The outlook for growth
Our portfolios are typically quite a bit growthier than their equivalent Morningstar category averages. One could argue that the Morningstar categories themselves are quite defensive – Morningstar’s balanced range is 40-60% growth assets, but many Australian “balanced” portfolios have 60% or more growth assets (80% or more is common for industry super funds’ core or balanced options).
Nevertheless, we do have more equities than the median manager in most of the Morningstar categories. Mainly that tends to arise because we invest in less credit, within fixed income, and thus tend to increase equities somewhat (as equities are correlated with credit, if you have less of it in your defensives, you can afford to dial up the risk elsewhere).
However, over the past year, we’ve sat somewhat defensively relative to our SAA weights, given our concerns over, well, everything that you might imagine. So our portfolios have fallen less than they would have with our neutral positioning.
Overall, that’s worked pretty well; despite having portfolios that are much growthier, we’ve only underperformed by a few basis points over the past year, relative to the more conservatively / defensively positioned median manager.
If we’d read the future perfectly, we’d have preferred an even more defensive stance, but on the whole, we didn’t expect inflation to get quite so high, nor rates to commensurately follow, and we also didn’t expect the Russian invasion of Ukraine, with all that followed.
Still, looking forward, rather than backward, it’s worth discussing how things look.
We really do think it will peak, decline, and return to trend. Tighter policy, COVID declining, and supply chains de-bottlenecking all support lower inflation. There’s plenty of data to show this; however admittedly the only one that counts is core inflation prints.
If we start to see some better data, the equity market will, we think, run and run hard.
We don’t want to go too defensive and have this happy outcome occur, leaving us behind.
It would give the FOMC members plenty of room to “pause or pivot”, and we feel the recent speeches from Lael Brainard give some weight to this view.
It would certainly set us up well for quite the “Santa rally”.
We are also very bullish on the outlook for bonds from here. They’ve caused us pain as we moved back to equal weight fixed income at yields of ~2.2%, which was clearly too early. We’ve been buying, in 30 – 40 bp increments, focussed on AGBs, where we have a healthy overweight.
That said, we are only 2% overweight fixed income at the DAA level, so it is hardly a huge position, but the point is we’ll add more as yields rise.
At a 4% interest rate, bonds will be a fantastically meaningful contributor to returns in the future, with the prospect of material capital gains should inflation decline, as outlined above.
A hard landing predicated on higher inflation and higher rates should mean growth and inflation expectations decline. Our suffering bond exposures should switch from “zero to hero”, smoothening returns and acting like a defensive again.
A soft landing, predicated on weaker inflation and lower rates, should mean equities rally quite hard.
Whilst it might not leap out at you, from the above, the outlook is actually quite good for the multi-asset portfolios.
As a typically “growthy” manager, we’ve been only slightly under peers over the past year. Combined with an excellent track record, we should look forward to much better relative returns in either scenario.
And that seems like a good message to lead with, given how relentlessly changing (and challenging!) markets have been.
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