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A change in risk appetite

16-Apr-2018
By Richard Turnill

Key points

  1. Investor risk appetite appears dented but not broken — the steady economic backdrop should support further rewards for equity risk taking.
  2. Global equities rose last week, Brent crude prices rallied and firming US core inflation data sent US 10-year inflation expectations higher.
  3. First-quarter earnings for US companies will begin to flood in this week. Tax cuts should boost bottom lines, but wage pressures pose a risk.

A change in risk appetite

Record-setting equity inflows in January lost steam after the February market rout and double-whammy of trade tensions and tech worries since. Yet investors appear to be revising their risk exposures rather than abandoning risk entirely. We see a conducive backdrop for risk taking ahead, despite higher economic uncertainty.

Chart of the week

Past performance is not a reliable indicator of current or future results. It is not possible to invest directly in an index.

Investors’ appetite for risk assets has been dented of late but looks to be generally holding up. The story is more about a rotation of positioning, we believe, based on our observation of EPFR fund flow data. US equities gave back their sizeable January inflows, but flows into non-US developed market and emerging market (EM) equities have more than offset the loss. See the chart above. In fixed income, high yield funds have bled assets, while US investment grade, EM debt and US government bonds have attracted inflows.

A conducive backdrop

Markets have been choppy in 2018 and gauges from our Systematic Active Equity team suggest investor appetite for risk has faded somewhat. Yet we see the supportive economic and earnings backdrop underpinning the reward for risk. The BlackRock Growth GPS shows a sustained global economic expansion, even amid recent economic data disappointments. The tax overhaul has juiced the US corporate earnings outlook — and earnings momentum is rising across the world. We expect a mostly solid first-quarter US earnings season will help support stocks, easing some of the negative pressure from concerns about trade tensions and economic deceleration.

This backdrop should support risk assets, even as we expect more muted returns and higher volatility than in 2017. Key risks this year to the global expansion and risk assets – including the risk of a full-blown US-China trade war, which we see as unlikely – have added uncertainty to the economic outlook. This uncertainty is behind the recent rise in risk premiums. See our Q2 Global Investment Outlook.

Where should investors consider taking risk? We believe equities offer better compensation relative to credit. We are negative on government bonds but see short-maturity Treasuries offering a compelling risk/reward proposition. See our latest Fixed income strategy piece. We are neutral on US credit amid tight spreads and increasing sensitivity to rate rises, while we are negative on European credit. Within equities, we prefer the US and EMs, as well as technology, financials and the momentum style factor. Flows and our proprietary data on investor positioning show US equities have taken a particularly hard hit since January, suggesting some room for a rebound. Investors seeking to play defence in equities should look to companies with strong free cash flow and the ability to boost dividends rather than seek high dividends alone, we believe. See our April 2018 Global equity outlook.

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  • Global equities rose, with energy and tech stocks leading. Market fears over US-China trade tensions eased after President Xi Jinping reiterated his pledge to open up the Chinese market. Sentiment toward tech stocks improved.
  • The US and some of its allies threatened to take action against Syria, sending Brent oil prices to a 40-month high. The ruble fell sharply after the US implemented new sanctions against Russia but recovered somewhat later in the week as US rhetoric softened.
  • The March US Consumer Price Index (CPI) report confirmed firming US inflation. US 10-year inflation breakevens matched their highest levels in four years. Minutes from the Fed’s March meeting showed a central bank confident in its positive growth and inflation outlooks. March inflation data in China came in below expectations.

 


 

  Date: Event
April 16 US retail sales
April 17 China Q1 GDP, industrial production, fixed asset investment, retail sales; US industrial production; Germany ZEW Economic Sentiment Index
April 18 UK CPI, Producer Price Index (PPI); eurozone Harmonised Index of Consumer Prices (HICP)
April 20 Japan CPI; eurozone consumer confidence flash; G20 minister/central banker meeting

This week is the first big one of the latest earnings season. Companies representing 15% of the S&P 500 market cap are scheduled to report first-quarter results. Analysts broadly expect a solid quarter as tax cuts boost bottom lines. They see average year-over-year growth of 16% for earnings and 7% for sales. Early reporters are beating expectations. We see strong quarterly results supporting stocks, though higher labour costs are a potential risk to results. What to look for? Signs of non-tax-related measures of corporate strength, such as sales; and how corporations are spending their cash windfalls and adapting to trade tensions.

Richard Turnill
Managing Director, ist Global Chief Investment Strategist von BlackRock
Richard Turnill ist Global Chief Investment Strategist von BlackRock. Davor war er Chief Investment Strategist von BlackRocks Fixed Income und active Equities ...

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