Japan

Hillary Clinton has a 65% chance of winning the election; she receives 334 electoral college votes according to our model. Trump still requires an exogenous shock to win. Meanwhile, the USD is poised to rally - and leftward-moving policymakers will applaud its redistributive effects while MNCs suffer the consequences.

Global bond yields continue to grind higher, led by signs of improving growth, moderately higher inflation and central banks having difficulty staying credibly dovish. Maintain a below-benchmark duration stance.

As the U.S. median voter is shifting to the left, redistributive policy could come into play. A strong dollar helps to achieve this goal as it results in a bigger share of labor income in the economy. EM and commodity currencies could bear the brunt of the pain. Favor the euro on its crosses. Stay short CAD/NOK, but tighten stops.

Our <i>Fourth Quarter Strategy Outlook</i> presents the major investment themes and views we see playing out for the rest of the year and beyond.

Special Report

This week, we are reviewing all of our active trades discussed in the last twelve months, which are intended to be an overlay to our recommended fixed income portfolio.

U.S. bank stocks have been joined at the hip with the expected 12-month change in the Fed funds rate since 2014, based on the notion that a rate hike will boost net interest margins. However, even if the Fed hikes rates, that may do little to help bank profits. The lesson from the dismal performance of Japanese bank stocks in their era of extraordinarily low interest rates is that outperformance has only occurred within the context of a steepening yield curve. We place low odds on a steepening in the U.S. yield curve if the Fed raises interest rates, given the softening in leading economic and employment indicators, not to mention the anchoring of U.S. long-term Treasurys by the shortage of global government bonds. Instead, an end to the long-term U.S. bank share underperformance phase requires broad-based economic reacceleration that drives an upturn in credit growth, stabilization in deteriorating credit quality and steeper yield curve. Until then, stay underweight and please see yesterday's Special Report on bank stocks for more details.

The DM Country Model favors the U.S., with Japan and U.K. being the two large underweights. The Sector Model continues to recommend a cyclical tilt.

Special Report

In a February <i>Special Report</i> titled "Assessing Fair Value In FX Markets" we introduced a set of long-term valuation models based on various fundamentals. We have updated the results and added KRW, INR, PHP, HKD, CLP and COP to our analysis. The dollar still remains expensive, albeit with no signs of a dangerous overvaluation. The yuan is now at its cheapest level since 2009.

In September, the model outperformed the S&P 500, while it underperformed global equities in both USD and local-currency terms. For October, the model trimmed its allocation to stocks and boosted its weightings in bonds and cash.

It's hard to make a case for attractive returns from any asset class over the next year. We dial down risk a bit but ending our overweight on junk bonds. Investors should pick up yield where they can but without taking excessive risk.