We are in a significant period of change affecting geo-politics, economics and monetary policy. Anthony Rayner of the Premier Miton macro-thematic multi-asset team, looks at what this means for multi-asset investors.
We are living in increasingly uncertain times and this has important implications, not least for multi asset investors. Low inflation, steady growth, globalisation (of both goods and labour), quantitative easing, US hegemony and the transition towards green energy have dominated the last few decades. However, a number of these trends are unwinding. In short, the regime has changed.
Global trade is slowing, the global economy is fragmenting into regional trading blocks and new political allegiances are forming. Globalisation is reversing and deglobalisation is an increasingly established trend. The dynamics of fragmentation and division are evident within countries too, as polarisation takes hold, and elections are increasingly won and lost on tight margins. This isn’t just an academic observation, it has important implications as it can limit the capacity for governments to formulate policy and pass legislation.
These developments are particularly ironic in their timing, as the cost of living crisis is crying out for political leadership. However, these increasingly divided electorates, combined with high government debt levels, are limiting the ability of democratic governments to act in meaningful ways.
Much of the cost of living crisis has been driven by the higher energy price. In turn much of this has been driven by the Russia/Ukraine conflict and at least some of that should be seen through the lens of deglobalisation. The higher energy price has benefited energy exporters and punished energy importers. This is one of the reasons that economies are performing in an increasingly divergent manner, to the degree that there are material implications for their governments.
Indeed, this is the first time we have had an energy crisis during the energy transition and this has led to changing priorities for some governments. For example, priotorising energy security has led to some governments redefining what is green energy. Here too, on open-minded approach to assumptions is helpful.
Deglobalisation is contributing to the inflationary environment, just as globalisation contributed to the disinflationary environment. Supply lines are becoming more regional, while tariffs and labour pricing power are increasing. The related high interest rates provide a higher hurdle rate, thereby exposing not just weaker entities, be they companies or economies, but ultimately their politicians.
Central banks aren’t in a position to underpin financial markets anymore, with inflationary pressures elevated. Quite the reverse, in the near term they are exacerbating the cost of living crisis, especially where debt levels are high. Not only that but central banks are not behaving in the coordinated way they did in the 2007/8 crisis, it’s very much more everyone for themselves this time round.
So, what does regime change mean for global multi asset investors? In short, it means elevated inflation (even if it peaks short term), more divergent monetary policy globally, less coordinated and more conflictive policy domestically, for example tighter monetary policy to contain inflation while looser fiscal policy boosts growth, more divergence in economic performance globally, higher geopolitical risk and increased chance of intervention, as fundamentals deteriorate.
In this new world, it seems sensible to expect assets to behave in new ways, relative to their history and relative to each other. Therefore, a reliance on a static approach to portfolio construction, as in the 60/40 model, will likely struggle, but there will be investment opportunities. If inflation remains structurally higher in a deglobalising world, consider less conventional assets like commodities. Similarly, in many bond markets, the yields available are much more attractive than when low rates and quantitative easing were the dominating force.
Moreover, just as low rates buoyed financial markets previously, more punitive higher rates are increasing the likelihood of winners and losers, as well as challenging the performance leaders of recent decades, such as mega cap tech and the US. As a result, investors will not only need to remain open minded but also more discerning. Encouragingly, as economies, policy and financial assets diverge, it will provide more opportunities to diversify portfolios, although not necessarily in the traditional equity bond model that worked so well over the last thirty years.
This article was first published in the December 2022 issue of Professional Paraplanner.
