Global Asset Allocation Views 3Q20Contributor John Bilton
- The shortest, sharpest recession in memory has now given way to a new early-cycle phase. We expect improving macro data and earnings in the second half to push up risk assets but for tail risks to remain meaningful in both directions, suggesting lingering volatility to contend with.
- Massive fiscal and monetary stimulus were deployed to tackle the economic fallout of COVID-19. We expect this stimulus to persist well into the next cycle, pointing to broad regional diversification across equities and credit markets.
- We continue to add risk to portfolios, a process that started mid-Q2 with investment grade credit and now extends into high yield and equities; our multi-asset portfolios are overweight stocks, notably U.S., Europe and emerging markets, as well as corporate credit; we are mildly underweight duration and have a neutral exposure to cash.
THE FIRST SIX MONTHS OF 2020 ALTERED THE ECONOMIC, POLICY AND INVESTING LANDSCAPE MORE PROFOUNDLY THAN ANY OTHER HALF-YEAR PERIOD OF MODERN HISTORY. A quick glance at employment data drives this message home—the U.S. unemployment rate leaping from a 51-year low of 3.5% in February to a post-World War II high of 14.7% in April. But equally, the massive policy response, coordinated across fiscal and monetary stimulus in the U.S. and around the world, will shape the global economy for years to come.
Immediately following the shutdown of much of the world’s economy in March, the outlook appeared dire indeed. But today, although we have recorded the deepest economic contraction in 90 years, it looks like it could also be the shortest. Leading economic data already point to a second-half rebound in activity and earnings, and the impact of stimulus is stoking pent-up demand, in turn pushing economic surprise indicators to new record highs.
We believe that the recovery now has a foothold and will extend in the latter half of 2020. To be sure, we anticipate further bouts of volatility, particularly in the runup to the U.S. election, but we believe that the economy is now exiting recession and will move swiftly into, and through, its early-cycle phase. Still, we expect that fiscal and monetary stimulus will remain a significant feature for some time to come—possibly well into the coming expansion. Over time, this will profoundly shape the next cycle. For the moment, though, we think that the early-cycle phase will largely follow a familiar recovery playbook, with stocks and credit remaining well supported, if choppy.
To some, this scenario might paint an overly optimistic picture, but we would counter that early evidence from Asia indicated significant pent-up demand. Moreover, in regions like Europe the path of the virus has forced long-overdue policy pivots, which can create lasting benefits to the regions’ economies and asset markets. Clearly, risks persist, and we will need to be nimble in the months to come, but equally history suggests that a recovering economy should support equity and credit markets.
While the recovery appears to be global—in large part due to the global nature of the virus that triggered the recession—there will still be winners and losers. The capacity to provide fiscal and monetary stimulus is likely to be a key determinant of the pace of recovery. So too will be choices around how to contain any future outbreaks of COVID-19, although we expect many countries will want to avoid a new round of lockdowns, preferring more targeted restrictions that minimize economic damage.
As we adopt a progressively more upbeat outlook, prompted by the turn in economic data, the bottoming of earnings revisions and the ongoing wall of stimulus, we raise our view on stocks and credit from neutral to overweight in our multi-asset portfolios. We recently reduced our view on duration from neutral to underweight, and we maintain this slightly negative tilt while trimming our mild cash overweight back to neutral. These changes represent a more risk-on tone and reflect the re-risking process that started in our portfolios in mid-Q2. Beginning with a rotation into investment grade (IG) credit and covering shorts in cyclical equities, more recently we added risk in high yield (HY) and global equities.
In equities, we maintain our positive view on U.S. stocks, although with a greater focus on small caps, and keep a positive tilt to European and emerging market (EM) equities. The UK and Canada are our preferred funding markets, but broadly we believe a widely diversified equity overweight is most appropriate, given the widespread recovery in earnings we expect in the second half of the year. In bonds, we favor the U.S. and Australia over German Bunds, while in credit we continue to see merit in investment grade and, increasingly, in high yield, but we are less enthusiastic about EM debt.
In summary, these portfolio tilts combine to give a distinct risk-on feel to our multi-asset portfolios—following a pattern of gradually increasing risk tolerance that began in late April. However, we note that volatility remains rather elevated, and as a result position sizes are still quite modest. Monetary accommodation will likely keep volatility on a gradually downward trajectory, on average, but certainly doesn’t preclude episodes of higher volatility. Today we believe that there is sufficient economic momentum to sustain support for stock and credit markets, despite some optically elevated valuations. However, looming political uncertainty over the summer, plus the constant unfolding of the coronavirus story, mean that we are in equal measure optimistic and watchful.
Multi-Asset Solutions Key Insights & “Big Ideas”
In previous editions of our Global Asset Allocation Views, we included a map and table of key global themes. Those themes helped us discuss the economic and market outlook, and shape the asset allocation that Solutions reflected across portfolios. While some of those themes are still in play, we now choose to share the Key Insights and “Big Ideas” discussed in depth at the Strategy Summit. These reflect the collective core views of the portfolio managers and research teams within Multi-Asset Solutions and are the common perspectives we come back to and regularly retest in all our asset allocation discussions. We use these “Big Ideas” as a way of sense-checking our portfolio tilts and ensuring they are reflected in all of our portfolios.
ACTIVE ALLOCATION VIEWS
In normal times, these asset class views apply to a 12- to 18-month horizon, however given current volatility and uncertainty they reflect a horizon of several months but are subject to revision as new information becomes available. We will update this tick chart at minimum monthly during this period of volatility. The dots represent our directional view, up/down arrows indicate a positive () or negative () change in view since the last revision. These views should not be construed as a recommended portfolio. This summary of our individual asset class views indicates strength of conviction and relative preferences across a broad-based range of assets but is independent of portfolio construction considerations.
Source: J.P. Morgan Asset Management Multi-Asset Solutions; assessments are made using data and information up to June 2020. For illustrative purposes only.
Diversification does not guarantee investment returns and does not eliminate the risk of loss. Diversification among investment options and asset classes may help to reduce overall volatility.
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