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Investment Outlook June 2016
LOOKING BEYOND CONSENSUS VIEWS 1
EXPLORING NEW FACETS 2
RESILIENCE AMID POLITICAL RISKS 4
EQUITIES: FOCUS ON INCOME 6
BONDS: BALANCING SAFETY AND RETURN 8
SHARP TURNAROUND IN COMMODITIES 10
THE DOLLAR RALLY IS OVER 11
HEDGE FUNDS 12
AMPLE CAPITAL FOR PRIVATE EQUITY 13
PERFORMANCE: RECOVERY AFTER SELL OFF 14
ASSET ALLOCATION PROFILES 15
This is an international ABN AMRO publication. Risk profiles and the availability of investment products may differ by country. Your local advisor will be able to provide more information.
It is time to look at the world differently. Time to explore new facets of asset risk and return -- beyond consensus compromises. Opinions shared by a crowd can give a false sense of comfort. And, for investors, consensus can be misleading, simply because markets look forward and move faster than opinion makers.
Economists shifted as one at the start of the year to lower their expectations towards a soft and uninspiring consensus. But the real story may not lie in a number, but instead in the idea that economic forecasts have become less relevant, given that markets have over relied on monetary policy to stimulate growth and calm volatility. Our view differs from consensus by considering that the world economy may have reached a point where central banks cannot compensate for the lack of political energy to promote structural changes, defeat nationalistic tendencies and free new sources of growth.
This view has practical consequences. Negative yields on fixed income instruments require a new approach to generate income and capital gains for the future. And, political changes, including the UK Brexit referendum, US presidential elections and elections in other major countries, will most likely give birth to a new policy order. While this changing political landscape brings new ideas and new risks, it will affect the bond market and alter the search for sources of return. This implies finding the right mix between high-quality and high-yield bonds.
Within equities (overweight), the stakes have also been raised. We retain our preference for defensive-growth companies. Given the potential for political and geopolitical changes, a wide geographical diversification can diffuse risk. Finally, we believe that rising commodity prices will lead to higher headline inflation in the coming months. This will create a risk for bonds (underweight) and justifies exposure to real assets, such as commodities (overweight) and real estate (neutral).
ABN AMRO Private Banking’s investment team, who are responsible for this Investment Outlook, provides more information on their recommendations in the pages that follow. Your Relationship Manager or local investment professionals stand ready to assist you to prepare for what is ahead in the rest of 2016.
Looking beyond consensus views
Chief Investment Officer, ABN AMRO Private Banking
Exploring New Facets
Exploring new facets
“Exploring new facets of risk mitigation and
return, beyond the consensus view”
After a sharp correction and recovery of risky assets during the first quarter, macroeconomic views and investment ideas have converged toward a muted recovery and lower future returns. Economists and analysts have reduced their expectations. Volatility has also declined, but unexpected events could lead it to bounce back.
Consensus opinions are firm for known risks, such as the UK referendum on staying in the
European Union and the remarkable change of tone in the run-up to the US presidential elec-
tions. Volatility and investment opportunities, however, may not come from the events them-
selves, but from a new policy order triggered by political changes.
These open issues can lead to short-term uncertainty, making income-generating assets and
real assets attractive. Currencies may become more volatile, as due to their liquidity, they are
the first shock-absorbers of unanticipated events. A perspective on the current complexities
that is limited to the consensus view will likely miss capturing the risk premiums that will be the
basis for future returns.
Investing for the rest of 2016 should strike a new balance among three investment goals:
XX Guarding against the risk of higher inflation when bond yields are mostly negative in real
XX Capturing the risk premiums present in high-yield bonds and equities, with a focus on defen-
sive growth stocks. XX Seeking international diversification to mitigate the risks associated with low growth.
CONFRONTING THE CONSENSUS TRENDS XX Future growth will depend on a more balanced policy mix, with less reliance on mone-
tary policy and more effective fiscal policy measures. The consensus expectation for slow,
trend-like economic growth of 2% in the US and 1.5% in the eurozone is dominating markets.
Only China has been able to mobilise both monetary and fiscal policies to maintain growth at
a level of 6.5%-7%, which will progressively lift emerging economies and global trade. XX The oversensitivity of financial markets to fear and risks will persist and can lead to ignor-
ing the value and risk premiums that are available. This vulnerability is a result of the slow pace
of economic growth and risk aversion. As a result, equity markets are in a wait-and-see mode
and US Treasuries and Bunds are vulnerable to policy changes and rising inflation. XX Geopolitical risks related to Brexit, the EU institutional crisis and the US presidential
elections are known risks and largely discounted. The populistic campaigning in the US, UK
and other countries will be moderated by the various checks and balances that are inherent
to democratic systems.
CHALLENGES TO BUILDING AN EFFECTIVE MIX XX The overdependence on monetary policy is creating lasting side-effects, such as negative
yields on high-quality bonds, risks to pension schemes, a change in savings behaviour and a
misallocation of capital. Rising inflation, due to higher commodity prices, could prove to be
a new problem for central banks, given the recurring risk of higher interest rates in the US.
Investment Outlook June 2016
XX Nationalistic policies that are driven by self-interest and conservatism could postpone
significant supply-side reforms and infrastructure spending, limiting the potential for
economic growth. XX Accelerated changes due to disruptive innovations, regulations, migration and climate
change require a new vision for fiscal policy.
OPPORTUNITIES DERIVED FROM THE REWARD OFFERED BY RISK XX Accumulate financial assets close to real assets to hedge inflation, such as commodities,
inflation-linked bonds and real estate. Private equity may be of interest to qualified investors. XX Capture the equity-risk premium: The best value for the long term rests with defensive
growth equities in the information technology, health care and telecom sectors, while avoiding
the financials and utilities sectors. Low-volatility and quality strategies can be used to buffer
equity exposure. XX European high-yield bonds are more attractive than emerging-markets bonds. XX International government bond exposure, where duration is managed actively and hedged
in base currencies adds both diversification and protection. XX Cultivate tactical agility and international diversification. The potential for volatility to
erupt calls for a cash buffer. Political risks, higher inflation, a possible resurgence of currency
volatility and the risk associated with low growth, support large geographical diversification
and currency hedging.
Didier Duret – Chief Investment Officer
high-yield, European periphery
Asia EM, IT, health care
hedge fundsreal estate
base metals, silver, gold
Represents absolute deviation from the benchmark created by our active investment strategy. These decisions affect all the profiles. Profile 3 (balanced) is represented here.
Source: ABN AMRO Private Banking
Exploring New Facets
Resilience amid political risks
Economic growth may not be spectacular, but it is proceeding with unexpected resilience. After much negative news earlier in the year, China is one of the few countries successfully fuelling growth.
Four different fears took their toll on investor sentiment during
the last 12 months or so: a Chinese hard landing and aggres-
sive renminbi currency depreciation; a collapse of the oil price
leading to credit-quality problems in the energy sector; the
threat of a recession in the US or the eurozone; and central
banks running out of ‘bullets,’ i.e. monetary policies capable
of stimulating growth.
In all four cases, the fears appeared to have been