The widespread expectation of the global economy heading for a soft landing will be put to the test amid major political change and the risk this creates for economic stability.
Uncertainty will challenge both central banks as they chart monetary policy and investors as they grapple with the new US administration’s policies, a vulnerable Europe, and a struggling China.
Elsewhere, we see artificial intelligence continuing to drive innovation, creating new investment opportunities. Private credit offers investors a rich pipeline. For those focused on income, there is a broad set of fixed income opportunities, and for those keen on diversification benefits, emerging market debt can be a rich furrow to plough.
Explore the key local trends and opportunities we see for Asia Pacific investors below.
Watch Now
Chief Market Strategist Daniel Morris teams up with our regional economists to present a summary of the expectations and implications for global markets this year. Watch this 4-minute video as they discuss key themes while addressing US inflation outlook, geopolitical tensions in Europe, and challenges in emerging markets including China.
The outlook for financial markets
Daniel Morris, Chief Market Strategist, London
The Republican party’s sweep of the US election is likely to boost equity markets, particularly those in the US, if the pattern of the first Trump administration is any guide. The risks are that either growth accelerates by too much and the US economy overheats, or that large tax cuts prompt a negative reaction from the bond market. We will have to wait until there is more clarity, not only on any policy proposals, but also on what can actually be implemented.
Aside from political developments, developed market central banks are cutting policy rates. This should boost both equities – as shorter-term financing costs fall – and fixed income, as the policy rate component of bond yields declines. Of course, anticipating the reaction of markets is not as simple as that because the other, arguably more important, factor driving asset prices is economic growth.
Investors should initially be circumspect in anticipating positive equity returns during a rate-cutting cycle given that four out of the last five such cycles in the US coincided with a recession. Not surprisingly, the onset of a recession led to negative returns in equities alongside gains for government bonds.
The critical consideration in anticipating returns for next year is whether 2025 will be exceptional in not having a recession.
A preference for US equities
The consensus view has been that the US will indeed see a soft landing – that growth will slow, but remain positive as core inflation moves back towards the US Federal Reserve’s 2% target. Europe has already had a slowdown, but we believe 2025 should see a modest rebound. Economic growth would be supportive of equity markets and earnings, leading to price gains in the year ahead.
Our regional preference remains the US. Enthusiasm for artificial intelligence was the primary driver of rising earnings in 2024; the bulk of earnings derived from the types of stocks making up the tech-heavy NASDAQ 100 index, while the rest of the market saw barely positive growth.
In 2025, the distribution is expected to be more balanced, even if NASDAQ earnings growth is still superior (see Exhibit 1).
Exhibit 1
Consensus year-on-year earnings growth estimates
Data as of 24 October 2024. Sources: FactSet, BNP Paribas Asset Management.
European equities should also see market gains, but once again lag most other major markets. The region remains hindered by the overhang of geopolitics and structural challenges facing its largest economy, Germany.
Consumer demand in Europe will need to rebound much more strongly than we anticipate for consumer-linked sectors to thrive. Exporters will benefit from robust US growth, though tariffs remain a worry. China is unlikely to pull in European products the way it has in the past as growth in China slows.
The potential for superior returns in China will depend primarily on actions from the central authorities. China remains distinct in its dependence on government policy to drive economic growth and hence corporate profits.
While we anticipate more stimulus from Beijing, it does not look likely there will be a major change in economic policy; Beijing will probably continue to focus on investment in new, developing industries rather than nurturing household consumption or bailing out property developers.
We question whether these privileged sectors will be able to generate growth for the whole economy at the rate the authorities would like. Without a stronger rebound in the property market, consumer sentiment is likely to remain depressed. Looking to exports to make up the slack may also prove insufficient due to rising global protectionism.
Chinese earnings should nonetheless rise, at more than 10% year-on-year if consensus estimates are correct, though this is not that much more than Europe at 9%. Valuations are low relative to history, but there may now be a permanent discount to multiples versus the past, meaning price-earnings ratios will not necessarily revert to the mean.
Fixed income – Opportunities and concerns
The risk to market expectations for short-term rates in the US comes from the potentially inflationary impact of the new Trump administration’s policies (tighter immigration, tariffs, tax cuts). At this point, however, one can only speculate on what will actually be implemented.
Longer-term Treasury yields could rise to reflect an uncertain inflation outlook
Longer-term Treasury yields could rise to reflect the uncertainty about the outlook for inflation, to say nothing of the US budget deficit. An extension or expansion of tax cuts would only lead to a further deterioration in the fiscal outlook.
As always, however, it is unclear if and when the market will decide to fully price in these risks. We would anticipate ongoing support for gold prices as investors look for alternative safe haven assets.
Investment-grade credit should provide superior returns relative to government bonds as spreads remain contained alongside steady economic growth.
