September 2018: Market news and expert views. We work for your investment

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1 Profit expectations for stocks have improved yet again on the back of second-quarter earnings, indicating that prices will continue to rise in the. Increasing protectionism remains a risk, however. Benjardin Gärtner, Equity Portfolio Management September 2018: Market news and expert views We work for your investment

2 The markets at a glance The situation in the capital markets is complicated at present. On the one hand, the economy is clearly receiving more of a boost from the tax reforms than was assumed back in the spring. The second-quarter reporting season resulted in a further jump in the profit expectations of companies, which had been holding steady albeit at a high level for a time. Although companies focusing on the domestic market are the main beneficiaries, this is also good news for the equity markets and, ultimately, the global economy. On the other hand, protectionism remains an issue for the markets, even though it is now even more focused than before on the dispute between the and China. In recent days, there have been strong signs that the tensions between the and Mexico are easing. Following Donald Trump s meeting with European Commission President Jean-Claude Juncker, the risk of a trade war involving European exports appears to have been eliminated, at least for the time being. The eurozone should therefore be reasonably optimistic that it has overcome the period of weakness seen in the first half of the year. This is also indicated by the latest data for the ifo index, which had fallen sharply in the second quarter but has since climbed sharply. Although such developments make the capital markets more robust, they certainly do not make them immune to the political and geopolitical influences that have been a dominant force for some time. If the risks relating to Italy and the trade dispute manifest themselves in the coming weeks, various asset classes (e.g. periphery bonds, emerging market investments, commodities, currencies) may experience significant volatility, because pivotal decisions are due to be made in relation to both Italian budgetary policy and the /Chinese trade dispute in the weeks ahead. After weighing up the opportunities and risks, we decided to keep our RoRo meter unchanged at level 3, with a slight preference for equities from developed economies. only put its series of interest-rate rises on hold if a significant dip in growth occurred. Although the leading indicators do not rule this out, it seems fairly improbable. Fixed income: Despite the summer hiatus, the spreads of Italian government bonds have widened substantially since around mid-july, and yields on ten-year paper now stand at approximately 3.1 per cent. Investors are primarily concerned about the presentation of a government budget for 2019 at the end of September and the related question of how far the populist Italian government moves away from disciplined budgetary policy. We do not expect any major clash with EU rules. However, the recent aggressive rhetoric of Matteo Salvini, head of the Lega Nord party, means that escalation is certainly a possibility with fallout for the capital markets. Bonds from emerging markets initially rebounded during the summer, but the dramatic deterioration of the crisis in Turkey provided another setback. We believe that it is not generally an opportune moment to take on substantial risk in the emerging markets despite the high level of income because of their fragile situation. Equities: The corporate picture remains mixed: companies look as strong as an ox, whereas Europe s firms are lagging far behind in terms of profits and margins. What is remarkable is that, to some extent, companies profit expectations improved in two waves. The first was at the start of the year and was followed by several months of stagnation. Then, in the impressive second - quarter reporting season, profit expectations rose sharply again. In Europe, profit expectations have been lowered in many sectors. Nevertheless, expected profit growth at global level (MSCI World) is now at 16 per cent thanks to the strength of shares. Other important news Economy: The economy may potentially lose some of its momentum in the coming months, although it will remain buoyant. Overall, however, the fundamentals are still strong, at least for the developed economies. There are more doubts surrounding emerging markets, particularly given the trade disputes. This is especially true for China. Although Beijing has implemented a range of measures aimed at creating stability, their impact will probably only be felt in the medium term. If, in the worst case, the trade dispute were to escalate further, the measures might potentially have no effect at all. Monetary policy: In view of the growth/inflation mix described, it is considered certain that the Fed will implement a further interest-rate hike in September. In the baseline scenario, the central bank will do the same again in December. The Fed would Budget talks in Italy taking their toll Yields and credit spreads of Italian government bonds over German government bonds since the start of (%) Dec 2016 Mar Jun Dec n Italian govt. bonds n German govt. bonds n Credit spread (right-hand axis) Source: Thomson Reuters Datastream, as at 28 August Mar 2018 Jun

