Pockets of Opportunity – Asset Allocation in Challenging Times
16 August 2022
Newsletter by GMG Asset Management
Reading time: 5 minutes
The global macroeconomic backdrop and outlook have become tremendously complex. Economies are moving at different speeds, some contracting or slowing while others are expanding and growing. Divergence in economic performance is a function of a long list of variables, including the sectoral composition of economies, monetary and fiscal space, currency regime, debt levels, sovereign credit rating risks, and strategic geopolitical alignments. To some extent, some of this was expected.
We expected divergence in economic performance and widespread market dispersion across regional sectors and styles. Our 2022 Outlook released in Q2 2021 stated, “Market cycles will vary considerably, resulting in significant divergence in stock and bond market performance across regions.” We called for the emergence of a new investment landscape. The illustration below is of the summary slide from our August webinar in which we highlighted this idea and concept.
Asset allocation in such complex conditions requires a move to a more refined investment strategy. No longer can we be either ‘risk-on’ or ‘risk-off.’ Instead, given the divergence in the health and trajectory of economies, we must adopt a new, more nuanced investment strategy. We can have an allocation strategy that embraces a conservative, defensive allocation in some markets while being more cyclically positioned in other markets since economies are moving at different speeds and doing so for various reasons. The chart at below is of composite PMI latest data of select economies; the divergence and dispersion allow for safe asset allocation in some regions and markets while risk on allocation in others.
Breaking down the complexity of global markets into bite-size pieces, we compartmentalize this complexity into three essential parts; Geopolitics, Global Economy, and Risks.
Regarding geopolitics, we expect constant stress as divisions become clear, firm, and increasingly entrenched. This will remain a continuous headwind for markets as investors and businesses try to figure out how to operate in a world that is becoming more fragmented, moving from a unipolar world to a multipolar world. We believe this is positive for market volatility assets, select safe assets, sectors, and commodities.
For the global economy variable, we expect growth will continue to decelerate across most regions, except key commodity exporters. Broad-based divergence in economic performance, inflation, and policy response create opportunities across regions and asset classes. Our base case scenario calls for inflation to remain problematic and elevated above recent multidecade averages. While we expect some cyclical inflation to subside, we expect secular inflation to persist. Such an inflation outlook will be problematic for many regions, but pockets of opportunities are highlighted in our asset allocation section below.
Regarding risks, indeed, they are plentiful, with our ‘Top Risks List’ highlighting geopolitical risk, risk of policy error, growth deceleration, inflation, and climate events as top risks. We expect a risk-littered investment landscape to persist indefinitely. Thus, market volatility will remain above multiyear averages across all asset classes. Broad well-diversified portfolios will better weather the more complex global macro environment.
Given our concerns about growth, inflation, geopolitics, policy error, climate events, and the divergence in economic performance and outlook, we are running a more nuanced asset allocation strategy, holding some defensive and cyclical allocations.
Our cash allocation remains overweight and while we acknowledge the recent recovery in some traditional risk-on assets (see chart above).
In fixed income, we remain overweight with the US and Chinese government bond allocations while underweighting all other sub-asset classes, including corporate credit and high-yield.
In equities, we remain underweight. Within the underweight, we hold overweight allocations to commodity exporters such as LatAm and Canada. Our sector and style preferences remain unchanged, favoring utilities, materials, quality, and value. We continue to hold allocations to quality dividend payers in all our key regions (US, EU, Swiss). In addition, we hold a long position on equity market volatility.
Our hedge fund strategy preferences remain unchanged. We continue to favor global macro, systematic, and market-neutral strategies.
Our commodities allocation, overweight gold, and broad commodities remain unchanged. While there has been some price erosion recently, we believe inflation will persist, and secular inflationary forces will become more entrenched. This is supportive for commodities in the long term.
On currencies, after holding a USD positive view for over one year (+3.5% 2021, +6.04% 2022), we now expect USD strength to fade gradually.
The information provided herein constitutes marketing material, that may contain general information, and has been prepared by personnel in the GMG Investment Solutions SA or GMG Institutional Asset Management SA (collectively “GMG”) and is not based on a consideration of the prospect’s circumstances. This document reflects the sole opinion of GMG or any entity of the GMG Group and it may contain generic recommendations.
Non-Reliance: This document does not constitute a recommendation or consider the particular investment objectives, financial conditions, or needs of individual clients. Before acting on this material, you should consider whether it is suitable for your circumstances and, if necessary, seek professional advice. GMG is not soliciting any specific action based on this material it is solely intended for illustration purposes.
This document is not the result of financial analysis and therefore is not subject to the “Directive on the Independence of Financial Research” of the Swiss Bankers Association.
This document is neither a prospectus as per article 652a or 1156 of the Swiss Code of Obligations, a listing prospectus according to the listing rules of the SIX Swiss Exchange or any other exchange or regulated trading facility in Switzerland, nor a simplified prospectus, key investor information document or prospectus as defined in the Swiss Federal Collective Investment Schemes Act. Any benchmarks/indices cited in this document are provided for information purposes only.
The accuracy, completeness, or relevance of the information which has been drawn from external sources is not guaranteed although it is drawn from sources reasonably believed to be reliable. Subject to any applicable law, GMG shall not assume any liability in this respect.
Risk Disclosure: This document is of a summary nature. The products referred to herein involve numerous risks (including, without limitations, credit risk, market risk, liquidity risk and currency risk). In respect of securities trading, please refer for more information on such risks to the risk disclosure brochure “Risks Involved in Trading Financial Instruments – November 2019”, which is available for free on the following website of the Swiss Bankers’ Association: www.swissbanking.org/en/home.
Material May Be Outdated: This material is produced as of a particular date. Accordingly, this material may have already been updated, modified, amended and/or supplemented by the time you receive or access it. GMG is under no obligation to notify you of such changes and you should discuss this material with your GMG relationship manager to ensure such material has not been updated, modified amended and/or supplemented. The market information displayed in this document is based on data at a given moment and may change from time to time. In addition, the views reflected herein may change without notice. No updates to this document are planned. In the event that the reader is unsure as to whether the facts in this document are up to date at the time of their proposed investment, then they should seek independent advice or contact their relationship manager at GMG.
Information Not for Further Dissemination: This document is confidential and should not be reproduced, published, or redistributed without the prior written consent of GMG.