Investors must adapt to a different environment in 2018, according to leading asset manager Unigestion.
The Geneva-based company has released a new research paper titled “What happens when the music stops?”, explaining why factors behind 2017’s robust returns are unlikely to continue into the new year, when the era of low inflation is expected to end.
Guilhem Savy, Head of Macro and Dynamic Allocation for Cross Asset Solutions, advised investors to be “cautious” and “prudent” moving forward as he expects central banks to make monetary policy less accommodative.
He said: “Historically, when the central bank decides to tighten, the correlation between assets, and mainly between bonds and equities, changes not dramatically but significantly and this correlation will affect asset allocation in general, mutual assets in particular, and that is something we monitor in our product."
He added: “We will prefer to explore the portfolio in alpha rather than beta because beta should suffer a bit from less accommodative monetary policy. Secondly, if the central bank decides to change their music, fixed income and several bonds will suffer a lot. We expect negative return from fixed-income products.”
Savy credits 2017’s stellar performance and higher returns to global growth, low undershooting inflation and accommodative financial conditions. However, he expects the Phillips Curve to kick in given low and improving labour markets in the US and across Europe, resulting in higher wage growth. He adds that subsequent higher commodities will lead to a rise in inflation, forcing investors to step to a new rhythm. So is he worried?
“Worried is a bit strong,” he said. “There is some explanation to justify last year’s performance, but if we look at 2018, some of them will not necessarily disappear but will be less supportive, and the main one for us is monetary policy as December illustrated when the Fed maintained its belt tightening.
“We expect a significant change from the Bank of Canada and the same from the Bank of Japan, and this change to a less accommodative monetary policy should affect asset return as is the case historically when monetary policy is tightening across the globe.
“Our point is not to say we expect negative return like in 2013, when the central bank surprised the market a bit, because we suppose that the central bank has learnt a lot from this period and improved their communication to the market in the past five years.
“But market investors are used to performing with supportive monetary policy. That will change next year and we expect for the first time since 1994 a negative return from fixed-income products and that negative return could limit the upside for risky assets like equities and credit spreads. These kinds of assets perform with double-digit returns but we expect high single digits, so we are not worried, just more prudent for the new year.”
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