Chief Investment Strategist and Chief Economist
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We continue our very gradual shift away from risky assets
On 21 July, the Citi Private Bank Global Investment Committee (GIC) reduced its allocation to global equities by 0.5% to neutral, left its underweight to global debt at -1.0% and raised its tactical cash overweight by 0.5% to +1.0%.
Beneath these very broad allocations, the GIC continued to shift up emerging markets (EM) relative to developed markets (DM) in both equities and fixed income.
The GIC continues to expect equities to provide stronger future returns than fixed income markets on an absolute- or risk-adjusted basis, as our relative weightings imply. A full one third of global sovereign bond yields are now negative while two thirds of all investment grade debt – including corporate securities – now offer a yield of less than 2%. This benefits equities, highlights the difficulty of investing in “defensive” assets, and favors using derivatives for hedging.
Negative-yield bonds comprise the bulk of our global fixed-income underweight. However, large yield divergences in fixed income represent a continued opportunity. US high grade debt (corporate and municipal) remains our largest overweight. Today, we further cut a variety of Euro-denominated fixed income allocations after substantial yield declines and reinvested in EM fixed income in Asia and Europe, the Middle East and Africa (EMEA). We are now overweight in Latin America (hard currency and local), local Asian bonds, and neutral EMEA.
Globally, we believe equity income offers more favorable relative value in comparison to fixed income. However, in light of the strong recent rally, “full” or neutral allocations now appear more appropriate. The 7.5% year-to-date return for large cap U.S. equities roughly matches the scope of the U.S. corporate earnings recovery we expect for the coming year. In contrast, the GIC raised EM equities in Latin America to a modest overweight in the commodity-linked Andean markets of Chile, Colombia and Peru (with Mexico and Brazil neutral).
The US Election suggests political and economic risks beyond the confines of Europe. Of the 11 post-World War II US recessions, eight have overlapped a new U.S. president’s first year in office. It is easy to overstate causality, yet the observation highlights that policy uncertainty and political transitions can be disruptive. While the US economy has shown signs of a more sustainable capacity to grow in 2016, we continue to see it in the later stages of a business cycle recovery.
Given its negative correlation to risk assets, we continue to eye an appropriate entry point for a tactical overweight in gold. We pause as we believe markets somewhat underestimate the probability that the US Fed resumes raising US short-term rates, boosting the US dollar.