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Tactical asset allocation update

Our Blog May 15, 2017
Jeffrey L. Knight, Global Head of Investment Solutions and Co-Head of Global Asset Allocation

Geopolitical events are revealing an underlying risk appetite among investors

Market performance in April had been subdued, even mildly negative, until the first round of the French election unleashed a late month surge in risk asset prices. Perhaps the geopolitical events are revealing, rather than causing, an underlying risk appetite among investors. From the trends we see across economic indicators and corporate earnings, such enthusiasm remains well supported.

Our indicators remain rather neutral, however. Within a neutral stance, though, we see reason to position for a wave of outperformance from international and emerging stocks, and note that numerous strategists are arguing for increased international positions, particularly positions in Europe.

Tactical asset allocation update grid

: To the extent that our portfolios are positioned for above-average equity beta, we should ensure that this risk is not dominant in our active positioning, and even reduce the size of an equity overweight to suit a neutral view.

Fixed income: Duration tools remain neutral, and our inflation forecasts show the U.S. Consumer Price Index (CPI) having peaked with the most recent release.

Alternatives: Overall, the concept of expanding our diversifying components remains irresistible, and alternatives have provided a benefit versus rates as a diversifier since the U.S. presidential election. Commodities remain attractive, despite disappointing first quarter performance. We expect factor efficacy to continue to be positive as markets move beyond a strict dependence on monetary policy in the months ahead.

Within equity allocation: Our work continues to favor non U.S. equity markets in general and emerging market equities in particular. While stocks over bonds has defined U.S. markets of late, we think that trend has yet to materialize in earnest overseas. Our pairwise models continue to favor emerging markets and Japan, and we are observing a cyclical upswing in economic activity in the eurozone as well. The response of European stock markets to the completion of the French election reveals pent up demand for continental stock markets.

Within fixed-income allocation: A very neutral profile remains in place this month with respect to fixed-income strategy. Our fixed-income risk profile for the time being should emerge primarily from regional allocations, with duration and spread risks converging back to neutral.

Within alternatives allocation: Commodities remain mild overweight. Momentum remains favorable, except for natural gas, and commodities offer a potential for tactical catch-up within risk asset holdings. Roll yield dynamics have worsened recently, and combined with momentum some sector preferences may emerge from this dynamic. Efficacy has been much improved since the U.S. election for factor based strategies in equities and commodities. We retain our preference for using these strategies as diversifiers alongside fixed-income holdings.

Currency: An underweight in the yen short amplifies our overweight to Japanese stocks. Across other currencies, nothing emerges as especially attractive. These low conviction views ought not command too much risk budget.

Jeffrey L. Knight

Jeffrey L. Knight

Global Head of Investment Solutions and Co-Head of Global Asset Allocation