To The Moon

• Fed, pause after 10 interest rate hikes

• The 2% U.S. inflation target in 2nd half of 2023 is realistic

• Valuation of equities is very attractive

• Falling interest rates make long-term bonds an attractive investment

Central banks did last week what the market had expected. After raising interest rates ten times in a row, the Federal Reserve began a pause. The ECB raised interest rates again and is also continuing to sell bonds. The Fed's explanation revealed that interest rates may be raised twice more this year, but given the development of inflation, this is no longer necessary. US inflation is likely to reach the 2 percent target in the second half of the year. Inflation in Europe is more persistent. The ECB raised expectations regarding the development of inflation in the eurozone and possibly that interest rates will be raised several times in the coming months. This contrast with the United States allowed the euro to gain strength against the dollar. This is not entirely justified as U.S. growth figures continue to surprise positively while underlying economic development in Europe disappoints.

Raising interest rates in July will increase the likelihood of a mild recession in the US. In such a scenario, inflation will clearly fall further, making it likely that July will be the last month the Fed will raise interest rates for the time being. Rising unemployment and lower-than-expected inflation figures mean the Fed will keep the pause button pressed for the rest of the year, and policy rates could even fall sharply to as low as 1 percent next year. Investors are taking advantage of this by investing precisely in long-term bonds. Although the inverted yield curve has provided an advance for a fall in interest rates, there is still plenty of room there for further falling interest rates and the accompanying price gains. The combination of greater certainty about the development of inflation, the development of interest rates, relatively favourable economic development, better-than-expected company results and calm on the US banking crisis has allowed the market to rise over a broader front in recent weeks than in the first few months of the year. Back then, the overall rise in the stock market was due to a handful of stocks that benefited from the focus on artificial intelligence, but now the contrast in valuation with the rest of the market has become stark. Excluding the six largest tech companies whose common trait is artificial intelligence activity, the valuation for the U.S. stock market is just 15 times earnings. That's while profits are rising. Then again, if interest rates fall, there is an attractive risk premium on U.S. stocks. Outside the United States, stocks are valued even lower.

For an investment portfolio, this means that positive returns can be expected for both stocks and bonds in the second half of the year. The widening of the stock market is also relevant to developments in private markets. Rising interest rates were seen as a potential risk for these markets. Although in practice the effects are much smaller than feared, falling interest rates may cause investors to allocate more money to these markets. There is still a relatively large amount of money sitting on the sidelines, and thanks to sharply higher central bank policy rates, investors in money market funds receive a return that can compete with listed investments. If policy rates are cut next year, listed investments and investments in private markets suddenly look much more attractive. After all, private markets have the advantage of being much better positioned to take advantage of any turmoil in the stock market. A recession is often a time for many investors in listed equities to sell, while private equity in particular sees more opportunities to buy up companies at attractive valuations. Many investors are currently very interested in companies active in the field of artificial intelligence. Private equity can take advantage of this by taking portfolio companies active in this field public now and using this offering to meet the sharply increased demand. Furthermore, real estate will also benefit from a drop in interest rates in such a scenario.

With a week to go until the end of the second quarter, it can be said that after a hesitant start in which only artificial intelligence stocks rose, investors are now paying more attention to other market segments. Noteworthy, for example, is the strong rise in the Japanese stock market this quarter, partially offset, incidentally, by the weakening of the yen. There is also gradually more interest in value stocks and small-caps. Only the Chinese stock market is lagging, mainly because the government is not following through in supporting the recovery. But in the past week, China's central bank cut interest rates. Next week, U.S. Secretary of State Antony Blinken will be in China, the first physical visit by a member of the U.S. government to the country since 2018. Expectations are not high, but possibly the downward spiral in the relationship between the two countries since the balloon incident in January can be broken, something financial markets will welcome.

In the portfolio, equities are overweight and bonds are underweight. Bonds are not having an easy time this year either, but an interest rate cut will do wonders in this regard. Furthermore, we are emphasizing private investments in the portfolio, as this can further improve the portfolio's return/risk ratio. For equities, it is increasingly becoming a good investment year, as investors are not only interested in a few artificial intelligence companies, but see opportunities in many more. With this, there is a broader-based rise and the quality of the price recovery is improving. Gradually, this also increases interest among a broader group of investors.