Global Asset Tracker: Global stability prompts push into riskier assets

After the strong rally in 2019, which was supported by accommodative monetary policy and the easing of trade tensions between the US and China, investors should expect lower returns from global equity markets in 2020, in the mid to high single-digit range. 

This may be a far cry from the 28 per cent achieved last year, but still attractive if compared to extremely low yielding bonds. The majority of future equity returns will come from earnings growth, which last year disappointed, rather than multiple expansion as in 2019. Economic fundamentals will need to catch up with stockmarket valuations, which have reached very high levels.

Moderate economic global growth, fuelled by improving international commerce and declining geopolitical risk, remains a positive backdrop for risky assets, which benefit from low rates and low inflation, allowing central banks to keep their dovish stance. 

These key findings emerged from PWM’s fifth annual Global Asset Tracker study (GAT), conducted in January, which surveyed chief investment officers, heads of asset allocation and chief investment strategists at 50 private banks, together managing more than $10tn in client assets globally. Most are global and regional private banks which scored well in PWM’s Global Private Banking Awards in recent years.

It is significant that none of the respondents predicts a significant market downturn within the next 12 months, despite the US equity bull market celebrating its 11th anniversary in March. Sixty per cent expect the end of the bull market to take place in one to three years (Fig 1).

“Bull markets tend not to die of old age, but they tend to die when central bankers, led by the Fed, pull liquidity out of the system, and start to hike rates,” says Mr Haefele, global CIO at UBS Global Wealth Management. 

But in a low inflation environment, with technology advances and ageing demographics also keeping inflation back, the risk of central bank policy errors remains low. 

Yet, diversification of portfolios, which should also include ‘safe-haven’ assets such as gold, remains paramount to protect investors from higher volatility and tail risks.

Indeed, the beginning of the new decade has been fraught with geopolitical and other unpredictable threats, although seemingly relentlessly bullish markets seem to have been remarkably robust so far, with US and European equities even reaching new highs year-to-date. 

As fears eased around tensions between the US and Iran, which reached crisis point with the assassination of Iran’s General Qasem Soleimani, the signing of the US/China ‘phase one’ trade deal brought enthusiasm to risk assets. But just when markets started to rally, in late January fears over a global pandemic due to the outbreak of coronavirus in China hit risk assets, as the ultimate impact on the Chinese and global GDP remains difficult to quantify.

 “The impact on wider markets from risk events is only rarely significant, and it tends to be short-lived, as was the case after last month’s escalation in US-Iran tensions,” believes Mr Haefele. “While it can be tempting to sell out during uncertainty, staying invested through a diversified portfolio to mitigate idiosyncratic risks is the best approach,” he adds.

The short-term impact on Chinese growth may prove to be significant, but it will also likely be temporary, as pent-up demand spurs a sharp recovery from the Q1 setback, he adds.

Moreover, monetary and fiscal policies remain supportive, with the People’s Bank of China having already cut rates. Even taking into account the hit to the Chinese economy, UBS expects the growth differential between emerging and advanced countries to widen in favour of emerging markets this year and the next. With earnings growth expected to be the main driver for equities this year, UBS predicts double-digit growth for Asia ex-Japan and emerging markets as a whole, far outpacing developed market peers.

His views on the outperformance of emerging market equities over developed market stocks are shared by 65 per cent of private banks (Fig 3). 

“We expect the long-running bull market in the US dollar to come to an end in 2020 and dollar weakness should prove a boon for the emerging world, especially as it might well coincide with a more stable outlook for global trade,” states Alan Mudie, global head of investment strategy at Société Générale Private Banking. And emerging equities should benefit from strong earnings growth driven by Chinese stimulus, he adds. 

While emerging markets have lagged developed economies over the past couple of years, in terms of earnings and valuations, trade wars have forced China to accelerate the transition towards a more services oriented economy, says Shanti Kelemen, investment director at Brown Shipley. “We forecast 14 per cent earnings growth for EMs through next year, which would be one of the best in the world,” she adds.

