Better prices vs. rising uncertainty

Jul 12, 2018

A positive side effect of recent volatility is
the resetting of valuations to more attractive levels,
but the unfolding of macro risks keeps us patient.

Thus far, 2018 is looking quite different than last year, with far higher volatility and more challenged returns. Year-to-date, there have already been three times as many days during which U.S. stocks moved up or down by at least 1% than witnessed through all of last year. Rising geopolitical risks may mean volatility is here to stay.

The upward move in short-term U.S. interest rates has caused prices to fall across a number of income markets this year, including longer-duration investment grade corporates, higher-quality high yield bonds, emerging market (EM) debt, preferred stocks and dividend-paying equities.

On the positive side, valuations seem more reasonable today in both stocks and bonds. Forward price-to-equity ratios have come down globally, making us marginally more optimistic on stocks, primarily in the United States given strong earnings momentum. In credit markets, however, it is difficult to make any generalizations as there has been wide divergence in performance by sector and quality, underscoring our preference for greater diversification in fixed income.

In the BlackRock Multi-Asset Income Fund, we are still favoring lower duration and floating rate markets, including bank loans and pockets of mortgage-backed securities, although we are not actively increasing positions in these sectors as spreads remain rather tight. For the first time in many years, yields in short-term corporate bonds are attractive. EM debt has vastly underperformed of late, leaving prices relatively attractive, but we remain cautious here due to a strengthening U.S. dollar and signs of slowing growth in China. The fund’s preferred stock holdings, particularly exposures to European financials, have been challenged year-to-date but continue to offer attractive yield levels.

Overall, we are being patient in adding risk given rising trade tensions, tightening financial conditions and softening growth momentum in non-U.S. markets.

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