Eric Savoie - Senior Investment Strategist

What is your outlook on interest rates?

Eric: So there's been a pretty big shift in the interest rate outlook over the last quarter as a result of the war in Iran, which, of course, has caused a major shock in energy markets around the world. It's caused a significant spike in the price of oil. And so as a result, the inflation outlook has shifted quite a bit, versus a quarter ago, before the war began.

So whereas central banks were maybe expected to be able to lower interest rates over the course of this year, they're now expected to, at the very least, no longer lower interest rates as the year progresses and maybe even begin hiking interest rates toward the end of this year. Markets a quarter ago were pricing in a couple of rate cuts in the U.S. in 2026.

That's shifted now to the point where the market is pricing in a full rate hike by the end of the year. And so a pretty big shift in that interest rate outlook, in just in just several months. In our view, the U.S. is unlikely to change its interest rate over the next year, at least that's our base case forecast.

Really the result of that, our assumption, is that any sort of inflation pressures from the war in Iran are likely to be temporary. Ultimately, we think a deal gets made, the conflict is resolved, oil prices can come down, but likely not to levels that were seen before the war. Or it’s probably going to settle at a level that was slightly higher than before the war began.

Ultimately though, as we go into 2027, we expect inflation pressures to level off and moderate. Ultimately, it depends how central banks decide to respond to that and whether or not they agree with those inflation pressures being temporary. If that's the case, we don't see the need for any sort of aggressive hiking by central banks, at least in the U.S. In Canada, we look for 50 basis points and rate hikes over the year ahead. But in the U.S., we look for no change.

What is your view on fixed income?

So our view of fixed income has improved over the past quarter as yields have gone up, as investors reflected higher inflation expectations in relation to the war in Iran and the associated energy price shock which has boosted oil prices across the world. But at these higher levels of yields, of course, that offers now investors higher interest income for investing in fixed income instruments.

So at these higher levels of yields, our models would suggest that the risk reward has improved for fixed income investors. At around 4.5% on the U.S. ten-year bond. That's well above what our model would say is appropriate. Our model would pencil in something like 3.7% as being an appropriate level for the U.S. ten-year yield.

So there's quite a bit of cushion there. If our forecast is correct over the next year, in that we assume that inflation pressures are expected to moderate and we don't expect the aggressive central bank hiking over the next year, we really don't see the ingredients for a significant, or at least a sustained, meaningful increase in bond yields from here.

So the so the valuation risk to fixed income investors, we think is fairly minimal. And as a result, we think that risk reward is favourable in here. And so we expect over the next year that fixed income investors, government fixed income investors, can earn something like low to mid-single digit returns over the year ahead.

Importantly, with very low risk of I've been encountering substantial losses over that period. Of course, if investors are seeking higher return potential, they can turn to the corporate bond market. But in that space, we would, you know, caution investors that the spread on credit spreads at the moment are historically narrow.

So the premium or the extra return that an investor can receive, or is being offered, for taking on that risk that corporate bonds could default is especially narrow, and so that risk reward on the corporate bond side doesn't look as appealing. As a result, within our fixed income allocations, we've kept our credit exposure fairly minimal as a result.

What is your view on equities?

So equity markets have had a very interesting quarter. Going into the quarter in March, of course, it was a pretty meaningful sell off in stocks related to the war in Iran. Investors were very concerned, very fearful, and stocks encountered close to a 10% correction in the S&P 500 before enjoying a very powerful recovery. And so really the key behind the rally, or the recovery, even though the war was still playing out in the background, is that we've seen a tremendous improvement in the earnings outlook for the S&P 500 and even equity markets around the world.

Really, what's happening there is artificial intelligence. So all the excitement around artificial intelligence, all this spending to build data centres and additional compute power is driving mostly technology stocks higher, and that's what has been really driving this rally. The other part of this rally that we've seen is that it's been very concentrated in a small group, really technology stocks.

But within technology stocks, it's mostly semiconductor stocks that have been benefiting. These are the chip makers or the companies that supply the ingredients to those data centres, and where so much of this spending is happening. So at this point, a lot of good news is priced in on the AI story. In particular, it's been benefiting regions with high exposure to artificial intelligence, like emerging markets and the U.S. in particular. So really, the key question from here for the direction of the stock market is whether or not this heightened, or high rate of spending growth, within artificial intelligence can continue. So, in our view, the tailwinds that are in place are likely to persist, continuing to push stock markets higher.

But there is vulnerability building here in the market in that valuations are high. Investors are very optimistic, and a lot of good news is already priced in. So if there was any sort of slowdown in that artificial intelligence story, or if there was any sort of loss in confidence by investors around the promise of AI, then stocks can certainly be vulnerable from here.

How have you positioned your asset mix in the current environment?

So when we think about our asset mix recommendation for a global balanced investor, we're always taking into consideration the short-term challenges as well as the long-term opportunities. Of course, there's always things to be worried about in the near term. At the moment, it's the war in Iran. There's concerns around AI, or the durability of the AI theme, whether or not that that will ultimately fulfill the high expectations that that investors have. But we also want to recognize that as we look far into the future, challenges are likely to be overcome. Economies are likely to continue to grow, corporate profits continue to rise, and stocks are likely to continue higher. And so how do we navigate this in the short-term?

Well, our base case scenario is for economies to continue to grow. Of course, the Middle East conflict does put a damper on things in terms of the growth perspective, but not enough to cause recession, in our view. Perhaps it causes a little bit of higher inflation. We think that effect is likely to be temporary.

And so we think that the increase in bond yields that we've seen over the past quarter is an opportunity to add a little bit to our fixed income exposure. In fact, we were underweight fixed income going into the quarter, and so we took advantage of the higher yields to narrow our underweight exposure in fixed income. We added 50 basis points to bonds, sourced from cash, and so we still have a little underweight but it's smaller than it was a quarter ago. We continue to think that stocks are going to outperform bonds here over the next year as our base case scenario. But we recognize that valuations are quite elevated in that equity risk premium - so, the premium between stocks and bonds is historically narrow - and so we don't think that this is an environment where we want to be taking excessive risk within our asset allocation. So we have a small overweight in stocks 1% above our strategic neutral. We think that situates as well to take advantage of volatility issues, should it arise. We have made some changes regionally within our equity allocation, though.

We have neutralized our overweight exposure to emerging markets. We recognize there's been a tremendously strong run in emerging market equities, a lot of that was driven by semiconductor stocks in a very concentrated move. We decided to reduce that exposure from a small overweight to neutral. We reduced our European overweight exposure to an underweight position.

So, a slight overweight to a slight underweight, recognizing that the challenges with respect to the war in Iran are likely to hinder the European economy slightly more than the global economy. And then we shifted those proceeds to the U.S. And so whereas we had a slight underweight in the U.S., exposure to the U.S. equities last quarter, and we now have a slight overweight.

And so, we're comfortable with all these positions. It's fairly close to a neutral asset allocation, with a slight tilt toward equities positioning as well to continue to benefit from the tailwinds that exist around the artificial intelligence build out and all of all of those tailwinds associated with that, while at the same time, being responsibly allocated, and giving us the ability to weather any sort of volatility, should it arise.