Government bonds could regain some of their traditional role as a haven
While France is an extreme case of a corporate-government bond inversion — France’s debt is now riskier than 3.4% of French high-grade company bonds — the dynamic has been brewing in developed economies for some time, and the tally of corporate bonds with negative yield spreads with government bonds may keep growing. Gross sovereign bond issuance by OECD countries is forecast to reach around $18 trillion this year, saturating bond markets with supply. Bond investors are thus likely to continue to demand higher interest rates to compensate for the risk. But, as concerns mount across markets over the outlook for some artificial-intelligence firms and the potential impact on the broader economy, sovereign bonds could regain some of their traditional role as a haven.
Power demand and grid renewals support electrification
The long-term investment case for electrification is being strengthened as global electricity demand enters a faster growth phase. The International Energy Agency (IEA) sees consumption surging about 40% by 2035. Though industries should remain the largest source of power demand, AI and data centres are emerging as major incremental loads, while electric vehicle (EV) adoption, heat pumps, industrial electrification and increased use of air conditioning are sources of additional structural support. The electrification theme also has a structural tailwind from ageing grids — particularly in Western markets — along with the rapid expansion of renewables. Consensus sees 23% annualised earnings per share growth over the next three years in the sector, just below technology (25%) and slightly ahead of AI (19.5%).
Gold: a hedge against waning confidence in sovereign bonds
The yellow metal is currently more responsive to the chain reaction from oil prices to inflation expectations and ultimately Fed policy. Yet the fundamental drivers of the secular bull market in precious metals remain fully intact. Despite a 13% decline in the gold price in the space of two months, holdings in physically backed gold ETFs rose by 67 tonnes to a record 3,142 tonnes and central banks purchased a record 289 tonnes of gold in the second quarter. This divergence is more than a curiosity: It suggests that investors increasingly view gold not as a bet on rising prices, but as a hedge against waning confidence in government bonds.
The equity rally celebrated its fourth anniversary on 12 October, delivering returns of 115% for the S&P 500 index and 108% for the MSCI ACWI index in US dollar terms. It is the third-strongest rally since 1947! Historically, rallies that have continued into a fifth year have delivered an average gain of 21%. This track record suggests that equities could have further upside, with scope for the rally to broaden beyond the technology giants that have accounted for most of the gains since November 2022 (243%).
For now, however, there is little sign of such a broadening. Investors remain focused on a limited number of themes linked to the enormous capital expenditure — estimated at $5 trillion — expected to flow into AI by 2030. They appear increasingly selective, favouring higher-quality, less cyclical AI-related technology stocks. While this extreme concentration poses a risk — one reason why ING’s Tactical Asset Allocation maintains a neutral allocation to equities — it also reinforces our preference for IT and AI stocks with the strongest earnings growth prospects and the most robust balance sheets, particularly in emerging markets (with the exception of Asia-Pacific ex-Japan, which we have downgraded from neutral to underweight) and in the US, which we have upgraded to overweight.
In fixed income, our investment strategy remains cautious on government debt given the pressure on long-term yields. However, with yields on bonds maturing in ten years or more at their highest levels since 2002, averaging 4.8%, compensation for sovereign debt risk is starting to look sufficient to justify selective purchases. We have therefore slightly reduced our underweight in government bonds. This adjustment has been funded by selling some emerging market bonds, although the overall allocation to emerging market debt remains overweight, as does the allocation to top-rated high-yield bonds. Both asset classes offer an attractive yield premium over government bonds, at 1.8% and 3.4% respectively.
While commodities (+37% in euro terms year-to-date) continue to outperform, this is largely due to the energy shock (+104%) triggered by the conflict in the Middle East. However, following such a strong rally, and given the negative impact of higher prices on demand and the initial normalisation of oil flows through the Strait of Hormuz, ING retains a neutral stance on the asset class. Over the longer term, the outlook appears more favourable for industrial and precious metals than for fossil fuels. It is important to bear in mind that metals are set to play a key role in the transition towards renewable energy and the expansion of AI- and electric vehicle-related infrastructure, where electricity demand is growing at an almost exponential pace.
Monthly Investment Convictions
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Aging grids raise investment needs
The electrification theme also has a structural tailwind from aging grids -- particularly in Western markets -- along with the rapid expansion of renewables, which increasingly require power to be transmitted over longer distances to consumers from generation centres. The IEA estimates about 50% of US and European Union grids are over 20 years old (see the chart), with 25 million kilometres (km) of grids needing to be built or modernised by 2030, rising to 55 million km by 2035. Annual grid investment needed to reach that goal is $600 billion by 2030 vs. $400 billion currently. That's an 8.4% compound annual rate of growth, well ahead of the 5% capex pace expected for utilities over the next four years.
The widening gap between required spending and current capex expectations supports a multiyear investment cycle for the industrial and technology suppliers (transformers, cables, substations, storage and digital grid-management systems).
Electrification spending could drive 23% EPS growth
Central banks provide a structural anchor
Real yields remain the key swing factor
A strategic portfolio role
What could challenge the outlook?
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