Outlook 2015: Multi-Manager

Investors need to prepare for lower returns in the next few years, with a focus on capital preservation appearing prudent in the current environment

20 November 2014

Marcus Brookes

Marcus Brookes

Head of Multi-Manager

Robin McDonald

Robin McDonald

Fund Manager - Multi-Manager

We end 2014 with almost every asset class offering investors scant potential return for their risk. Five years into a period of unprecedented interest rate suppression, this should come as no surprise. The returns generated from every mainstream asset since 2009 have been striking. Those returns are now in the past. We believe the next few years will be characterised by lower returns, more volatility and greater risk.


We end 2014 with almost every asset class offering investors scant potential return for their risk ... the next few years will be characterised by lower returns, more volatility and greater risk.

The backdrop

We're going to cop out here and leave politics to one side for the purposes of this outlook. The economic backdrop is foggy enough! Suffice to say we will comment throughout the year on this particular risk factor.

To try and summarise consensus expectations for growth in 2015, we would say that investors are very optimistic about the US (yet still don’t believe the Federal Reserve (Fed) will raise rates) and to a lesser extent the UK, are willing to give Japan and much of Asia the benefit of the doubt for now (but are sceptical of China), and hate Europe full-stop.

Starting as we often do at the bottom, for our sins, we think the combination of an expanding European Central Bank balance sheet, a gradual pick-up in credit growth due to record low funding costs for corporates and consumers, and the disposable income boost from lower oil prices has the potential to confound very low expectations for Europe next year.  

Momentum in the US looks sustainable at least into 2015, meaning the Fed should follow through and begin raising rates. We’ll defer to our 2016 outlook for a judgment of how the economy absorbs what will likely be baby steps towards a tighter policy backdrop.  

If US rate hikes don’t occur next year, the likely scapegoat will be a deflationary impulse emanating from China – the elephant that never leaves the room. The risks to China and other emerging markets will correlate highly with the strength of the US dollar in our view. Dollar bulls need to be careful what they wish for. A strong US currency, all else being equal, is not bullish for emerging market liquidity.

Not banking on bonds

Almost irrespective of one’s economic outlook, the margin of safety in fixed income markets is wafer thin. Aggregate yields globally are as low as they have ever been. Spreads are also closing in on their all-time tights. As a result, correlations within fixed income have picked up worryingly. Traditionally fixed income does not do well in a rising rate environment. If US rates do rise in 2015 as the Fed is telling us they are likely to, every fixed income asset class will take a hit.  In spite of this, judging by the scale of continued inflows, the majority of investors appear comfortable with the risk/reward set-up. We’re not, and therefore have only limited exposure. By definition, prospective returns today are pretty much as low as they have ever been, risks are high and liquidity is terrible. Investors need to tread carefully here.  

We have a healthy cash balance across our portfolios at present, with some diversification into US dollars. Cash is currently considered an inferior asset as it generates a zero return. We believe it will become more desirable as the market sets about discounting higher US interest rates.

Expensive equities 

Assuming global aggregate demand can continue to expand in 2015, we would have sympathy with the view that equities offer a greater short-term prospective return than fixed income. Nevertheless, we judge equity valuations from a longer-term perspective, particularly in the US, to be on the expensive side at present. This tells you next to nothing about their potential for 2015, but does indicate their vulnerability to disappointment. Like fixed income, from a positioning standpoint, investors appear very comfortable with the risk/reward trade-off in US equities.  Once again, we’re less sanguine.  What equity risk we are taking is predominantly outside of the US, favouring Europe and Japan particularly. Both markets have relative value on their side and the potential for a catch-up in profitability. In contrast, US equities trade at historically high multiples of historically high earnings. The emerging market complex also strikes us as vulnerable to disappointment and we have next to no exposure there.

Fertile ground for alternatives

Fortunately, we believe the environment is becoming ever more fertile for short-selling, allowing us to generate uncorrelated returns in what may otherwise prove a difficult backdrop for investors.  This opportunity set extends beyond equities, to bonds and foreign exchange markets also. The faith investors have placed in the Fed this cycle has made shorting a largely unprofitable exercise.  We expect this to change.

Raging bull market enters new phase

The bull market that began in March 2009 has been one of the most rewarding in history, yet the economic recovery to date has been one of the weakest.  With the US economy now on a firmer footing, the Fed should intervene less in asset markets in 2015.

Not for the first time we have been premature in moving to emphasise capital preservation within the portfolios (will we ever learn?!) while this new investment environment unfolds. However, such is the unbalanced set-up within markets in our view, when (not if) investors decide to become temporarily more risk-averse, the likely re-pricing will be swift.

We remain very optimistic about future investment opportunities, just not present ones. For the time being we consider capital preservation the most prudent strategy for the portfolios. This will change as the opportunity set evolves.

Important Information: This communication is marketing material. The views and opinions contained herein are those of the author(s) on this page, and may not necessarily represent views expressed or reflected in other Schroders communications, strategies or funds. This material is intended to be for information purposes only and is not intended as promotional material in any respect. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. It is not intended to provide and should not be relied on for accounting, legal or tax advice, or investment recommendations. Reliance should not be placed on the views and information in this document when taking individual investment and/or strategic decisions. Past performance is not a reliable indicator of future results. The value of an investment can go down as well as up and is not guaranteed. All investments involve risks including the risk of possible loss of principal. Information herein is believed to be reliable but Schroders does not warrant its completeness or accuracy. Some information quoted was obtained from external sources we consider to be reliable. No responsibility can be accepted for errors of fact obtained from third parties, and this data may change with market conditions. This does not exclude any duty or liability that Schroders has to its customers under any regulatory system. Regions/ sectors shown for illustrative purposes only and should not be viewed as a recommendation to buy/sell. The opinions in this material include some forecasted views. We believe we are basing our expectations and beliefs on reasonable assumptions within the bounds of what we currently know. However, there is no guarantee than any forecasts or opinions will be realised. These views and opinions may change.  To the extent that you are in North America, this content is issued by Schroder Investment Management North America Inc., an indirect wholly owned subsidiary of Schroders plc and SEC registered adviser providing asset management products and services to clients in the US and Canada. For all other users, this content is issued by Schroder Investment Management Limited, 31 Gresham Street, London, EC2V 7QA. Registered No. 1893220 England. Authorised and regulated by the Financial Conduct Authority.