Rethink multipolarity – an investor’s roadmap

A geopolitical re-set seems to be gaining pace as the US and Russia’s envoys met in Saudi Arabia to prepare negotiations to end the Ukraine war. The implications for the global economy and financial markets may be significant. We examine the context and possible outcomes. In contrast to risk-adjusted returns pre-Covid, a multi-polar world may deliver more even levels across asset classes. For asset allocators, the benefits of broad diversification are clear.

To understand US national interests under the new Trump administration, it is important to acknowledge that Mr Trump’s re-election was in part thanks to a promise to improve the average American household’s purchasing power. This is not about bringing inflation back to pre-Covid, pre-Ukraine war targets – it’s already at these levels. It is about persistently lowering prices of essential goods. Consistent with the President’s executive order declaring an energy emergency, the new US administration’s key price category is oil, gas, and electricity.

For US energy costs (fuel in particular) to drop to pre-2022 levels, global energy prices must fall. To this purpose, energy trade would need to normalise and sanctions against Russian energy exports would need to be lifted. This would require an agreement by India, as a new intermediary, to clear Russian energy trade, as well as by Saudi Arabia, a key producer of the Organization of the Petroleum Exporting Countries (OPEC). In our view, the OPEC+ alliance, which includes other major oil producers, may be ready to supply more at lower prices as part of a larger multipolar deal. We would not expect a collapse in oil prices. Fiscal constraints require a minimum price for Saudi Arabia and Russia, as well as for US energy companies to continue investing in their activities.

Read also: Investment strategies for Trump 2.0

We retain our expectation that the price of Brent should reach USD 65/barrel in twelve months, with a risk of prices falling into the low USD 60s. Holding everything else constant, such a decline in oil prices would contribute to a fall of headline US inflation of between 0.3 and 0.5 points. Potential effects of US tariffs or restrictive migration policy are key for inflation. We expect tariffs to have a limited impact on inflation and, once illegal immigration is deemed under control, looser migration policies.

…such a decline in oil prices would contribute to a fall of headline US inflation of between 0.3 and 0.5 points

In this context, we see 10-year break-even inflation rates, a measure of long-term inflation expectations that has oscillated between 2.25%-2.5%, to head back to 2% or below over the next twelve months as a result of a sustained drop in oil prices.

Lower long-term inflation expectations are key to lower long-term bond yields, a stated objective by the new US Treasury Secretary Scott Bessent. Interest payments by the US Treasury represent 10% of annual government expenses at current average yields. We would expect the new administration to seek to lower the cost of its debt, and 10-year US Treasury bond yields to fall towards 4% in 12 months if international relations normalise rapidly and energy prices fall, below our current forecast of 4.5%.

The administration’s medium-term objective is to lower refinancing costs as yields will remain higher than pre-Covid. Interest rate payments are not the only path to budgetary control. Cutting government spending is key. After interest payments; social security, healthcare and defence represent the biggest expenses. Under Elon Musk’s influence, the Trump administration plans ambitious spending cuts, as well as lower corporate taxes to encourage foreign direct investment. Another focus is military spending, where the Trump administration aims to shift the burden of financing defence to others, including Europe.

Dollar, gold, and equity markets

The status of the US dollar as the global reserve currency is key to normalising US-Russia ties. Any lifting of sanctions against Russia may mean the acceptance of the US dollar. In return, the US may unfreeze Russian central bank’s assets. That may lead Russian banks back into the SWIFT payment system, and could return Russian financial assets to international markets. In such a scenario, Russian dollar-denominated bonds would perform. Russian equities, which are currently trading at a forward price/earnings ratio of 3x, would rebound. Emerging market assets more widely would likely benefit. Fewer global trade frictions and lower food and energy costs would support emerging market corporate profitability. We would expect emerging market stocks to perform along with US equities.

Read also: Trump’s policy priorities don’t yet shift outlook

We also continue to expect a stronger US dollar, thanks to its reinforced status as the global reserve currency, along with attractive rate differentials. We expect EURUSD at 0.98 in twelve months and GBPUSD at 1.16. In this scenario, central banks may slow their gold purchases, triggering a temporary consolidation before the traditional drivers including US real rates and the US dollar, take over.

The time to invest in European fixed income is now

European assets at a crossroads

The European Union and the UK have been caught off-guard by the latest geopolitical developments. The weight of Europe in the new multipolar world is declining. Europeans appear to have a choice of benefiting passively from lower global energy prices and any lifting of US sanctions against Russia, or actively being more independent from the US and China. In the current international order, European interests seem less aligned with the US. There is a high likelihood of US tariffs on European products, followed by European retaliation. For an export-oriented economy, this is risky. We believe that investors who have enjoyed returns on European and Swiss equities year-to-date should look to shield them (this may include structured strategies for eligible investors). European corporate bond holders should anticipate lower yields in twelve months. Therefore, the time to invest in European fixed income is now.

In Germany, a combined parliamentary majority of more than two-thirds is needed for a reform of the country’s debt brake rule, and we do not anticipate any loosening. This puts the burden of shielding the economy on the European Central Bank. We retain our expectation of successive rate cuts by the ECB at each of its meetings this year.

Investors are navigating a new post-cold war, multi-polar era, where risk-adjusted returns are converging across key asset classes. The global liberal democratic order seems to be subordinated to shorter-term national and economic interests, led by the new US administration. Asset allocators must manage risk diligently and diversify broadly, taking advantage of alternative assets where possible.