Editor’s note: The original version of this post first appeared on our partner blog in Europe, The Wire, on March 19, 2015 as “Four investment views that might be in your portfolio, and why you probably shouldn’t take them all”. While this content was originally written for the United Kingdom, we believe our U.S. audiences will likely find merit in its perspective and it has been slightly altered for the U.S.
While it seems that it is likely still a central banker’s world in 2015, but much of the chatter is, on balance, fairly upbeat. The U.S. looks to be at the start of a reasonably robust recovery, and the U.K. doesn’t seem far behind. Most commentators are optimistic that QE in Europe will deliver the required shot in the arm, and falls in energy prices will likely help the all-important consumer get back to spending. Of course, there are many risks and uncertainties – no one is (nor should be) complacent. But nonetheless many investors are keen to be positioning for recovery. Here are some investment views that might be in your investment portfolio:
- Short duration
Common expectation: You might expect rising interest rates and thus look to this category of assets as part of a multi-asset portfolio.
Common prediction: You might look ahead and feel that fixed income that is less sensitive to rising interest rates such as short-dated credit, loans, and high yield are more likely to hold its value better than some other investment options.
Common risks to watch for: You will likely be looking out for higher credit risk, as this asset class will typically be lower credit quality than all-duration investment grade credit.
- Overweight risk assets generally
Common expectation: You might expect, given current economic conditions and trends, to see an economic recovery in the U.S.
Common prediction: You might feel that risk assets will likely perform well as the global economy starts growing again.
Common risks to watch for: It’s all in the name – risk assets are, well, risky.
- Overweight real assets
Common expectation: Rising inflation, driven by healthy demand.
Common prediction: Higher inflation feeds directly through to higher prices and yields in real assets such as property, infrastructure and commodities.
Common risks to watch for: Prices of real assets actually fall: many have been bought for their relatively higher yield compared to bonds in recent years, but as this gap narrows and even goes into reverse some investors may choose to switch back to bonds for yield.
- Growth bias in equities
Common expectation: Rising equity earnings, driven by economic recovery
Common prediction: Growth stocks, small cap and emerging markets most likely to benefit from global economic recovery
Common risks to watch for: : Equity valuations have already priced in a lot of growth, raising the bar for where earnings have to come in in order not to be a disappointment
Each of those might look pretty sound on a stand-alone basis. The question is: what if you have all these views in your portfolio at the same time? To what extent is your whole portfolio taking just one big bet on a global economic recovery, and are you comfortable with that overall level of risk?
Like any investment decision, choosing how to position your total portfolio for economic recovery is a matter of trade-offs. A total, multi-asset portfolio approach means you look at what happens in each part of your portfolio if the economic recovery gathers pace, and then decide where the best opportunity to profit from that exists.
So perhaps if you’re going to juice up your credit portfolio with lots of shorter-duration but punchier credit, you might choose to tone down a growth or small cap bias in equity portfolio. If you’re allocating part of your portfolio to real assets, perhaps you might want to balance that with other high-yielding assets that might benefit from outflows from real assets. And if you’re overweighting risk assets generally, perhaps you might consider including some skill-based strategies that are less sensitive to the economic cycle such as volatility-based strategies.
I think multi-asset portfolio management can be like cooking: you need good ingredients, but it’s the delicate combination of them that makes a good dish great. Dishes need flavor (risk), but in the right and complementary quantity. Too many strong flavors may ruin the meal.