Tactical asset allocation - April 2024

Overweight risk assets, value, small-/mid-caps, credit, and reestablish an overweight to developed ex-US equities vs. US equities.

Our macro process drives tactical asset allocation decisions over a time horizon between six months and three years, on average, seeking to harvest relative value and return opportunities between asset classes (e.g., equity, credit, government bonds, and alternatives), regions, factors, and risk premia.

Macro update

Stable economic conditions around the world continue to dampen macro and financial market volatility. Economic data releases are delivering modest but steady outperformance relative to consensus across regions, leading to upward revisions in growth expectations and rising investor risk appetite. 

Against this backdrop, bullish market trends were reinforced over the past month. Global equity markets outperformed fixed income. Credit spreads tightened across corporate investment grade, high yield, and sovereign emerging markets debt, reaching levels last seen in mid-2021 before the start of global hiking cycles. As a result, our barometer of global risk appetite registered a noticeable increase over the past month, rising above recent highs and signaling potential tailwinds for risk assets in the medium term (Figures 1 and 2). Most notably, March delivered a long-waited broadening in equity markets performance to more cyclical sectors and factors such as value and mid- and smaller-capitalization equities relative to more defensive characteristics such as quality and low volatility (Figure 3). We expect this broader cyclical participation to continue, as discussed in recent updates, and see it as a confirmation of the improving growth outlook, which credit markets have indicated since mid-2023.  

Inflation continues to show resilience across the developed world, mainly fueled by rising commodity prices (Figure 4). While this doesn’t pose a threat of renewed tightening, it’s likely to postpone the start of or reduce the extent of the easing cycles already signaled by the US Federal Reserve and European Central Bank. 

Overall, macro conditions, and thus our framework, are broadly unchanged, suggesting a recovery regime for the global economy and its major regional blocks, with growth below trend and improving. We expect this backdrop to continue for the next few months. Our rules-based process maintains portfolio positioning in favor of risk assets with cyclical characteristics.

Investment positioning 

We remain overweight risk relative to the benchmark in our Global Tactical Allocation model — overweight equities over fixed income, favoring emerging markets, cyclical sectors, value, and smaller capitalizations. We return to an overweight in developed ex-US equities versus US equities. In fixed income, we continue to overweight credit risk² via lower quality sectors, maintaining a neutral duration posture and further increasing exposure to Treasury inflation-protected securities (TIPS) versus nominal bonds. (Figures 5 to 8). We remain underweight the US dollar. In particular:

• In equities, we continue to overweight value and mid and small caps at the expense of quality, low volatility, and momentum factors. Resilient economic data and broader cross-asset performance in favor of risk assets confirm a backdrop that has historically favored cyclical factors with high operating leverage and a higher sensitivity to a rebound in growth expectations, such as value and smaller capitalizations. Similarly, we favor exposures to cyclical sectors such as financials, industrials, materials, and energy at the expense of health care, staples, utilities, and technology. From a regional perspective, we remain overweight emerging markets, supported by improving risk appetite and expectations for US dollar depreciation. We reestablish the overweight exposure in developed ex-US equities versus US equities, driven by improvements in manufacturing business surveys in Europe and Japan. Orders-to-inventory ratios are pointing to a near-term cyclical upside.
• In fixed income, we overweight credit risk via high yield, bank loans, and emerging markets hard currency debt. Despite spreads near historic lows, we expect volatility to remain subdued and credit markets to offer stable yields in a stable macro backdrop. The case for credit assets remains limited to their income advantage over government bonds rather than capital appreciation. In sovereigns, we have further increased exposure to TIPS at the expense of nominal Treasury bonds in the US and Europe, given resilient inflation and upward pressure from commodity prices.
• In currency markets, we underweight the US dollar, as regimes of cyclical recoveries are typically accompanied by strong reflationary flows into non-US assets. Within developed markets, we favor the euro, the British pound, the Norwegian kroner, the Swedish krona, and the Singapore dollar relative to the Swiss franc, the Japanese yen, and the Australian and Canadian dollars. In emerging markets (EM), we favor high yielders with attractive valuations, such as the Colombian peso, the Brazilian real, the South African rand, and the Indonesian rupiah relative to low yielding and more expensive currencies, such as the Korean won, the Chilean peso, the Thai baht, and the Chinese renminbi. We still expect these currencies to do well in a US dollar depreciation scenario.

Investment risks

The value of investments and any income will fluctuate (this may partly be the result of exchange rate fluctuations), and investors may not get back the full amount invested.