Global Asset Allocation: January Insights

1. Market Perspective

• Despite the coronavirus omicron variant weighing in the near term, growth should remain above potential, with inflation likely to moderate this year amid central banks tightening and improvement in supply chains.
• Developed market central banks further advance tightening policy, with the Federal Reserve paring back quantitative easing and the Bank of England raising rates. Emerging market central banks may be nearing peak tightening, with China already taking steps towards easier policies.
• Yield curves likely to flatten as global short-term rates biased higher with central banks tightening, while long-term rates likely capped by easing inflation concerns and moderating liquidity.
• Key risks to global markets include the omicron variant, persistent inflation, supply chain disruption, central bank missteps, China growth trajectory and increasing geopolitical concerns.

2. Portfolio Positioning

As of 31 December 2021

• We underweight equities relative to bonds and cash given stocks’ less compelling risk/reward profile, balancing elevated valuations against a backdrop of moderating growth and tightening central bank policies.
• Within equities, we underweight US growth stocks. We continue to tilt towards cyclicality, maintaining overweights to value-oriented equities globally, US small-caps and emerging market stocks, where valuations are more reasonable and which should benefit from a continued path of recovery.
• Within fixed income, we overweight inflation-linked securities and underweight government bonds as they provide ballast to the overall portfolio given a more cautious view on equity valuations and more hawkish major central banks that may limit further upside to interest rates.
• Broadly across our fixed income allocation, we continue to favour shorter-duration and higher-yielding sectors through overweights to emerging market debt and high yield bonds supported by our constructive credit outlook.

3. Market Themes

Holiday Rush

The Federal Reserve turned decisively more hawkish at its December meeting, announcing an acceleration of the pace of tapering, which will now end asset purchases by March, and guided towards a midyear start of rate normalisation. From a timing standpoint, these policies will be taking hold just as growth and inflation are expected to be moderating and amid a spike in the omicron variant across the globe. Given these factors, the market seems to be calling into question how far the Fed can tighten policy before being forced into retreat, looking for the fed funds rate to be 1.6% at the end of 2024, well below the Fed’s target of 2.1%. With other developed market central banks on the move, such as the Bank of England’s recent surprise rate hike, the Fed seems eager to join the holiday rush, perhaps worried that if they don’t move fast enough while they can, they may be vulnerable to respond to the next economic downturn.

A New Year’s Resolution

A confluence of events weighed on Chinese growth last year, including its crackdown on the massive property sector—making up nearly 25% of its economy, increased regulations particularly in the technology and education sectors and market disruption caused by shuttering coal production to meet its clean energy agenda. In response to the weakness, China is acting, having cut its reserve requirement ratio by 50bps, lowering its prime loan rate and accelerating loans for infrastructure projects. As China looks to balance its economy more towards consumption and to be less reliant on the speculative property sector, estimates are suggesting that growth targets for 2022 could be as low as 5.5% to 6%, down from 8% in 2021. Albeit lower, a more stable growth trajectory for China could be beneficial for investors and trading partners, who have had to navigate the recent volatility. But for now, China needs to focus on this year’s resolution to engineer a soft landing in the property market to shore up the economy for years to come.

 

For a region-by-region overview, see the full report (PDF).