EM equities are believed to offer the most attractive risk return opportunities in the equity space, according to 55 per cent of participants, with a preference for Asia ex-Japan stocks (40 per cent), while dividend-paying stocks rank second (Fig 4). 

All about equities

In an environment where equities will continue to outperform bonds, according to almost all private banks, short-term calls and long-term themes need to be combined to offer a diversified exposure to risky assets. 

Two acronyms feature in CIOs’ investment outlooks to describe investors’ sentiments. Fomo, the fear of missing out on stockmarket returns, and Tina, there is no alternative to equities.  

“This has been the most unloved bull, as persistent investor scepticism has led to portfolios staying under-invested,” says Hou Wey Fook, CIO at DBS Bank in Singapore. “Should the market stay resilient, portfolios that are sitting on excess cash levels may have little choice but to get back in.” Given ultra-low rates and bond yields, both Fomo and Tina will be tailwinds for equities, he adds.  

Almost 70 per cent of respondents expect clients’ allocation to equities will increase over the next 12 months.

The Singapore-based bank advocates a barbell strategy that overweights income generating assets and secular growth stocks, expected to be the beneficiaries of a digital economy, ageing population and a growing Chinese middle class. Income-generating assets include dividend-yielding stocks, hailed as “the new bond proxies” with a focus on Chinese banks, Singapore Reits and selected banks in Europe. 

European oil majors are also one of the bank’s picks, for their attractive dividends, despite headwinds, given the drop of demand of fossil fuels and increased investors’ interest for sustainable investments, as well as fears of a China-led global slowdown following the coronavirus outbreak. In the corporate space, double and triple B-rated bonds also feature in portfolios. 

The belief there is no other alternative to equities is at the base of one of the key investments themes for 2020 at BNP Paribas Wealth Management. The French bank recommends clients increase risk in portfolios, with a focus on equity markets and sustainable themes, while making sure to diversify portfolios and invest for the long term. 

Alternatives such as private equity, infrastructure and real estate should also feature in their asset allocation.

“I have been recommending clients to increase risky assets in their portfolios for years,” says Florent Bronès, CIO at BNP Paribas Wealth Management. “Clients are now beginning to realise how low, and negative, interest rates are, and we are seeing them move out of fixed income assets into equities.” 

Lack of inflation and central banks’ accommodative stance will keep bond yields extremely low and easing geopolitical risks and improving economic indicators will support the upward trend in risky assets in 2020, he adds. Stockmarkets will deliver lower returns, around 5 per cent, in line with earnings growth, he predicts. 

More risk-averse investors should invest in high quality stocks and in high, safe and growing dividend stocks, known as ‘dividend aristocrats’, designed to meet their hunger for yield. Despite high equity valuations, the yield differential between bonds and equities has rarely been so much in favour of the latter, especially in Europe, where the equity dividend yield is around 3.5 per cent, well above the 10-year Treasury bond yield. 

However, investors must pay the price of higher volatility compared with bonds and be willing to invest over the long term.

While valuations look expensive, equities remain an attractive asset class compared to bonds, as yields are low, says Niladri Mukherjee, head of portfolio strategy, chief investment office at Bank of America. Stronger real US economic growth and corporate profits make the institution prefer US equities, with earnings growth of 7 to 8 per cent expected to drive most of the returns in 2020. Trade headwinds have eased while the US economy is still healthy, led by the US consumer, he adds. 

Overall global growth is stabilising with both domestic and international commerce set to improve, while low inflation is allowing more accommodative monetary policy around the world to start a positive, self-reinforcing growth dynamic, boosting profits and extending the economic cycle, which is a positive backdrop for equities, says Mr Mukherjee. 

Cyclical industries over defensives will support a rally in equities, while financials and industrials are preferred for their cyclical value, with consumer discretionary and technology favoured for their exposure to a healthy consumer base.

One specific tailwind for the US market is demographics, adds Mr Mukherjee, explaining that there is “mounting evidence” that the large cohort of millennials, having shunned risk assets until now, are starting to get attracted to equities and the property market. 

