Welcome to our first CIO View in the new format. It will be published four times a year following the CIO Day where the global investment platform comes together to determine our strategic views for the next six to 12 months. We will be expanding our views on individual asset classes and our multi-asset strategy. In addition, we will review our strategic and quantitative strategies.
Our most recent CIO Day was overshadowed by the British referendum on European Union (EU) membership. The markets were shocked by the majority’s vote to leave the EU. Although this event is quite extraordinary on its own, the market reaction may be indicative of reaction patterns that could manifest more frequently in the future: 1.) A political event is underestimated by the market causing serious dislocations. 2.) Although stock-market indexes recover quickly, price reactions on a sector level are more divergent and persistent. 3.) Fixed-income markets react as usual: Insecurity leads to anticipating even more accommodative monetary policy.
These observations have been incorporated into our outlook. Although we do expect an accelerated economic recovery in 2017, we also assume political risks to increase and potentially have an impact on capital markets. However, central banks should continue to stand by in order to prevent major dislocations.
This short-term stimulus by central banks does, however, have drawbacks. Price distortions across all asset classes are increasing, ever more investors are venturing into ever riskier asset classes. It is a manifestation of these unusual times that all our price targets and investment ideas are directly tied to central-bank policies. We favor EUR periphery bonds despite low yields because the European Central Bank (ECB) is purchasing these securities. We favor EUR investment-grade bonds despite low yields because the ECB is purchasing these securities. We favor U.S. and EUR dividend papers due to the low interest-rate environment. We favor even Japanese stocks, because the stance of the Bank of Japan’s policy is extremely expansive. And we also favor high-yield bonds, despite higher risks, because they are the only ones paying out a coupon worth mentioning.
So we continue to rely on central banks: Whether they are the only ones to blame for low interest rates – U.S. treasury yields have been falling for almost thirty years – or whether concerns about structural changes in industrialized countries are also playing a role. For it does not really change the fact that our asset allocation and market views are firmly based on the assumption that we will not witness a rate-tightening cycle that deserves the name, in the traditional sense. This has led to the truly absurd situation that neither investors nor debtors can afford higher interest rates.
Stefan Kreuzkamp, Chief Investment Officer