While spreads are narrow – both in the US and in the eurozone, and both for investment-grade and high-yield – they are relatively better for eurozone investment-grade credit, and we see this asset class as offering the best risk-adjusted returns.
Private credit opens the door
Koye Somefun, Head of Multi-Assets & Solutions in Quant Research Group, Amsterdam
Stéphane Blanchoz, Head of Alternative Solutions, Paris
The private credit market is expanding, maturing and opening up to retail investors. What are the trends driving the market? What are the considerations for investors, existing and new, in 2025?
ELTIF 2.0 regulation democratises private credit access
Since banks were forced to tighten lending standards and reduce balance sheet risk in the wake of the Global Financial Crisis, non-banking lenders have played an increasing role in providing loans directly to borrowers.
The private credit market has grown rapidly, to reach approximately USD 1.5 trillion in size at the start of 2024, and is forecast to expand to USD 2.8 trillion by 2028.1 However, the asset class has historically been the preserve of large institutions who can meet high minimum investment requirements and commit to lock-up periods of eight years or more.
The new version of the European Union’s Long-Term Investment Fund regulation, referred to as ELTIF 2.0, heralds a democratisation of private credit, enabling the creation and distribution of funds accessible to retail investors.
Unlike the closed-end funds through which large investors have typically allocated to the asset class, vehicles operating under ELTIF 2.0 can be structured as evergreen funds: open-ended funds with no fixed end date, investing in loans of different maturities or vintages. Such funds provide more flexibility because the capital is not locked: investors are allowed to redeem units periodically. They are also likely to have lower minimum investment thresholds.
The availability of these funds in Europe is part of a broader trend that is set to transform the market in 2025 and beyond. Retail access is also opening up in Asia, while the US Securities and Exchange Commission is evaluating applications for the first private credit exchange-traded funds (ETFs).
Partnerships reshape the market
An important trend in private credit markets is the establishment of partnerships, either through joint ventures or acquisitions, between insurance companies, banks and asset managers.
Such partnerships bring together the full chain needed for private credit investment, from those with the money to lend to those with the clients to lend to. Asset managers gain privileged access to deals, as well as a base for distribution in the form of the insurance or private banking partner, removing the need to fundraise.
This trend looks set to continue in 2025, driving increasing efficiency in private credit markets and contributing to the maturation of the asset class.
Scalability becomes a differentiator
Absent the credit rating agencies and flow of information that support the evaluation of investments in public bond markets, analysis of private credit transactions is comparatively labour-intensive. The result is fierce competition for the largest transactions.
Today, though, we are seeing direct lenders move into the mid-market and lower mid-market, where access to different types of companies represents a potential source of diversification and opportunity. The challenge is information. For those with the contacts and organisation, the ability to scale lending efficiently to this part of the market has the potential to be a differentiating factor in 2025.
Investor requirements drive sustainability
In private credit, as in other asset classes, sustainability is a requirement for European investors. However, in the same way that the credit characteristics of private debt transactions require more bespoke analysis than in public markets, managers need their own methodologies to evaluate the sustainability of private borrowers.
Managers who took the focus on sustainability seriously from the start have by now formalised and embedded sustainability frameworks and can drive progress. While larger companies must meet disclosure requirements, smaller companies that have never accessed capital markets are less familiar with the ESG questions that matter to investors. The process of seeking answers can involve significant educational work.
LBO concentration is a risk to be managed
Private credit plays an increasingly important role in financing leveraged buyout (LBO) activities, providing 86% of loans for the market in September 2023, up from 65% in 2021. According to data collected by Preqin, 40% of all private credit deals since 2010 have been used to finance buyouts (see Exhibit 2).
Another related category is public-to-private, where the capital is used to transition a publicly owned firm to private ownership by acquisition of most of its shares. This category represents only 2% of the total deals recorded by Preqin but accounts for 31% of total deal value.
Exhibit 2
Combined buyout and public-to-private transactions represent 71% of the total deal value. Financing these activities comes with its own specific risk, so it will be important for investors to ensure they remain well diversified and avoid following the trend upwards.
Bank disintermediation broadens the opportunity set
In addition to private corporate credit, the private debt market includes real asset debt, such as infrastructure debt and real estate debt, issued by non-bank institutions. These different categories enable investors to create diversified portfolios with broad exposure to different sectors of the real economy and parts of the business cycle.
As the asset class continues to develop and mature and the bank disintermediation trend continues, we expect to see a wider range of private credit initiatives, including asset-backed finance, equipment leasing and expansion into niche real estate markets.
Investment considerations for 2025
Importantly, private credit should not be seen as an opportunistic asset class, but rather a long-term one, linked to the structural bank disintermediation trend.
For those looking to diversify into the market in 2025, the key is to look for a partner with access to borrowers; experience in negotiating, closing and monitoring loans; and a credible framework to manage liquidity.