“This tailwind, which is unique to the US, will remain in place at least for the next five to 10 years.” US stocks also benefit from other long-term themes such as rising consumerism and deglobalisation, which favour countries with large consumer economies, he adds.

European recovery

Other banks, such as HSBC, remain overweight US stocks, despite high valuations, also relative to European equities. 

“Much of the differential with Europe is due to the higher weight of the technology sector, which should continue to be supported by structural growth,” says Willem Sels, global chief market strategist at HSBC Private Banking. “The US also has a resilient economy, due to its large share of consumption, which benefits from wage growth and still low inflation.”

Yet, for some, eurozone equities are expected to offer more attractive opportunities. “Investors should begin looking beyond US equities for opportunities in 2020,” says Norman Villamin, CIO at UBP. 

“European small and mid-cap stocks should benefit from domestic recovery on the continent spurred on by a fading of Brexit headwinds, emergence of fiscal momentum and on-going monetary easing.” 

Yet, although 44 per cent of private banks entered the year with a tactical overweight to equities (Fig 5), this is the lowest percentage since the GAT survey started in 2016. 

The desire to consolidate returns achieved in the equity space has driven some banks to reduce their exposure to this asset class and diversify their asset allocation. 

In mid January, Credit Suisse decided to neutralise its equity overweight and increase exposure to commodities. 

“In an environment with little visibility, we wanted to spread the risk differently, having achieved excellent returns on our equity overweights,” says Nannette Hechler-Fayd’herbe, CIO for IWM and global head of Economics and Research for Credit Suisse. 

From an internal survey conducted on the bank’s advisers, it emerged that one of clients’ top priorities was to protect the gains made in 2019. 

However, the starting position of investors is crucial, she explains. Investors with an equity overweight have tended to protect their gains by buying derivatives or selling part of their stocks. But many wealthy investors “missed the boat”, having not participated in last year’s strong rally, and are still underweight the equity market. They may see stockmarket setbacks as an opportunity to step in, she adds. 

“Our key recommendation to clients this year is to stay invested in financial markets, given our base case of moderate growth and supportive monetary policy.”

Similarly, market and sentiment indicators in very bullish territory drove Indosuez Wealth Management to stay “slightly below neutrality” in the equity space, believing a technical correction was due to happen. The decision was taken in mid-January, before the outbreak of the coronavirus became known to the world. 

“We are constructive on equities, and client portfolios do not look particularly defensive,” explains Vincent Manuel, global CIO at the bank, explaining that other risk assets feature in portfolios, including financials, emerging debt, and high yield. 

The decision to increase duration in portfolios to limit drawdown paid off, as 10-year Treasury bonds have performed well lately, together with other safe-haven assets such as gold and the Swiss franc, as investors looked to protect realised gains after a strong year, and fearing decline in global growth as a consequence of the coronavirus outbreak.  

Going viral

Private banks are mostly in a wait-and-see mode as regards to the potential effect of the coronavirus epidemic on the global economy, which is proving challenging to measure. 

Banks such as Bank of America, DBS or Credit Suisse have not changed their investment recommendations or outlook. Some believe it too early to make tactical calls on sectors such as transportation, tourism, luxury and energy, which are bearing the brunt, as the peak of the outbreak may yet come. 

However, some did take advantage of the decline in certain stockmarkets. At the end of January, Citi Private Bank reduced its equity overweights in both the US and some Asia Pacific markets to add exposure to China/Hong Kong, “given the powerful rally” in both US stocks and bonds, and Greater China markets posting a double-digit decline, explains Steven Wieting, chief investment strategist and chief economist at Citi Private Bank.

Precautionary measures to arrest the spread of the virus, such as travel bans, will drive the bulk of the economic dislocation, which is likely to centre in China, he says, but it will be temporary. As such, world growth is unlikely to be derailed, and the US bank has stuck to its asset allocation, which is overweight global equities and underweight global fixed income. 

For portfolios, diversifying across asset classes and regions is the “best medicine”, says Mr Wieting.

