Investment views

The broad view

We quickly concluded Covid-19 would cause an unprecedented near-term economic contraction – but that an overwhelming policy response would help mitigate the damage and make the cumulative GDP shortfall much smaller than that of the GFC.

As a result, we advocated taking advantage of historic opportunities in sustainability in late February and risk assets in strategic portfolios in late March. We have since turned neutral on equities in our strategic framework after the significant rally but keep our overweight in credit. Higher spread levels make up for increased default risk, in our view.

On a tactical basis, reflecting a shorter investment horizon, we turned cautious on Feb. 28, taking both equities and credit to neutral. We returned to a mild pro-risk stance on April 6, overweighting credit and favoring up-in-quality assets with strong policy backstops. This was reflected in a preference for U.S. stocks, investment grade credit and the quality factor.

We have now downgraded U.S. equities to neutral amid risks of fading fiscal stimulus and election uncertainty, and have turned cautious on emerging markets. We have upgraded European equities as we see them offering the most attractive exposure to a cyclical upswing. We are keeping our credit overweight because of a global hunt for yield and central bank purchases.

Tactical calls

We maintain a modest pro-risk stance overall, given our macro assessment of the virus shock and the strong policy response. This is balanced by a preference for up-in-quality assets that have policy backstops and are high up the corporate capital structure.

We prefer credit over equities as a result. This includes overweights in investment grade credit (our quality bias), high yield and euro area peripheral debt. The common thread: renewed asset purchases by central banks, a stable interest rate backdrop and attractive income in a world where decently yielding assets are hard to find.

We have downgraded EM equities and USD-denominated debt. Many EM economies are still battling to contain the virus outbreak and lack policy space to cushion the blow.

We have upgraded European equities to overweight. The region offers more attractive cyclical exposure than EMs due to its public health measures and ramped-up policy response. We are raising Japanese equities to neutral for similar reasons.

We have downgraded U.S. stocks to neutral after a strong run of outperformance. Risks include policy fatigue, a re-emergence of the virus, intensifying U.S.-China tensions, and a turbulent election season. We also cut Asia-ex Japan equities to neutral as renewed U.S.-China tensions may hurt investor sentiment as China balances its growth and stability objectives.

From a factor perspective, we increase our overweight in quality, for what we see as its likely resilience against a range of future outcomes. The possibility of a cyclical uptick has caused us to upgrade the value factor to neutral and downgrade minimum volatility to neutral. We also remain neutral on momentum.

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Directional views

Strategic (long-term) and tactical (6-12 month) views on broad asset classes, October 2020

Asset	Strategic view	Tactical view
Equities
We are neutral on equities on a strategic horizon given increased valuations and a challenging backdrop for earnings and dividend payouts. We move to a modest underweight in DM equities and tilt toward EM equities. Tactically, we are also neutral on equities overall . We like the quality factor for its resilience and favor Europe among cyclical exposures.

Credit
We are neutral on credit on a strategic basis because we see investment grade (IG) spreads offering less compensation for any increase in default risks. We still like high yield for income. On a tactical horizon, we strongly prefer high yield for its income and more room for spread tightening. We are neutral on IG and underweight emerging market debt.

Govt Bonds
The strategic case for holding nominal government bonds has materially diminished with yields closer to perceived lower bounds. Such low rates reduce the asset class’s ability to act as ballast against equity market selloffs. We prefer inflation-linked bonds as we see risks of higher inflation in the medium term. On a tactical basis, we keep duration at neutral as unprecedented policy accommodation suppresses yields.

Cash
We are neutral on cash. Holding some cash makes sense as a buffer against supply shocks that could drive both stocks and bonds lower.

Private markets
Non-traditional return streams, including private credit, have the potential to add value and diversification. Many institutional investors remain underinvested in private markets as they overestimate liquidity risks, in our view. Private assets reflect a diverse array of exposures but valuations and inherent uncertainties of some private assets keep us neutral overall.

