We recently held one of our popular investment and financial planning seminars at Rudding Park Hotel in Harrogate. Guests were eager to hear our current investment views and thinking. In particular, I spoke about what we believe is a very unusual investment environment, and the six key investment themes that are driving our decisions right now.
We distil our broad view into themes
There have been very significant moves in the markets over the last year. Returns have been very strong, but broadly, we believe that excess liquidity has been propping up markets, creating an investment environment where returns have been disconnected with fundamentals. Post-global financial crisis, Central banks have been pumping money into the markets using unconventional monetary policy such as quantitative easing (QE). This was always going to be discredited. These policies are essentially emergency measures, but the paradox is that markets are complacent and are acting as if nothing is wrong, with equities currently high. As Central bank policies begin to fail, there is a greater risk of a shock to the market.
This view drives our high level thinking, but it’s useful to base these decisions around key investment ‘themes’ that we can more tangibly implement as part of our investment process. We have six of them currently:
- Excess liquidity has pushed up the price of ‘risk on’ assets (equities) and ‘risk off’ assets (bonds) at the same time. When these assets rise together, the risk is that they will fall together. That forces us to consider assets that are less correlated to the movements of those assets
- We are seeing capital misallocation in China and are very concerned about the build-up of Chinese debt, which looks unsustainable. The country could face a credit crisis – we expect widespread default, depreciation of the yuan and the export of deflation to the global economy
- Is US monetary policy ‘one-and-done’? The US Federal Reserve (Fed) hiked interest rates last year by 0.25 percentage points. The Fed expected four hikes this year – ultimately, we don’t think it will hike as much as it (or Wall Street) expects. The Fed has created a no-win scenario for itself. If it hikes rates, it could onset recession. If it doesn’t hike rates, and the US economy lapses into recession (it looks very late cycle), it won’t have many options left to reflate
- Secular stagnation. We see an outlook of little growth in the global economy, with low interest rates and potentially low investment returns. Technical factors cause this, such as too many savings chasing too few investment opportunities, as does the background of excessive debt
- Conflicting signals between bond markets and equity markets – what should we believe? Bond markets tend to be more sober, whilst equity markets tend toward over-exuberance
- Politics is the final, growing theme. 2016 has seen watershed events across the globe. The EU referendum, the US presidential election – all of these are having an impact and any one of them could cause a market correction
Diversification remains vital
We have cautiously positioned our portfolios in order to navigate this strange investment environment. We believe confidence – in the US economy, in unconventional monetary policy – is misplaced. Potentially, asset classes can carry on as they are for a period of time, but market corrections are inevitable.
When you have both equities, a classic risk-on asset, and bonds, a risk-off asset, rallying, you get mixed signals. If both fall, you’re in trouble. We are light on equities and bonds because of this worry, so we’ve taken some profit from our equity and bond positions and put it in tactical cash and alternative asset classes. It’s important to look for alternative asset classes that are lowly correlated, such as gold, that have the potential to give a degree of protection against a shock to the market. Read more about our views on gold.
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