|Share markets have rallied on hopes for an economic recovery as coronavirus-imposed lockdowns are eased across the globe. The market rebound means that value is no longer as compelling for global equities or credit investments. On the other hand, the cyclical outlook has improved amid vast fiscal and monetary stimulus and economic reopening.|
The reopening trade can be dated from 6th November 2020, when Pfizer announced the first successful COVID-19 vaccine. Since then, the best performing asset classes have been small cap and non-U.S. equities, global real estate investment trusts (REITS), commodities and the value factor. In summary, the asset classes that performed poorly during the lockdown have been the winners in the post-vaccine phase.
Naturally, investor sentiment is no longer as supportive. The strong cycle delivers a preference for equities over bonds for at least the next 12 months, despite full valuations in certain markets. It also reinforces our preference for the value style equity over the growth-oriented investments, and for non-U.S. equities to outperform the U.S. market. Looking near-term, markets could be vulnerable to any severely negative headlines after rebounding strongly from the lows in 2020. But over the medium-term, we believe the supportive cyclical outlook should allow equities to outperform bonds. The returns chart at the bottom of this page illustrates the impact of long term investing and diversifying across multiple asset classes over the past 10 and 30 years.
There are early signs of inflation in the economy, but it is still too early to know whether what is being observed today will lead to structurally higher inflation. We continue to discuss with our investment managers and test how they are actively thinking about the implications for their portfolios under either scenario.
In the U.S., the recent historic economic slowdown has been met with an equally extraordinary fiscal and monetary response. Unprecedented stimulus and the potential for a few years of non-inflationary growth suggest investors may earn a larger-than-normal equity risk premium going forward. However, the U.S. still has relatively high coronavirus infection rates, so a second wave is an obvious downside risk to monitor.
Europe’s disadvantage heading into the COVID-19 crisis was its lack of policy ammunition, but the region’s policy response has surprised to the upside. The European Central Bank, for instance, has increased its asset-purchase program by over 12% of gross domestic product (GDP). Europe’s exposure to financials and cyclically sensitive sectors – such as industrials, materials and energy – gives it the potential to outperform in the second phase of the recovery, when economic activity picks up and yield curves steepen. In the UK, economic uncertainty caused by the coronavirus has been compounded by Brexit negotiations. This has been reflected in the FTSE 100 Index, which has been the worst performer of the major developed stock indices. In the short-term, Brexit uncertainty and the slow decline in virus cases may continue to hold the UK market back, but we like the value in the market on a longer-term basis.
China’s recovery from the COVID-19 crisis has continued through the second quarter of 2020, with the services sector starting to catch up to the manufacturing sector. The Chinese government has also announced further stimulus measures, including coupons to households to encourage spending, while the People’s Bank of China is making monetary policy more accommodative. In Japan, fiscal policy has become supportive, with the government recently approving a second stimulus package worth close to 117 trillion yen ($1 trillion U.S. dollars). However, the country’s structural weaknesses in terms of monetary policy and persistent deflation mean it will likely remain an economic laggard relative to other developed economies.
Australia has largely been successful in containing the coronavirus through a combination of stringent border controls and lockdowns. High household debt levels and slow growth in wages, however, translate to a cautious consumer, and a slight headwind for the nation’s recovery.
For 10 and 30 Year Asset Class Performance PDF, click HERE
Sources: Russell Investment Management and BT Investment Management.