Note: Views are from a U.S. dollar perspective, October 2020. This material represents an assessment of the market environment at a specific time and is not intended to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding any particular funds, strategy or security.

Our granular views indicate how we think individual assets will perform against broad asset classes. We indicate different levels of conviction.

Tactical granular views

Six to 12-month tactical views on selected assets vs. broad global asset classes by level of conviction, October 2020

Equities

Asset		Tactical view
United States
We are neutral on U.S. equities. Risks of fading fiscal stimulus and an extended epidemic are threatening to derail the market’s strong run. Renewed U.S.-China tensions and a divisive election also weigh.

Europe
We are overweight European equities. The region is exposed to a cyclical upside as the economy restarts, against a backdrop of solid public health measures and a galvanizing policy response.

Japan
We keep Japanese equities at neutral. We see strong fiscal policy and public health measures allowing for rapid normalization. upgrade Japanese equities to neutral.

Emerging markets
We are underweight emerging market equities. We are concerned about the pandemic’s spread and see less room or willingness for policy measures to cushion the impact in many – but not all – countries.

Asia ex-Japan
We hold Asia ex-Japan equities at neutral. Renewed U.S.-China tension is a risk. China’s goal to balance growth with financial stability has led to relatively muted policy measures to cushion the virus fallout.

Momentum
We keep momentum at neutral. The sectoral composition of the factor provides exposure to both growth (tech) and defensive stocks (pharma). Yet momentum’s high concentration poses risks as recovery takes hold.

Value
We are neutral on value. We see the ongoing restart of economies likely benefiting cyclical assets and potentially helping value stage a rebound after a long stretch of underperformance.

Minimum volatility
We hold min vol at neutral. The restart of economies is likely to benefit cyclical assets and reduce the need for defensive exposures.

Quality
We keep our strong overweight on quality. We see it as the most resilient exposure against a range of outcomes in terms of developments in the pandemic and economy.

Fixed income

Asset		Tactical view
U.S. Treasuries
We still like U.S. Treasuries. Long-term yields are likely to fall further than other developed market peers, even as low rates reduce their ability to cushion against risk asset selloffs.

Treasury Inflation-Protected Securities
We are neutral on TIPS. A huge decline in rates makes the entry point less attractive. We still see potential for higher inflation over time and like TIPS in strategic allocations.

German bunds
We remain underweight bunds as current yield levels provide little cushion against major risk events. Also, potential issuance related to the proposed EU recovery fund could compete with bunds for investment.

Euro area peripherals
We are overweight euro area peripheral government bonds despite recent outperformance.  We see further rate compression due to stepped-up quantitative easing by the European Central Bank and other policy actions.

Global investment grade
We hold investment grade credit at neutral. We see little room for further yield spread compression, as we see deeper rate cuts and more asset purchases as unlikely as policy response. Central bank asset purchases and a broadly stable rates backdrop still are supportive.

Global high yield
We keep our strong overweight on high yield. We see the very high implied default rates as overly pessimistic, and high yield remains an attractive source of income in a yield-starved world.

Emerging market - hard currency
We are underweight hard-currency EM debt due to the pandemic’s spread, heavy exposure to energy exporters and limited policy space in some emerging economies. Default risks may be underpriced.

Emerging market - local currency
We are still underweight local-currency EM debt. We see many EM countries as having insufficient capacity to rein in the virus spread and limited policy space to cushion the shock from the pandemic.

Asia fixed income
We are neutral on Asia fixed income. The pandemic’s containment in many countries and low energy exposure are positives. Renewed U.S.-China tensions and China’s relatively muted policy fallout are risks.

Past performance is not a reliable indicator of current or future results. It is not possible to invest directly in an index. Note: Views are from a U.S. dollar perspective. This material represents an assessment of the market environment at a specific time and is not intended to be a forecast or guarantee of future results. This information should not be relied upon as investment advice regarding any particular fund, strategy or security.