House Views - June 2022: Striking the right balance
STRIKING THE RIGHT BALANCE
Bear markets. Risk aversion has been on the rise all year and the trend has gathered fresh impetus since end-February. Equity and fixed-income indices are sharply down. Interest rates are rising – with spreads now being demanded for riskier debt – and the dollar continues to strengthen across a broad front. Behind these trends, a number of factors are at work: (i) uncertainties over the war, which have eroded confidence and pushed up commodity prices, (ii) the deteriorating health situation in China and its impact on supply chains, and (iii) inflation that remains stubbornly high, leading markets to price in higher rates and worry about recession. Without a serious easing of geopolitical tensions, the global outlook will remain weakened and uncertain. That said, assuming tensions get no worse, the central economic scenario for developed economies remains one of ongoing stable or positive growth. Labour markets are still looking healthy. Company balance sheets are generally robust. And the post-Covid return to business as usual continues to buoy the economy. However, in this situation economic policy choices will remain crucial.
We are sticking with a prudent investment strategy. We retain our overall Neutral exposure to equity markets: risks remain high but, in many cases, seem already to be priced in. Meanwhile, high inflation will encourage further hikes to interest rates. That said, a portion of the upward rate cycle is now behind us, and we retain our slight Underweight to sovereign bond markets. Consistent with this, we have reduced our Underweight to investment-grade corporate debt, where companies sitting on solid balance sheets are starting to pay attractive yields. Lastly, we are maintaining our Overweights to hedge funds and gold, both still attractive alternatives in uncertain times.