We raise our allocation to US equities by 1%, bringing it in line with Europe. Our overall equity weight is +4%, representing a modest OW. Japan remains our most favoured region, EM our least favoured one.
Raising the US: Top-down, global growth and financial conditions have been tracking better than we have been expecting. Bottom-up the price targets of our new US equity strategist, Michael Wilson, imply attractive returns and return skew. Tactically, the outcome of the first round of the French elections has been market-friendly and investor sentiment does not look extended. We add to US equities. We fund this by taking cash to neutral (+0%).
Applying our framework: Our framework weights long-run valuations, our medium-term cycle models and 12-month forecast risk/reward. US stocks score poorly on valuations, mixed on our cycle models, and well on our forecasts. We think that this is good enough to raise the weight, but it remains less attractive than Japan (which scores well on all three).
If we only follow the 12m forecasts? Exhibit 1 shows base case returns (x-axis), against bull versus bear skew (y-axis), volatility-adjusted, across key asset classes. Up-and-right is better. US equities score well.
The risks: US stocks are expensive. Sentiment is not very bearish. Nonetheless, we think that the 6-12m case supports a higher allocation to risk than we had before.
Implementation: Low volatility and a steep skew imply significant less upside for the S&P 500 than we forecast. We think that this makes owning calls (6m, 3% OTM) attractive.