3 The markets at a glance Our current risk assessment The could lose some of its momentum towards the end of the year, but the eurozone is continuing to stabilise. China used new fiscal and monetary policy measures to stimulate growth, but their impact is not yet discernible. Buoyed by good earnings in the, global profit revisions remain positive. The trade dispute between China and the is still a source of uncertainty, as is Italy s budgetary policy. Our general risk assessment (RoRo meter) remains at level 3 (neutral). RoRo meter Risk Off RoRo-Meter Source: Union Investment, as at 28 August Last changed (from 2 to 3) on 9 July Note: The investment strategy is established by first closely analysing the market environment. The result is reflected in a risk rating. For this, the Union Investment Committee (UIC) expresses a risk-on/risk-off decision at one of five levels (1, 2, 3, 4 or 5). It is to be interpreted as follows: a 5 indicates a strong appetite for risk while a 1 indicates a general withdrawal from risk assets. Risk On Our view of the asset classes Fixed income: We are factoring in the risk posed by Italy and recommend reducing periphery bond exposures. Paper from core eurozone countries also looks less promising following the recent falls in yields. Equities: The fundamentals continue to point in favour of equities, but risks relating to trade policy and other political issues have not gone away. Currencies: The dollar is likely to weaken slightly up to the end of the year. The negative impact of the twin deficit is set to outweigh the positive impact of the interest spread. At the same time, however, the greenback can serve as a crisis currency. Commodities: We were too hasty with our overweighting of industrial metals and we reduced the exposure again in mid-august. Good fundamentals continue to support commodities, but they are currently attracting negative sentiment. The situation in the money markets remains unchanged. Interest rates are still close to zero, which means that holding cash makes sense only for tactical reasons. We take a neutral view of absolute return strategies. The outlook for real estate has improved in Asia-Pacific but deteriorated slightly in the. Appeal of different asset classes Fixed income Core European government bonds Covered bonds = Eurozone periphery government bonds Corporate bonds (euro-denominated, investment-grade) Corporate bonds (euro-denominated, high-yield) = Emerging-market government bonds = Equities = Industrialised countries = Emerging markets = Commodities Currencies dollar = Pound sterling = Japanese yen = Emerging-market currencies = Absolute return = Cash Source: Union Investment, as at 28 August Note: The table above shows a relative view of a multi-asset portfolio (excluding real estate). If an asset class is more strongly favoured, a lower level of investment in another asset class is required in return. The latter would then be classified as less favoured or vice versa. Real estate is excluded from this analysis. = The = signs indicate the change compared with the UIC s previous decision. Not favoured Neutral Strongly favoured Real estate Germany = Europe (ex Germany) = Asia-Pacific Source: Union Investment, as at 30 June Assessment is valid for three months. Note: The table above shows a relative view of the office real-estate markets in light of current market prospects. Owing to data availability, it is only updated quarterly. 3

4 Forecasts These forecasts represent Union Investment s assessment at the current time and may be changed without notice. Where a forecast has been significantly revised in comparison with the previous report, we will explain this in the relevant section. Routine adjustments that arise from a change in the forecasting horizon are not usually explained. GDP Germany UK Eurozone Japan China 2.5% 1.7% 2.5% 2.2% 1.7% 6.9% % 1.4% 2.0% 2.7% 0.9% 6.5% % 1.6% 1.9% 2.4% 1.7% 6.3% Inflation Germany UK Eurozone Japan China 1.6% % 2.1% 0.5% 1.6% % % 2.6% 0.8% 2.0% % % 2.5% 1.0% 2.0% 10-year yields Germany Benchmark rates Eurozone Current status* 0.4% 2.9% Current status* 0.00% % In 3 months 0.7% 3.1% In 3 months 0.00% % In 12 months 0.9% 3.1% In 12 months 0.00% % Equities DAX 30 EURO STOXX 50 S&P 500 Nikkei 225 Current status* 12,140 3,335 2,895 22,580 In 3 months 12,800 3,500 2,950 23,000 In 12 months 12,800 3,500 2,950 23,000 Commodities Gold Oil (Brent) MS RADAR ex Ag. Current status* 1, In 3 months 1, In 12 months 1, Currencies dollar pound sterling Japanese yen Current status* In 3 months In 12 months Real-estate yields** Germany Europe (ex Germany) 30 June % 3.9% 4.7% 4.3% 30 June % 3.7% 4.7% 4.3% Swiss franc Asia-Pacific * As at 31 August ** Data is updated every quarter. The following cities have been aggregated on the basis of regional indices: Germany: Berlin, Düsseldorf, Frankfurt, Hamburg, Munich. Europe: Amsterdam, Brussels, Helsinki, Lisbon, London, Luxembourg, Madrid, Milan, Paris, Prague, Stockholm, Warsaw. : Atlanta, Boston, Chicago, Dallas, Houston, Los Angeles, New York, Miami, San Francisco, Seattle, Washington. Asia-Pacific: Tokyo, Kuala Lumpur, Singapore, Seoul, Sydney. 4

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