Our multi-asset investment views - March 2020
MAIN ASSET CLASSES
The volatility seen in financial markets is likely to persist as investors try to value the impact of the global outbreak of coronavirus (COVID-19) and the fall in oil prices. Financial support from central banks should help in the longer run, however, the short to mid-term impact will be more limited.
Government bonds are now very expensive following the decline in yields (bond prices rise when yields fall). We nonetheless retain some exposure in case economic disruption caused by attempts to contain COVID-19 tips us into a global recession.
We have downgraded as demand may remain suppressed due to COVID-19. Energy could be the most vulnerable sector following the breakdown in talks between Saudi Arabia and Russia on oil production curbs.
The fall in the oil price and the large outbreak of COVID-19 in Europe, and potentially the US, will put downward pressure on company profits.
We continue to favour the US as it is a high quality market and remains supported by ample liquidity (i.e. readily available funds). While valuations have become cheaper, we will wait for the market to fully price in a technical recession. We also want to see more visibility on the economic and corporate impact of COVID-19 before adding back more risk.
The recent election result provided some confidence to markets, reducing Brexit uncertainties. Nevertheless, little has actually been solved so far in trade negotiations with the EU. We also anticipate further weakness as the prevalence of COVID-19 increases across the UK.
We have downgraded Europe as, despite cheaper valuations, there are growing concerns over the European banking sector and the strengthening of the euro will be an additional headwind.
The disruption to supply chains caused by COVID-19, coupled with school closures, will likely prevent employees from working, therefore limiting productivity.
Similar to the rest of the world, we expect disruption to be felt in this region as a consequence of COVID-19. Weak economic conditions in Australia clearly have not helped, coupled with the disruption to global supply chains.
We have upgraded due to some improvement in economic activity, attractive valuations and a slowdown in reported COVID-19 cases within China.
We remain neutral as the disruption caused by COVID-19 may be more negative than currently expected, and also because US bonds offer higher yields relative to other markets.
The ongoing situation with COVID-19 is likely to hamper the UK’s economic recovery while the Bank of England has decided to cut interest rates to 0.25%.
German government bonds are currently offering negative yields, which is already hitting the financial sector. Therefore, there is limited room for yields to rally further.
With room for monetary policy limited, coupled with negatively yielding bonds, the Bank of Japan will have to keep unconventional policies in place for longer. Monetary policy attempts to reduce economic fluctuations by regulating the supply of money in an economy using interest rates and other methods, and is controlled by a central bank.
US inflation linked
Downgraded as any meaningful inflation is still not a risk in the short term.
Emerging markets local
We remain neutral as the outbreak of COVID-19 will likely lead to weaker-than-expected global growth for H1 2020 while central banks will remain cautious.
Investment grade credit
In the US investment grade corporate bond, or credit market, we anticipate further widening in spreads on the back of falling demand and the wider impact of COVID-19. Spreads are the difference in yield between two different bonds that are the same in all aspects except for the credit rating. We do not envisage monetary policy providing a meaningful offset in the short to medium term.
We now expect fundamentals to weaken. US interest rate cuts mean US corporate bonds are likely to attract increased demand from euro-based investors, but demand will remain subdued in light of COVID-19.
Emerging markets USD
We maintain our bias towards higher quality and “short” duration corporate bonds. Duration is a measure of the sensitivity of the price of a bond to a change in interest rates, with short duration bonds being less sensitive. We also expect to see spreads widening.
High yield bonds (non-investment grade)
The US high yield corporate bond market (this encompasses bonds deemed by rating agencies to be below investment grade in quality) has a significant exposure to the energy sector. As a result, we have downgraded, primarily on the back of the Saudi reaction to the failure of talks between members of the Organization of the Petroleum Exporting Countries (OPEC) and non OPEC members, the so-called “OPEC+” group.
The increase in oil supply, coupled with the widespread impact of COVID-19, is reflected in our downgrade to the EU high yield corporate bond market as company earnings increasingly come under pressure.
We have downgraded as COVID-19 continues to put pressure on demand, reinforced by the breakdown of OPEC+ discussions. This is creating an oversupply of oil to the market and falling prices.
Falling real US interest rates means that owning gold is an attractive portfolio hedge during the late stage of an economic cycle. Economic activity waxes and wanes and the period of time in which an economy moves from a state of expansion to one of contraction, before expanding again is known as the business, or “economic cycle”.
The global impact of COVID-19 continues to weigh on activity as the build-up in inventory will take longer to unwind before prices trade more sustainably.
The impact of COVID-19 has reduced demand across the agriculture sector, which looks set to persist for the near term. It has also given China space to delay purchases promised from the trade deal.
We have downgraded due to expensive valuations and the strong growth headwinds, despite the collapse in US interest rates versus the rest of the world.
The combined monetary and fiscal policy reaction to COVID-19 so far has been encouraging, but more will be needed to offset the expected sharp downturn in growth. Fiscal policy, like monetary policy, is a means by which policymakers attempt to manage economic fluctuations.
The impact of COVID-19 in an already anaemic growth environment has been significant, however there is limited scope for action from the European Central Bank (ECB) compared to the Federal Reserve (Fed).
We remain neutral given the sharp strengthening of the Japanese yen, coupled with the potential for global authorities to move forward on fiscal policy.
Swiss franc ₣
We have upgraded due to the uncertain risk environment currently facing Europe and the relatively little firepower expected from the Swiss National Bank, compared to the Fed or the ECB.
Source: Schroders, February 2020. The views for equities, government bonds and commodities are based on return relative to cash in local currency. The views for corporate bonds and high yield are based on credit spreads (i.e. duration-hedged). The views for currencies are relative to the US dollar, apart from the US dollar which is relative to a trade-weighted basket.
Please note any past performance mentioned is not a guide to future performance and may not be repeated. The sectors, securities, regions and countries shown are for illustrative purposes only and are not to be considered a recommendation to buy or sell.