The outbreak does not modify CIOs’ long-term views on emerging markets or China. “Chinese equities remain attractive as they benefit from strong secular stories around technology, consumption, as well as healthcare and ageing population,” states Vincent Manuel, global CIO at Indosuez Wealth Management. 

Race for the White House

Of the threats for financial markets today, the upcoming US presidential election is believed to be the biggest by far (Fig 7), as Democratic candidates vow to put an end to Donald Trump’s controversial era.

“The prospect of a victory by a progressive candidate in the Democratic primaries in early 2020 poses the key risk for investors in the year ahead,” says Norman Villamin, CIO, Wealth Management at UBP. “The likelihood of a meaningful rise in corporate tax rates and a more onerous regulatory regime is currently unpriced in markets.” 

Should this probability be better priced by markets, there may be risk of instability driven by a tightening in US financial conditions when the Federal Reserve is typically sidelined in the run-up to elections, he adds.

Holding some cash in portfolios may make sense in view of potential volatility.  “When in March/April it will become clear who will be the leading Democratic candidate will be, that will be a key driver for equity markets,” says Daryl Liew, CIO at Reyl Singapore. “The focus from then is all going to be about whether that candidate has a chance of beating Trump.”  

Progressive Elizabeth Warren or Bernie Saunders would be broadly negative for markets, whereas moderate Michael Bloomberg or Joe Biden would be positive, he adds.

However, Mr Trump is “good” for certain markets, explains Mr Liew. The energy sector has benefited, to a certain degree. Tax cuts have helped earnings growth and driven stockmarket performance. “If Elisabeth Warren comes in and starts to raise taxes again, that’s going to erase all the gains from last year.” 

But surely markets will price in the benefits of a more equal society and improved welfare? “Equity markets don’t really price in long-term changes, they are very short-term in nature, they just look at the immediate impact,” says Mr Liew.  

Others bring different views on the impact of the US elections. “The US presidential election is unlikely to be a major headwind for the US equity market in 2020 or beyond,” says Shanti Kelemen, investment director at Brown Shipley.

President Trump and many of the Democratic candidates support policies that would be favourable for the markets. 

The more extreme policies proposed by Elizabeth Warren and Bernie Sanders would need support from the Senate and House of Representatives to become law. “Not all Democrats share their views, so even if the Democratic Party controlled both, it would not assure implementation of all their proposals,” adds Ms Kelemen. 

Even if a Democratic president is elected, the UK bank, a Quintet private bank, has a positive outlook on healthcare, despite potential headwinds, because of growing demand and measures to reduce drug prices, while it expects the technology sector to be able to adapt to new regulation, which is the biggest risk. 

Certain sectors would benefit from the “dramatic different course” of a Democratic president in the climate change and renewable energy areas, while oil companies would suffer. 

Banks participating in PWM’s Global Asset Tracker

A&G Banca Privada, ABN AMRO Bank, Banca Generali, Banco BPI, Banco do Brasil Private Bank, Itaú Private Bank, Bank J. Safra Sarasin, Bank Lombard Odier, Bank of America, Bank of Singapore, Bank Vontobel, Banque SYZ, Barclays Private Bank, BBVA Private Banking, Berenberg Wealth and Asset Management, Bethmann Bank, BNP Paribas Wealth Management, BTG Pactual, CaixaBank, China Merchants Bank, Citi Private Bank, Credit Suisse, CSOB Private Banking, CTBC Bank, DBS Bank, Deutsche Bank, Erste Bank, HSBC Private Banking, ICBC Private Banking, Indosuez Wealth Management, ING, Kasikorn Bank, KBC Private Banking, Kleinwort Hambros, LGT Bank, Millennium bcp, Nordea Bank, Northern Trust, Nykredit Wealth Management, OTP Private Banking, Pictet Wealth Management, Quintet Private Bank, Raiffeisen Bank International, Reyl & Cie, Société Générale Private Banking, Standard Chartered Bank, Taishin International Bank, UBS Global Wealth Management, Union Bancaire Privée, Wells Fargo