Global Asset Allocation: April Insights

Market Perspective

• Geopolitical risks and lingering pandemic impacts are weighing on global economic growth expectations while putting upward pressure on already elevated inflation.
• Despite moderating growth expectations, developed market central banks are expected to advance tightening policies to fend off decades‑high inflation. The US Federal Reserve is leading with the most aggressive plans and the Bank of England has raised its policy rate for the third time in March back to pre-pandemic levels.
• Emerging market central banks remain biased towards tightening to fend off inflation and defend currencies, while China policy continues moving in the opposite direction to stimulate growth.
• Key risks to global markets include escalating geopolitical concerns, persistent inflation near already high levels, central bank missteps and the impact of a COVID-19 outbreak in China on global growth and supply chains.

Portfolio Positioning

As of 31 March 2022

• While valuations are off recent peaks, we remain underweight equities given a moderating growth and earnings outlook amid an active Fed and lingering inflation concerns. Within fixed income, we remain overweight cash.
• Within equities, we remain underweight growth to provide a hedge should inflationary pressures persist longer than expected given heightened uncertainty and government bond rates trending higher.
• Within fixed income, we moderated our underweight to government bonds following recent moves higher in rates to provide portfolio ballast in a risk-off scenario.
• We continue to favour shorter-duration and higher-yielding sectors through overweights to inflation-linked securities, high yield bonds and emerging market debt supported by our still positive outlook on fundamentals, while keeping a cautious eye on liquidity amid higher volatility.

Market Themes

Beginning of the End?

The more than four-decade bull market for bonds, supported by low inflation and declining rates, that provided a tailwind of price appreciation on top of income, may finally be coming to an end. For bond investors, this is a particularly precarious time given heightened rate sensitivity through extended duration levels and still low yields, providing little income to offset capital losses as rates rise. For the US Federal Reserve, which had enjoyed the luxury of acting aggressively when needed amid multiple crises while not stoking inflation, the tables have turned. Now due to exogenous factors impacting supply—the pandemic and the conflict in Ukraine—inflation has spiked higher, forcing the Fed into a battle that it hasn’t had to fight in decades. The market seems to agree that the Fed will remain steadfast, for now, in its battle against inflation over the course of the year. However, the market is saying the Fed could be lowering rates as soon as the end of next year, meaning bonds may not be out of favour for long.

History Lessons

While the world has been battling to overcome the impacts of a global pandemic not seen in decades, we now face new, heightened challenges that may similarly have precedence with other periods in history. While coronavirus variants have extended supply chain issues and stoked higher inflation, expectations just a few months ago were that these issues would be transient. Unfortunately, the invasion of Ukraine in Europe, the likes not seen since the start of World War II in 1939, has exacerbated inflation risks and economic uncertainty. The narrative today has quickly turned to fears of ‘stagflation’ with comparisons being made to the oil embargo of 1973 in the US that served as a catalyst for runaway inflation, unprecedented rate hikes and a recession. While the world is very different today and some of the challenges are distinct, history can repeat itself. So while stagflation is not our base case, the potential for tail risk events is heightened and warrants caution.

 

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