3 market themes to find carry and position for change in Europe and China

2024 has been a year of significant events, notably the US elections. For the last three years December has marked the start of three major trends: rising interest rates (2022); equities rallying in anticipation of a Federal Reserve (Fed) pivot; and this year’s post-election rally.

The Fed rounded out the year with a hawkish rate cut at its December meeting and tempered its forward guidance on anticipated future easing. That said, a slowing of the current pace of rate cuts does not signify their end, in our view. Equity markets sold off more than rates markets; as the year concludes, the market may need to reassess the possibility of stronger than anticipated profits in the near term.

As the post-US election turbulence subsides, now is a good time to evaluate three new market trends in a bid to highlight promising investment opportunities for 2025.

Read also: Sharpe thinking: the 2025 outlook edition

1.    High-carry opportunities

In the mid-December financial climate, marked by higher interest rates and stabilising global inflation, the appeal of carry trades has increased. Financial market performance has been concentrated in the equity sector, with spreads remaining historically tight. This has led to a disparity between the darlings of recent cycles and the underperformers. 

This valuation gap is mirrored in the carry observed across asset classes: developed market (DM) equities and selected credit segments exhibit lower carry, whereas emerging market (EM) equities and government bonds (duration) present more attractive carry opportunities. 

In their quest for carry, institutional investors are increasingly repositioning their portfolios towards these higher-yielding opportunities. The shift to the highest-yielding segments of the equity market is substantial. Beyond the ongoing retail focus on US stocks, there is now a broader wave of support for those equity markets that have been previously lagging. 

FIG 1. Z -scored carry metrics across markets (left) and the beta of macro hedge funds to regional equities (right)¹

2.    European prospects: poor but improving?

In the ongoing pursuit of attractive opening, Europe stands poised to benefit from renewed investor interest, in our view. At various points this year, markets have associated a higher level of risk with European assets over their US counterparts – reflecting both rising political risk and a more subdued growth cycle – which has resulted in episodes of higher implied volatility for European equities, especially during the second and fourth quarters. 

While this heightened volatility may have normalised recently, challenges remain. Looming risks for 2025 include potential trade tensions under the incoming Trump administration, which could weigh on Europe from a growth and political perspective.

That said, the European Central Bank (ECB) provides a beacon of hope, signalling a dovish stance at its latest meeting. This could provide significant support for undervalued European assets, both in the equity and credit markets, and could even spark a resurgence of investor interest in Europe. A marginal improvement in growth conditions could also boost this scenario and place Europe in a better situation in 2025.

FIG 2. Volatility indices (left) and market ECB rate expectations for December 2025 (right)²

Read also: Upbeat macro, moody market

3. China: a more appealing risk-reward scenario for 2025

China's economic situation and asset returns have not been aligned. While GDP growth, driven by sectors like property and manufacturing, depends heavily on governmental stimulus, Chinese equities are linked to consumption sectors, such as the internet and consumer goods, which demonstrate positive trends and are closing valuation gaps.

At the moment, there are six reasons why the risk/reward ratio for Chinese risk assets could be more appealing:

FIG 3.  China equity market cap exposure (left) and China GDP breakdown (right)³

Read also: How could the end of free trade impact markets?

Strategy positioning

The allocation views of our investment teams across asset classes remain balanced, with risk tilted towards cyclical and value sectors. 

Multi asset. The All Roads team maintains an overall neutral outlook, but is marginally bullish with market exposure nearing 170%. However, its allocation to cyclical risk premia remains at 45% versus 55% to hedging assets.  

Fixed income. Our Global Fixed Income team remains positive on investment grade and neutral towards high yield, with a defensive and selective tilt, and is underweight duration. The team also maintains a defensive stance on EM hard-currency bonds. Our Asia Fixed Income team favours defensive high yield and is overweight India, commodities and high-yield sovereigns.

Convertible bonds. Positions held by our Convertible Bonds team remain aligned with so-called ‘Trump trades’ favouring defence, US financials and the artificial intelligence value chain at the expense of European and Chinese exporters, and the value chain for renewables.

Equities. In the World Brands strategy, the team continues to favour US brands – taking advantage of any market pullbacks to increase exposure to US technology and digital brands, selective US small-caps brands, US financial brands and US consumer discretionary. The team is also adding to its European luxury positions given the better outlook for the consumer in 2025 globally. Our Swiss Equities team continues to favour cyclical sectors like information technology, materials and industrials at the expense of defensive sectors such as consumer staples and healthcare. The Asia Equities team remains overweight consumer discretionary stocks and its constructive view on China is mainly focused on the internet sector. It has now shifted to an overweight in India, focusing on the consumer discretionary and IT sectors.

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Global Fixed Income Opportunities

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