Spring forward

Feb 11, 2019

Once again, spring is near, a time of growth, renewal and restoration. But with concerns over slowing growth, uncertainty around economic and earnings outlooks, and ever-present U.S.-China and European political risks, investors should be prepared for potential spring storms and begin to consider defensive exposures. Our take on the major themes for this quarter:

U.S. equities: The healthy healthcare sector

In an environment of slowing growth and less certain earnings outlooks, the traditional defensive qualities and resilient earnings growth of healthcare stocks are appealing. Plus, valuations broadly look reasonable compared to historical levels. Tactical investors may consider getting more granular with the medical devices industry.

Developed markets: What next for Brexit?

With Theresa May’s Brexit plan resoundingly defeated, she must now renegotiate a deal. We believe the United Kingdom is likely to avoid a hard exit with an extension of the March 29 deadline to exit and gain time to draft a passable proposal. But lingering uncertainty is likely to keep U.K. assets under pressure while a deeper slowdown in European and global growth only accentuates the challenges. We remain underweight U.K. and European equities.

Emerging markets: After a bad year, China looking ahead

Although Chinese equities tumbled in 2018, we continue to favor China as well as emerging markets overall. Although trade tensions are likely to persist, we believe frictions will subside in the short run. And we find trade tensions are reasonably priced into Chinese equities. Meanwhile, accommodative policy measures and sustained earnings growth in China could lift investor sentiment.

Fixed income: Ballast matters

In 2018, investors were rightly concerned about duration risk as interest rates rose due to Fed tightening, inflation fears and rising deficits. But during December’s equity sell-off, yields fell—long-duration U.S. Treasuries (as measured by the ICE U.S. Treasury 20+ Year Index) returned +5.6%—a stark reminder of the key role bonds can play as a diversifier in a portfolio. We favor holding longduration Treasuries and highly rated investment grade bonds for this purpose.

Factors: Momentum on defense, divergence in quality

Our outlook for momentum has declined to a moderate overweight; it remains attractive, but its relative strength has markedly weakened from the strong levels seen since fourth quarter 2016. Our outlook for minimum volatility has improved from moderately underweight to moderately overweight this quarter and we have downgraded quality from moderately overweight back to neutral. We remain neutral on value, and underweight size.

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