The ‘Gini’ is out of the bottle

Recession proof (?)

Recent global equity market price momentum has been strong despite ongoing policy uncertainty, escalated military conflict in the Middle East, and lower consensus economic growth forecasts. A US recession – a scenario which might lead to a significant shift in asset price performance – remains a low probability event. A lot of observers find this puzzling. Since the pandemic, real disposable income growth has been anaemic in aggregate (less than 1% per year compared to 2.8% annualised over the past 50 years). There has been a considerable tightening of monetary policy which has made life more difficult for borrowers - the average 30-year mortgage rate is at 6.75%, compared to 3% before the Fed raised rates. On top of all that, consumers are paying higher prices for imported goods.

More or less equal

The US is an extreme. The Gini coefficient is a measure of income inequality with a coefficient of zero indicating perfect equality and 1, absolute inequality. The World Bank provides an income inequality estimate based on the Gini methodology and a scale of 0-100. For 2023 the measure was estimated at 41.8 for the US. Countries with a higher measure (greater inequality) include places like South Africa (63.0), Brazil (51.6) and Turkey (44.5). Those with lower measures (more equality) included the UK (32.4), France (31.2) and Norway (26.9). With more income equality, a shock to real incomes (like the energy price shock in Europe in 2022) tends to have a broader and more aggregate impact. Germany’s decline in real GDP since 2022 is in part explained by this, although there are clearly other factors. The current US budget proposals, if anything, will merely entrench further income inequality, keeping the US economy highly leveraged to financial markets and the ability to sustain super profits in technology. In an unequal society, a rising tide does not necessarily lift all boats, but in a more equal one, a sudden deluge can sink them all. The policy model in Europe’s socially-democratic environment tends to address inequality and the challenge is to balance that with stimulating growth. In the US, the policy model tends to boost growth but paper over the inequality with populist promises.

Momentum is positive

Most of the time we are not in recession and the positive feedback loop in the US supports strong equity returns and economic growth. The accumulation of that is a stock market with much higher valuations than anywhere else, aided by its own positive dynamics attracting money in from the rest of the world. Latest readings for a measure of equity index price momentum, based on one-month and three-month changes, puts US indices towards the top of an international comparison (22 different indices) with only Korea and Israel topping the US. This measure recently turned lower which may indicate some underperformance of global equities for a while – subject to sentiment of course, which appears forgiving to policy shenanigans.

But valuations are rich

I’ve talked a lot about valuations and in our market strategy at AXA IM we always try to balance the impact of valuations, with macroeconomic factors, sentiment and technical influences on the market. Often, it is the case that valuations are high for certain asset classes because the macro (or broader fundamentals such as profits and leverage) is also positive. I looked at a range of valuation metrics for rates, credit and equities and calculated normalised scores for them relative to their distribution over the last 25 years – real rates, curves, credit spreads, price-earnings (PE) ratios and dividend yields. Not surprisingly, there are few assets flashing cheap. The cheapest ones are mostly UK – equities, long-end government bonds, real rates and overall credit yields. But when we think about the macro backdrop to the UK – Brexit, anaemic growth, persistent inflation and fiscal deterioration – it’s no wonder sterling assets are cheap. Away from the UK, European equities (dividend yields) and real rates score reasonably well.

Politically pricey

No surprise either for what flags as very expensive – US equities and credit spreads in general. Exceptionalism is priced in, with earnings per share growth required to be even higher than current analyst consensus forecasts to justify the current price-earnings multiple (never mind allowing the PE to revert to its longer-term average). The current political push to lower taxes and regulation favours a return to capital rather than to labour, extenuating income inequality and raising the firepower of those higher income cohorts. It's uncomfortably hard to see how this all stops. Recessions have always led to lower profit margins and earnings, but the US seems to have become more resistant to recessions. Meanwhile, the rest of the world is dogged by sluggish growth, structural brakes on investment and innovation, and political systems that are weighed down by debt. The US is also becoming fiscally burdened, but the constraints are less because the rest of the world finances the US and in return the leveraged, socially unequal machine continues to generate growth. I don’t understand why Trumpism wants to throw sand in the machine.

Trump and market concerns (again)

However, this week’s round of tariff threats and Trump’s consistent attacks on Fed Chairman Jerome Powell, could backfire on the US. Inflation break-evens are starting to move higher – the five-year/five-year inflation swap rate has continued to move higher, the dollar is weakening again, even Bitcoin is testing new highs. The minutes from the Fed’s June 17-18 meeting clearly articulate the broad concerns about inflation moving higher, even if the tariff impact is temporary. Investors should be concerned that after supporting a budget which will add trillions to the US’s outstanding debt, President Donald Trump is pressuring the Fed to cut rates to reduce the cost of financing that debt – something which economists call “fiscal dominance”. The risk is higher yields, a weaker dollar, higher inflation, and eventually, credit and equity valuation corrections. Long credit is a very strong consensus, and as a Bloomberg article suggested this week, more and more of that is being expressed in a leveraged way through the credit default swap index market. The risk of an extended move - e.g. around tariffs or the Fed - is rising. After strong risk momentum, it might be time for tactical investors to potentially take a more cautious approach again.

Performance data/data sources: LSEG Workspace DataStream, ICE Data Services, Bloomberg, AXA IM, as of 10 July 2025, unless otherwise stated). Past performance should not be seen as a guide to future returns.