“Once you understand why pizza is round, packed in a square box, and eaten as a triangle, you’ll know that not everything in life needs to make sense to be enjoyed.” random Instagram page
Despite the issues in the Middle East and the ongoing war in the Ukraine, markets have recovered from their most recent correction that started about 6 weeks ago. Volatility has picked up again, and markets are once again looking at the interest rate cut potential in the US as a positive backdrop for equities to continue to perform. Whilst these market gyrations are not easily explained, we are relieved that the most recent correction let some ‘steam out’ and has recovered again.
Labour constraints continue globally, and this has driven investment in productivity, largely via AI adoption. Trump tariffs have settled down and, the view that we had at the onset that he was putting countries on the back foot to then come and negotiate hard has been vindicated.
As you are aware, we use the long-term market assumptions from both Blackrock as well as JP Morgan to shape our views on markets which is then translated into the changes we make in our client portfolios. Both organisations are the pinnacle of research providers, and their proprietary models are second to none.
The general consensus is forecasting attractive returns across most asset classes over the coming year or two. Whilst equity valuations appear to be stretched when compared to historic averages, company earnings are providing a meaningful boost. Please see graphs below from JP Morgan Asset Management.
Whilst we tend to be conservative by nature and would throw caution to the wind, equities represent positive earnings and growth potential, but diversification is key. We are focussing on alternatives to ensure portfolios have a buffer against equity market volatility whilst still offering upside potential. We have also added Global Bond exposure to our portfolios as it appears to have a positive return outlook should equity markets correct.
Blackrock believes that the era of transformation (through AI and increased productivity) that will spread through to mainstream economy provides a positive economic backdrop. They see this as having a greater potential for positive returns for the next decade when compared to the last decade. Off course, the macro environment (tariffs, inflation, etc.) will create risks and volatility. Active management and both fund manager selection and tactical asset allocation is likely to add value going forward.
Blackrock see 5 major themes that present opportunities. These are:
- Digital disruption and AI —Eventually this will be productivity enhancing through adoption across industries by automating laborious tasks as well as data analytics.
- Geopolitical fragmentation —Countries are becoming insular and focussing on national security and rewiring supply chains. This increases costs and fuels inflation potentially. However, this also creates opportunities with increased investment in technology, infrastructure, clean energy, and defense.
- Low-Carbon transition —this is likely to spur a significant reallocation of capital according to Blackrock towards clean energy, electric vehicles, infrastructure, and key minerals. We have seen that already with the US/China tensions to do with rare earths and minerals.
- Demographic divergence —This is where tactical allocation can add value as we invest in emerging markets which represents better growth prospects due to younger population versus developed economies which is aging and therefore, restricting economic growth. However, the aging population also presents opportunities in the healthcare, leisure, and wellness sectors.
- Future of finance —technological innovation is changing access and markets for lending and deposit products. Fintech, digital innovation, and AI will evolve with time and potentially disrupt traditional banking models.
Given the obscene spending on AI, it is touted to provide a significant boost to productivity and do so at a much faster pace that previous technologies ever did. Whilst the fear with AI is an increase in unemployment due to workers being displaced by automation, Blackrock believes it will shift the makeup of the workforce rather than create unwanted unemployment to any great degree.
We see significant opportunities in regions outside the US. However, “US exceptionalism” is still strong and likely to continue for the foreseeable future. Therefore, whilst we would retain exposure to the US, we are tilting exposure to Europe and emerging markets for many of the reasons illustrated above from population demographics to defense and technology spending.
As we have seen from the latest earnings reporting cycle in the US, earnings continue to drive equity valuations. We continue to diversify our exposure through alternatives, bonds, and regional tilts whilst ensuring our portfolios can withstand market corrections and are positioned to take advantage of the changing macro drivers through this process.
As always, stay safe and stay well over this Festive Season.
“Continuity gives us roots; change gives us branches, letting us stretch and grow and reach new heights.” —Pauline R. Kezer
“Change is the law of life. And those who look only to the past and present are certain to miss the future.” —John. F. Kennedy