Slower, not weaker: What our growth indicator is telling us

By Lilian Chovin, Head of Asset Allocation, and Nathalie Malakee, Asset Allocation Analyst

• Our proprietary economic growth indicator has moved from a period of economic expansion to one of slower growth momentum, signalling that growth is still improving but at a more measured pace.
• An earlier tightening signal from our policy indicator pointed to a less supportive backdrop. Pressure is now visible in interest-rate-sensitive areas, particularly housing, but has not spread decisively through broader economic activity.
• Historically, a period of slower growth momentum has remained positive for risk assets, such as equities, although it provides fewer clear conclusions about market leadership.

Three interconnected factors shape our view of the investment environment: economic growth, inflation, and policy. Economic growth sits at the centre of our analytical framework because it has the biggest impact on earnings, credit fundamentals, and investor risk appetite. Inflation becomes most important when it alters the growth outlook, while policy matters when it either supports or restrains economic activity.

When growth momentum is accelerating, equities tend to benefit from stronger earnings expectations and improving confidence. When momentum begins to moderate, those tailwinds become less powerful, and the best-performing sectors are often those that are less economically sensitive.

Setting the scene for lower economic growth momentum

Our latest analysis of the environment for economic growth suggests the growth cycle has moved from a period of economic expansion (‘expansion’) to one of slower growth momentum (‘slowdown’). Our analysis incorporates forward-looking indicators, including the OECD's Composite Leading Indicator (CLI), to assess changes in the direction and pace of global economic activity.

In our analytical framework, we use the term ‘slowdown’ to refer to an economic environment where leading indicators remain on an improving trend, but the pace of improvement has moderated. It should not be interpreted as falling economic output, nor as a forecast of imminent recession. It is a loss of acceleration rather than evidence that the economy is contracting. 

Our analysis of the policy environment had already begun to signal a less supportive backdrop, as market expectations moved away from rapid monetary easing and towards higher-for-longer interest rates. When market participants expect interest rates to remain elevated, borrowing becomes more expensive, financial conditions tighten, and businesses and households face greater constraints on spending and investment. The relationship between policy and growth is not mechanical or one-for-one, but the two signals form part of the same broader environment: policy has become more restrictive, and some of that pressure is now beginning to appear in leading indicators of economic growth.

The loss of economic momentum remains concentrated

In the US, the move into a period of lower economic growth momentum has been driven primarily by weaker housing permits (which signal planned future construction activity) and consumer confidence.

Weaker housing permits are consistent with the cumulative effects of higher borrowing costs, tighter financing conditions, and continued affordability pressures. Consumer confidence has also softened, potentially reflecting economic uncertainty, market volatility, and more cautious household sentiment. Confidence measures, however, have not always provided a reliable guide to actual spending in recent years. Consequently, we assess them alongside harder measures of activity rather than in isolation.

Importantly, the economic weakness being signalled is not broad-based. In the US, measures of the number of hours worked remain supportive, suggesting that demand for labour has not deteriorated materially. New orders also remain among the strongest contributors to the indicator, providing a relatively constructive signal for future manufacturing demand and production.

In our view, the picture is currently one of moderation rather than widespread deterioration. Tighter policy is weighing on specific, rate-sensitive areas, but broader activity remains comparatively resilient. 

The value of investments, and the income from them, can fall as well as rise and you may not get back what you put in. Past performance should not be taken as a guide to future performance. You should continue to hold cash for your short-term needs. This article should not be taken as advice.

‘Slowdown’ periods offer fewer clear economic conclusions

While history is not a reliable guide to future results, ‘slowdown’ periods have historically tended to produce a less distinct read-across for financial markets than other phases of the business cycle. The broad backdrop has, nevertheless, typically remained constructive during these periods, with equities continuing to outperform bonds on average, high-yield credit outperforming government bonds and government bonds modestly outperforming cash.

Within equities, ‘slowdown’ periods have often seen lower-volatility stocks gaining ground, while cyclicals (stocks whose business performance and share prices strongly correlate with broader economic cycles) only marginally underperform defensives (companies which tend to remain relatively stable regardless of the economic climate).

This is not the pattern associated with a decisive flight from risk. Rather, a more muted economic growth signal can mean that earnings trends, valuations, and sector-specific developments can play a greater role in determining market leadership. ‘Slowdown’ has tended to favour diversification and selectivity, rather than a wholesale move into defensive assets. 

Recent market behaviour has been broadly consistent with this historical pattern. Weakness has been concentrated among some previous leaders, particularly AI-related equities and semiconductors, while sectors such as healthcare and financials have attracted renewed interest. Much of this adjustment appears to reflect valuation compression and changing sentiment rather than broad downgrades to earnings expectations. In our view, investors are reassessing how much they are prepared to pay for future growth, rather than questioning whether that growth exists.

Constructive, but more selective

For now, the evidence remains consistent with slower economic momentum rather than outright deterioration. New orders and labour-market indicators continue to provide support, while broad earnings downgrades and credit stress remain limited. We would become more cautious if weakness broadened into activity and employment, or if financial market participants shifted towards decisive defensive leadership and signs of wider credit market stress.

As a result, we remain constructive on equities, as reflected in our overweight position. The current environment of slower economic growth momentum does not argue for an indiscriminate retreat from risk assets. Instead, it favours greater diversification and a broader set of return drivers than the previous period.