Click here to read part 1--'What Does the Data Signal for Global Economy?'
Overall, riskier assets such as equities and commodities performed in line during April, falling only modestly over the month, although recovering from a more sizeable mid-month setback. US stocks outperformed, supported by another excellent results season with most companies beating estimates and, while mixed, the general tone from company managements has led to improved upward earnings guidance. UK assets also generally performed relatively well with FTSE All Share the best of the main equity indices, sterling only losing out to the yen and government bond yields declining back towards 2.0%. Investment grade bonds returned a little of their strong Q1 gains, while UK commercial property capital values fell at an increasing rate for the fifth consecutive month, albeit at only 0.3% in March the latest data available.
Our latest asset allocation views are:
Equities
After a long run of improving global economic data and a substantial reduction in most financial risk measures, following the ECB’s 3-year LTRO programme, economic momentum has stalled somewhat while EU concerns, principally in Spain, have come to the fore once again. Given the scale of the rally in equity markets, a period of consolidation was overdue and is underway mainly outside of the US. The high-beta call was reversed two months ago but there may be a little further downside for emerging markets and Europe, and some cyclical sectors. That said, the downswing in cyclical momentum is expected to be fairly shallow with investors likely to buy the dips. Equities are forecast to handily outperform bonds and cash over the balance of the year and opportunities will be sought to move to a small overweight equity position. Overall, we remain neutral on most regions but from a stock perspective the long-term preference is for strong companies with exposure to growth markets and higher yielding stock with growing dividends irrespective of sector.
Bonds
The long anticipated rise in bond yields has been delayed once again. Yields remain close to generational lows but it would be wrong to expect a straight line upward move in US treasury yields, while UK gilts and German bunds may continue to outperform given more difficult background economic conditions. The size of monetary stimulus via bond purchases may keep yields at lower levels than justified by fundamentals but Quantitative Easing is coming to an end near term and the eventual outcome will likely be a move to higher trading ranges. Investment grade corporates offer better value with spreads having further to narrow. Even so, yields are at or close to all-time lows and--with the probability of rising government yields--capital losses will partially offset the pick-up in income. Investors are tending to favour riskier credits while, after recent weakness, emerging market debt is now better value.
Property
Signs that the UK commercial property bull market was stalling were evident a year ago but capital value growth remained supported by gains in Central London offices. In recent months, however, nearly all sectors have experienced a fall in values and the IPD index has recorded five successive monthly declines, although UK property’s high 6.6% yield has ensured positive total returns so far. This is unlikely to last, as with secondary property yields widening and lower levels of investor interest at a time when banks are increasingly keen to sell involuntarily-held portfolios, capital values are generally expected to fall this year. Even with a yield in excess of 4% above gilts, UK property no longer offers the prospect of higher returns than those available from government bonds or cash. Indeed, futures prices predict a near-zero return.
Commodities
After a very strong start to the year, the stalling in global growth momentum and growing concerns about Chinese demand has led to some profit taking in commodities. Near term downside targets in both copper and oil (Brent) were attained during the month of April and there is now some modest upside potential over the balance of the year. There is a growing debate on the “commodity super-cycle”, as China re-orients its economy away from fixed investment towards consumption. This would appear a longer term trend rather than something with imminent consequences for the major diversified mining companies given the still prodigious levels of Chinese demand.
Currencies
Currencies remain volatile and as difficult to predict as ever. It is the area of asset forecasting where the range of predictions is at its widest. Very reputable commentators have such radically different views with end-Q4 predictions for JPY/USD and EUR/USD ranging from 72 to 90 and 1.15 to 1.44, respectively. The yen looks set to further recoup some of its losses until such time as this forces the Bank of Japan to intervene again, while there is every prospect the euro will come under pressure on rising EU tensions. Sterling remains in favour but due more to a lack of ready alternatives than inherent fundamental qualities and is now overbought short term. Asian/emerging market/commodity currencies remain the preferred choice on a long-term view.
Click here to read part 1--'What Does the Data Signal for Global Economy?'
