Chief Investment Strategist and Chief Economist
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In a world of high correlations between asset classes, gold still offers potential diversification benefits
The Citi Private Bank Global Investment Committee reduced its overweight allocation to cash by 0.5%, adding a small tactical overweight to gold in the same amount.
The GIC left its global equities allocation neutral and maintained a 1.0% underweight to fixed income. Beneath the overall fixed income allocation, we have highly distinct overweights and underweights given wide divergences in bond yields across the world.
Ample global savings and $175 billion in monthly government bond purchases by three key central banks - financed with reserve creation - have pushed many sovereign bond yields close to zero or below. The plunge in world bond yields, coupled with slow but persistent economic growth and only isolated credit problems, has boosted risk assets.
Absent new shocks, this broad market “convergence” with near zero for developed market base rates might continue longer than many expect. With the rally, future returns are being reduced, while strengthening asset prices immediately.
The GIC believes the lengthy, if slow, global economic recovery is set to persist into 2017. With this as a backdrop, we maintain neutral or “full” allocations to global equities, while underweight negative yield sovereign bonds. Growing equity dividends provide a relatively attractive income source.
We also maintain significant overweights in US high grade credit, US and European high yield debt, though the sharp price rally in 2016 to-date might mean intermittent price corrections. Similarly, we maintain overweights in emerging markets credit and equities, seeing the best relative value in Latin America.
There are some early warning signs which counsel risk mitigation steps while maintaining broad investment exposures. US regulatory changes have caused a spike in LIBOR which represents a tightening in financial conditions for global borrowers. Banking surveys and bond market data suggest emerging stress in certain commercial real estate assets, away from the lingering effect of oil’s plunge.
With equities, fixed income, and regional market returns seeing an increase in correlation, the value of diversification is weakening somewhat. In contrast, gold and risk assets have maintained a significant negative correlation.
While higher real interest rates and greater confidence would represent a downside risk to the gold price and other such risk hedges, the much larger part of our portfolio allocations would benefit from such a welcome trend, if it were to emerge.