In 2025, we see private credit as well placed to attract inflows. The fundamentals of companies across Europe are very strong after extensive deleveraging of balance sheets. Investors are searching for yield, as witnessed by the strength of public credit markets. For those investors with an appropriate investment horizon, private credit can generate attractive risk-adjusted returns relative to traditional fixed income. This can be all the more valuable at a time of the indexation and commoditisation of public bond markets, and with savers seeking high-quality investment income for their retirement.
ELTIF 2.0 set to drive growth in European private markets
The advent of ELTIF 2.0 has the potential to significantly increase both the volume and source of capital flows into European private markets.
Forecasts for the growth of the ELTIF range from EUR 35 billion by the end of 2026, according to German rating and analytics firm, Scope, to a European Parliament report suggesting that ELTIF assets might reach EUR 100 billion by 2028.
There is clearly broad confidence that the legislative and regulatory tools are now in place for Europe’s long-term fund regime to fulfil its potential.
1 Preqin 2024 Global Private Debt Report
Life after cash
James McAlevey, Head of Investment Team – Global Aggregate & Absolute Return, London
The period of higher official interest rates triggered by the post-pandemic surge in inflation drew more than USD 6 trillion2 into short-term cash investments. Now, as central banks lower interest rates, where might money market fund assets find a home in 2025?
Fixed income reclaims its rightful place
Money market funds have provided substantial benefits in the recent higher interest-rate environment, but with cash rates coming down it’s time to look ahead. While we see rates declining, we don’t expect policy rates to go to zero.
For the period ahead, a more useful model than the Covid19 pandemic or the Global Financial Crisis can be found in ‘conventional’ recessions, in which rate cuts of 200-300 basis points were sufficient to reduce unemployment and provide economic stimulus.
With inflation now well under control, central banks have embarked on easing cycles for ‘conventional’ reasons, not crisis management. If growth weakens too much, we could see interest rates move below their long-term trend level, but we don’t expect them to do so significantly.
Moreover, central banks are unwinding quantitative easing. That means a transfer of debt to the private sector, which in turn means we’re unlikely to see a return of the flat yield curves that were characteristic of the zero-rate environment.
If interest rates do fall, we expect yield curves to remain steep and long-term rates relatively high. There are concerns about budget deficits, which look large for this stage of the cycle, but there currently appears to be little political appetite for fiscal prudence.
This is a positive environment for fixed income, in which bonds can again offer the income, carry and defensive characteristics to which investors were accustomed before the crisis years.
Meanwhile, the falling cash rate represents an incentive to move out of money market funds and to reinvest before policy rates hit their trough.
The opportunity set favours a flexible approach
Corporate credit is often the go-to area for income, but it looks expensive today given that we are at an advanced stage in the economic cycle, and seems even more expensive were we to head into an economic downturn.
Investors thinking about the year ahead should be aware of the sizeable corporate refinancing wave coming up in the next 12-18 months, which could lead to higher yields (and lower prices). US mortgages can be a useful substitute, offering a higher yield in combination with an implied triple-A rating given their government backing.
In emerging markets, as in developed, most central banks have embarked on cutting cycles. However, emerging market yield curves have been upward sloping for some time, and real yields are significantly higher.
As a result, we see emerging markets bonds – particularly those denominated in local currencies – as a better place to take interest-rate risk. Country selection is of course important given some markets are further along the easing path than others.
Volatility and dispersion make a comeback
If 2022 brought too much volatility in bond markets, the preceding years saw too little. Quantitative easing not only starved investors of income but suppressed volatility. There was little dispersion and little opportunity to benefit from arbitrage between or within fixed income segments.
Today, we are in a volatility sweet spot, with markets living, breathing and adjusting to fundamental developments in a way they haven’t for years. With more normalised volatility comes greater dispersion. Value-based investors can take advantage of this through intra-market and cross-market strategies or through the timing of allocation changes.
Economic dispersion is another area of opportunity. During the financial crisis and the pandemic, global central banks moved in lockstep, slashing rates at the same time for the same reasons and arriving quickly at the same destination. Now, we’re having very different conversations: who will go first, who will cut most, who’s ahead of or behind the curve, what might terminal rates be in which market?
One example is Canada versus the United Kingdom (UK) or versus Norway. Canada has sub-trend growth and below-target inflation, and is already well entrenched in its easing cycle. The UK has proceeded more cautiously, while Norway is yet to move. As the central banks plot different courses towards their respective targets, investors who get the sequencing right can benefit.
For investors not eager to make these decisions themselves, flexible funds targeting total and absolute return or income can take advantage of both attractive opportunities and useful places to hide out. When combined with their ability to navigate the ongoing uncertainties that might be giving investors pause, these strategies may be an attractive option for cash currently on the sidelines.
2 Global Money Market Fund Flows Dashboard: 4Q21 (fitchratings.com)
Written: November 2024.
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