Domestic strength powers Japan’s rebound

Room for a rate hike as risks fade

Japan’s economy still looks healthy. Inflation remains higher than usual, which means the central bank can finally move away from the ultralow interest rates it has kept for years. Tokyo’s consumer price index, a widely-watched economic indicator, rose 2.9% in July, comfortably above the Bank of Japan’s (BoJ) 2% target.

Forward-looking signs are fairly positive. The Bank’s own Tankan survey, a study of Japanese businesses conducted by the BoJ every three months, shows large manufacturers still showing resilience. July’s early purchasing manager index surveys (a summary of the state of market conditions) were mixed: manufacturing slipped into decline, matching the global slowdown in manufacturing, but the services sector kept growing. Services matter most because they are an important growth engine, making up about 75% of the economy.

Homegrown demand is solid thanks to rising incomes and government spending, even as overseas demand is weak. The jobs market is tight: unemployment is steady at 2.5% and wages are still climbing.

With trade tensions easing, the outlook for growth and policy looks more balanced. The BoJ could lift interest rates from 0.5% to 0.75% as soon as the September or October meeting, since inflation has so far stuck around and external risks have eased enough to give policymakers room to act.

We have been positive on the investment case for Japanese equities for some time and this is still our view as Japan transitions towards a self-sustaining economy.

Why UK government bonds are worth another look

UK government bonds (gilts) have been volatile this year. The yield on the 30-year gilt has swung between just under 5% and a little above 5.5% and now sits at 5.4%, near the top of that range. The same pattern shows up in long-dated bonds from the United States, Germany and Japan. This is despite their central banks (apart from Japan) cutting short-term policy rates. Investors are asking to be paid more to hold very long bonds while governments ramp up borrowing.

Big spending plans lie behind the worry. The UK’s last autumn Budget and the recent US tax-and-spend bill (nicknamed ‘the Big Beautiful Bill’) both widen fiscal deficits and push total debt higher. That raises questions about whether governments are living beyond their means, and how easily they can service what they owe. At the same time, central banks are shrinking their balance sheets.

The Bank of England (BoE) is selling the gilts it bought during the pandemic, boosting supply and putting downwards pressure on prices (meaning yields rise).

We do not think public finances are at a tipping point. Bond risk premiums (what investors are paid to hold bonds) had been unusually low and are now normalising, and quantitative tightening (central banks selling their bonds) won’t last forever. A 5.4% yield on a 30-year gilt looks attractive against long-run inflation.

Weak UK growth and fading price pressures should lead the BoE to keep cutting rates, lifting demand for long-dated bonds and nudging yields lower. If the Bank slows its gilt sales and the Debt Management Office leans toward issuing shorter-dated debt, supply pressures should ease further, improving near-term returns for investors.

Our early observations as US earnings season kicks off

The second quarter US reporting season has begun, and analysts have trimmed their forecasts in response to a shaky economic outlook and shifting trade policy. At the end of June, data provider FactSet predicted earnings from the US’s largest listed companies would rise 5% in the second quarter compared to a year earlier, down from roughly 13% growth in Q1 and the slowest pace since the fourth quarter of last year. Sales growth and profit margins should also cool, although margins are still likely to sit above their five-year average.

Tech remains the main profit driver

Big-cap technology firms are set to deliver a large portion of the index-level earnings increase once again. Capital spending by the cloud ‘hyperscalers’ (large cloud service providers that can rapidly scale their infrastructure to meet the needs of their customers) has dominated recent quarters. Investors will pay closer attention this time to how those outlays translate into cash flows and efficiency gains in artificial intelligence and cloud services.

The consumer sector is another focal point. Overall spending is still solid, yet new tariffs, shoppers trading down to cheaper brands, and diverging habits across income groups act as a counterbalance.

With earnings still steady and monetary policy turning more investor-friendly, equity valuations have room to hold up over the next 18 months. Many strategists also expect large US companies to outpace their overseas peers in profit growth during the coming year.

Sector in focus: Information technology

The technology sector has returned around 11% year-to-date, outperforming global and US stock markets. The sector hit its lowest point in April after a weak start to the year. This was partly due to market concern following DeepSeek’s AI breakthrough (DeepSeek is China’s answer to leading AI model ChatGPT). The sell-off in technology stocks was also partly in reaction to President Trump’s trade tariffs and China’s swift response which sparked fears of a global trade war. This turbulence directly impacted technology supply chains and threatened corporate profitability for mega-cap stocks (the largest listed businesses) and semiconductor makers. Confidence returned from mid-April as trade deals have been struck, the ‘tit-for-tat' trade tariffs between nations have calmed, and earnings have grown. Investors can now refocus their attention on longer-term growth drivers. Looking ahead, the IT sector is expected to beat consensus expectations in Q2 as demand for AI-related technologies continues. 

Information correct as of 30th July 2025.