strategic option. Mr Rikkerink said: “Investment bankers be warned – our analysts expect companies to stick to their knitting over the next year. They believe that approximately 84% of companies have either dismissed M&A entirely to drive growth or are only considering it on a small scale.

“While at first this may seem surprising, the results are consistent with other evidence suggesting an end to the excessive M&A era: lower returns from private equity funds, less successful IPOs, higher capital requirements from banks to name a few. Companies just don’t want to take a risk with their balance sheets at this time. The small amount of M&A activity we are likely to see should come from the Technology, Telecoms and Media sectors, and this should be in the form of small ‘bolt-on’ acquisitions rather than mega deals,” Mr Rikkerink said.

Short-term funding could still be a problem
A reason for the reluctance to spend out of cash-flows may be the reliance on short-term funding. While Fidelity’s fixed income analysts are fairly confident that the majority of companies could ride out a short-term dislocation in capital markets, the survey found that approximately a third [31%] of cases, analysts believe some companies may not, being reliant, very reliant or entirely reliant on short-term financing.

Should there be a major dislocation in capital markets, 6% have no other sources of funding and 27% have only one other source of funding, or it is likely to be expensive. Asian companies, financials and utilities companies in particular believe they would have to pay a high price. In contrast, healthcare companies seem to have the most choice when it comes to alternative sources of funding.

Mr Szwarcberg said: “One of the things we put more importance on now is the ability of companies to fund their activities and growth. This is not a simple task, requiring in-depth research and understanding, but it can be the difference between one company surviving a credit crunch and another not.”

About the survey:
114 analysts (90% of Fidelity’s analysts across Europe and Asia) responded to the survey in the period 3rd to 12th October 2011. The regional split of analysts was 58 from Europe and 56 from Asia (inc Japan).

This document is issued by FIL Investment Management (Australia) Limited ABN 34 006 773 575, AFSL No. 237865 (“Fidelity Australia”).  Fidelity Australia is a member of the FIL Limited group of companies commonly known as Fidelity Worldwide Investment. Prior to making an investment decision, retail investors should seek advice from their financial advisers. Investors should also obtain and consider the Product Disclosure Statements (“PDS”) for any Fidelity fund mentioned in this document. The PDS is available at www.fidelity.com.au. This document may include general commentary on market activity, sector trends or other broad-based economic or political conditions that should not be taken as investment advice. Information stated herein about specific securities is subject to change. Any reference to specific securities should not be taken as a recommendation to buy, sell or hold these securities. While the information contained in this document has been prepared with reasonable care, no responsibility or liability is accepted for any errors or omissions or misstatements however caused. The document may not be reproduced or transmitted without prior written permission of Fidelity Australia. The issuer of Fidelity’s managed investment schemes is Perpetual Trust Services Limited (“Perpetual”) ABN 48 000 142 049. Perpetual is not the publisher of this document and takes no responsibility for its content. Reference to ($) are in Australian dollars unless stated otherwise. 2011 FIL Investment Management (Australia) Limited.  Fidelity, Fidelity Worldwide Investment, the Fidelity Worldwide Investment logo and F symbol are trademarks of FIL Limited.

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