Union Investment retains neutral risk positioning
Equity weighting remains neutral
Risk positioning remains at level 3 (RoRo meter)
At its regular meeting on 17 and 18 December 2018, the Union Investment Committee (UIC) maintained its neutral risk positioning and left the RoRo meter unchanged at level 3. It decided to simply carry out some restructuring of the model portfolio at sub-asset-class level, taking a relative position in the equity segment. The committee increased the weighting of equities from the emerging markets and, in return, reduced the developed markets position. At the same time, it neutralised the overweighting of energy commodities that had recently emerged as a result of the sharp volatility of the last few weeks. The cash position expanded accordingly. The other positions remained unchanged.
The main reason for the UIC’s decision was the current macroeconomic situation coupled with the impact on future monetary policy. A marked weakening of cyclical and interest-rate-sensitive sectors is currently emerging. This trend has been observable in Europe, Japan and China for some months now. But it is also becoming increasingly pronounced in the US, the world’s leading economy. However, the UIC firmly believes that the trend does not herald an imminent recession. After all, the service sector continues to send out positive signals. The emergence of rising real wages in many major economies should also be a stabilising factor in the medium term.
The Federal Reserve is unlikely to ignore the gloomier economic conditions in the US. In the UIC’s view, the US central bank’s forward guidance will probably place more emphasis on the cause-and-effect relationship between the economy and monetary policy in future. The mere indication that the Fed is taking economic concerns into consideration is likely to dispel some of the pressure.
Other key drivers in recent months have been the various event risks, such as Brexit, the debate about the Italian budget and the trade dispute between the US and China. A new factor that has emerged is the ‘yellow vest’ protest in France, which has prompted Paris to water down its budgetary targets. Despite signs of easing here and there, such as at the G20 summit in Argentina or Rome’s latest budget draft, the situation remains unclear and is difficult to predict. The Brexit issue, in particular, is likely to escalate further, although an agreement is expected to be reached eventually.
Macroeconomic conditions: manufacturing is weak worldwide, services are still buoyant
At present, there is barely any growth momentum in the global economy. Weak global trade, the slackening of the US housing market and a synchronised slowdown in global demand for capital goods (capital expenditure) are particularly noticeable. As a result, the growth surprises worldwide are currently negative. This applies both to the developed markets and to the emerging markets, although in the latter, the situation has become more stable again. Various purchasing managers’ indices for the manufacturing industry, for example, have recently stabilised if not improved. Large emerging markets such as India, Russia and Brazil have in fact seen a slight increase over the past few months.
Overall, economic conditions are therefore characterised by two effects: a slowdown in the global growth rate coupled with a narrowing gap between the pace of expansion in industrialised countries and emerging markets.
Chart of the month: Equity market has priced in much lower profits
Equities: emerging markets preferred over industrialised countries
Monetary policy: no more than three interest-rate hikes by the Fed in 2019
The US Federal Reserve is holding its final meeting of 2018 on 18 and 19 December. In some cases, the capital markets have now priced out the central bank’s interest-rate increase in view of the aforementioned economic concerns. Nonetheless, the UIC does not believe that the Fed will veer from its course in the first instance and will go ahead with its long-planned hike. Instead, it is expected to shift the focus of its communications to ‘data dependency’. The UIC anticipates a maximum of three rises in 2019. The reasons identified by the UIC that would necessitate putting the sequence of interest-rate increases on hold are an inversion of the yield curve and a further slowdown of the economy. In recent weeks, the probability has increased that one of these two events will materialise sooner than previously expected.
Fixed income: no position changes
The environment for bonds has seen little change over the past few weeks. Europe’s economies remain on a moderate growth trajectory, although they are slightly lacking in momentum. Inflation remains close to the ECB’s target. All of this points to moderately rising yields in Europe going forward. However, there are still obstacles in the shape of the political uncertainties in Europe and the increased risk aversion in the capital markets. The UIC is therefore leaving its fixed-income positioning unchanged.
Equities: pair trade emerging markets versus developed markets
The adjustment in the equity markets has carried on, and the markets have priced in a significant economic slowdown. At the same time, the correction in the EM equity markets is at a later stage than in the US, for example. In terms of the risk/reward profile, the UIC has therefore decided to favour shares from the emerging markets over those from industrialised countries.
Commodities: neutralisation of energy commodities
Crude oil prices benefited only temporarily from OPEC’s and Russia’s curbing of production. Currently, economic concerns have the upper hand and the resulting drop in demand is taking its toll on prices. Union Investment’s commodities experts recently adjusted their price forecast for Brent crude in twelve months’ time, lowering it from US$ 78 to US$ 72 per barrel. In the industrial metals segment, the fundamentals are solid. However, the stimulus measures signed off in China have not had any effect so far. The slower global growth rate is also creating a headwind for the market segment. In the uncertain environment, gold remains supported.
Currencies: yen is a safe haven
The US dollar’s rally continues to falter. In the medium term, the greenback is likely to depreciate because US growth is losing speed. For the time being, however, the political risks in Europe will prevent it falling too far. The Japanese yen should remain in demand as a safe haven.
Slight weakening of convertibles
Global convertible bonds have declined a little over the past four weeks. The average equity sensitivity continued to fall, reaching around 42 per cent. US paper – with its relatively heavy technology bias – was again the most volatile. Japanese convertibles fared best, hovering within a narrow range. Overall, volatility at individual security level was still up significantly. As in the previous month, the primary market remained relatively quiet. The global convertible bond market continues to be attractively priced overall. In some cases, particularly in Asia, bonds are offering attractive returns again.
Our portfolio holdings
Unless otherwise noted, all Information and illustrations are as at 18 December 2018.