This is our 2019 outlook piece, the purpose of which is to provide our views and insights into the key questions affecting our decision making in client portfolios today.
As a reminder, we don’t have a crystal ball and we don’t make significant short or medium term timing decisions on markets that are volatile and unpredictable. However, we do invest probabilistically and we do have longer term thematic views that cut across asset classes which inform the way we invest portfolios for the longer term.
The main bulk of this letter addresses these key themes that drive our investment thinking for the coming year and beyond. The summary of our work can be described as:
- Higher interest rates, in time, will depress future asset price returns, though in the short term we believe interest rates will remain roughly where they are.
- There is an increasing risk of a recession in the US in the next 24 months. Global asset prices will likely react ahead of it occurring. Arguably they have already factored in a reasonable probability of one occurring.
- Political risks are not likely to reduce anytime soon. This makes the kind of global co-ordinated response we saw in the last financial crisis less likely to occur with governments now more inwardly focussed than they have been for a long period of time.
- China’s slowdown, and associated macro issues will be a long term issue and consequently we are cautious on emerging market allocations on a longer term basis.
- For long term investors Brexit uncertainty will result in attractive opportunities. We believe some are emerging already and we favour defensive assets which will be resilient whatever the outcome of Brexit.
Against this back-drop we see more challenging prospects for traditional asset classes. Our longer term expected returns for a 60/40 global equity/bond index would be in the mid-single digits versus high single digits over the past 20 years or so. In response to this challenge we encourage clients to 1) invest with the expectation that we will see more volatility going forward as a consequence of higher interest rates and slowly shrinking central bank balance sheets 2) embrace longer term alternative strategies which derive a return from a risk factor, illiquidity premia and/or manager skill that is uncorrelated to broader financial markets 3) invest with the knowledge that a recession while not imminent is probable, and structure portfolios with a sufficient margin of safety (in the form of retaining liquidity and holding non or lowly correlated assets) to exploit the ensuing panic when it happens.
In the below table we translate the above views into positioning across asset classes. As a reminder, each portfolio we manage is tailored to individual circumstances (regulatory, taxes, currency, liquidity needs, leverage requirements, etc.) and we don’t have a generic portfolio or fund, however, we feel it is useful to have a model portfolio which acts as a reference point to demonstrate what we think.
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