By Wourter Sturkenboom
The set and forget style of investing is…. well…forgotten. In flatter and more volatile markets, many investors are employing tactical asset allocation, expressed through multi-asset managers or via in-house teams. Either way, everyone has – and needs – a view on the direction of assets.
Government bonds.
There is still little upwards pressure on yields. They will drift up to around 2.35% at the end of this year. The Fed has indicated it will not tighten until 2015, so there is little pressure for a big sell-off, despite the wobble in May/June. This is not 1994 all over again.
Credit.
Is there still money to be made? Yes, but the risks are growing. Although spreads above sovereign debt are normal by historic standards, yields are very low because medium-term government bonds are yielding so little. In a yield-hungry world, anything that provides a return is good, but credit is getting riskier. The spread of investment grade bonds above Treasuries is just 90-100bps in the US. It has hit the bottom at 65bps in the past. I would argue we won’t see that level again. Investors learned in the financial crisis about liquidity issues and the blow-out of spreads will stick in their minds for a long time.
Emerging market debt.
You could argue that emerging markets, particularly the BRICS, are cooling down right now. Or you could argue that emerging markets are reclaiming their position in the global economy and in capital markets over the long run. Emerging markets still have relatively high GDP growth and high earnings so we are believers in long-term returns in emerging market debt. Local currency debt is more attractive still because the same drivers provide uplift in the currency, although the volatility will be commensurately higher.
Developed market equities.
Why have markets rallied so strongly in the last two or three quarters? Gains in the second half of 2012 were due to a relief rally as investors realised that the fiscal cliff and the eurozone crisis would not lead to short-term economic disaster. 2013 on the other hand is more down to a re-rating of long and medium-term risk. People were told there would be more frequent recessions in the US and that US growth would be impaired by debt levels. Both concerns are alleviated. I don’t buy the view that the economy is at constant stall speed. The cruising speed might be lower but it’s not in first gear.
Emerging market equities.
In the US, profit margins are already so high that the best case is 6% earnings per share growth. In emerging markets, on the other hand, you get solid double digit earnings growth and earnings being revised higher. The issue of slowing growth In Brazil and China does not harm the investment case, but instead makes emerging markets value opportunities.
Wouter Sturkenboom is an investment strategist at Russell Investments
Comments