Global Outlook & Strategy

Whilst the peace that was hoped for in the Middle East did not continue during the third quarter, the dominant theme that developed was around the strong demand for capital or as we put it
the Competition for Capital. There were three main factors that made this strong demand for capital important for markets.

– The generationally large capital expenditure boom around AI, digitalisation, defence, onshoring and the electrification of economies. The IMF has estimated that by 2032 this could require as much as $14 trillion in capital in the US.

–  Developed economy governments continuing to run large budget deficits that require funding through the bond markets. These deficits have been driven by the impact of this capex boom, wars, onshoring, interventionist policies, the decline of globalisation and the need to spend to gain that support of the voters.

–  Central banks increasing the cost of this capital due to slightly elevated levels of inflation and a desire to see inflation move back towards target. Coupled with strong issuance in the debt and equity markets this saw an increase in the cost of capital.

We believe that these dynamics will need to be closely monitored as it introduces a new risk to markets that could result in bouts of volatility but it can also provide some interesting investment opportunity across equity markets, bond markets (to capture the historically high real yields) and infrastructure (in order to participate in the boom). The degrees of uncertainty mandate us to approach this challenge in a pragmatic manner and to lean into diversification to manage the risk and take advantage of the opportunities at hand.

KEY POINTS

• A quarter of re-escalation of the Middle East War and higher energy prices. Underlying resilience in the global economy and markets remained due to the strength of growth and the modest inflationary uptick.

• The Competition for Capital was the dominant theme for the quarter. A generational capital expenditure boom coupled with continued large government budget deficits led to the increased demand for capital in debt and equity markets. Higher bond yields across government and corporate debt markets were notable.

• A modest global tightening cycle as central bankers took action to prevent second round inflationary effects occurring due to the extended period of higher energy prices. The US Federal Reserve tightened for the first time since 2023, with the European Central Bank and the Reserve Bank of Australia tightening as well. Central banks continue to face a difficult path due to the dispersion within different sectors of their economies, with the rise in bond yields doing some of their heavy lifting.

• Whilst markets have been calm on the surface there has been meaningful rotation among different sectors of the equity and bond markets. With equity valuations adjusting to higher bond yields, some stress in domestic real estate credit and the markets moving through a period of underlying volatility in an orderly fashion.

• The geopolitical backdrop has shown some signs of improvement from a difficult period with continued dialogue between the US and China, and the US dominance over the Straits of Hormuz as we came to the end of the quarter.

• Portfolios have navigated this increase in the cost of capital. Our perspective is that they remain well positioned to capitalise in the period ahead.

• We continue to focus on well diversified portfolios to navigate the market volatility. We are overweight international equities, with a focus on emerging markets, Japan, global mid-caps and a reasonable exposure to the US market. We remain underweight Australian equities on valuation and prospective earnings. Infrastructure remains a preferred asset class to harvest the global capital expenditure cycle.