23 Nov 2021
Hear from Portfolio Manager Iain Cunningham on the current macro environment and how two diverging monetary policies have caught his attention.
For the past year, it has been a pretty constructive environment for markets in general and I think the portfolios that we manage have performed reasonably well. Post the COVID shock, they were quite overweight equity assets, credit risk and more growth-orientated currencies. However, that has begun to change as we look forward into next year.
The environment has started to change over the last six months or so. As we look forward, there are two main things that have made us quite a bit more cautious than we have been for the prior year-and-a-half. Firstly, China. We think that there has been significant tightening throughout the Chinese economy across both the credit cycle - through broader macro prudential measures – and then, obviously, all the impact of the regulation everyone is very well aware of. We expect China to surprise to the downside from a growth perspective over the next six-to-nine months.
Secondly, we are cautious about the Federal Reserve (Fed) and policy withdrawal. We believe the Fed appears to be somewhat behind the curve, given the strength of the US economy and the potential persistence of inflation, and we think the central bank has been progressively becoming more and more hawkish since June, which remains an ongoing trend.
Therefore, we are also somewhat concerned that the Fed will have to withdraw policy accommodation more quickly than the market expects and, so, a combination of weaker than expected growth in China, coupled with the Fed having to effectively withdraw liquidity – which has been a major support for markets for the past 18 months – has scope to create some volatility. With this in mind, we have certainly been pursuing a more cautious stance as we look forward.
Coming out of a period of significant quantitative easing could make it a volatile period for most assets and there is a risk that correlations can move towards one, with both fixed income prices and equity prices correcting at the same time. With that in mind, one area we see quite a lot of opportunity is in currency markets.
This is driven by the dynamic discussed above, where there is the potential for growth in China to slow more than expected, prompting the People’s Bank of China (PBOC) to ease at a time when the Fed is withdrawing policy accommodation. This means there is scope for a stronger US dollar, in a complete reversal to the pattern last year where it was the Fed easing and China being more orthodox.
The portfolios’ equity weights have come notably lower across the last six months, in particular. We have also seen some additions to fixed income; we have added some areas such as New Zealand and Korean government bonds and have already seen quite dramatic repricing in terms of interest rate expectations.
Within currencies, we have moved long the US dollar, as discussed above. This has predominantly been versus Asian currencies – the likes of the Taiwanese dollar and the Chinese yuan – and European currencies, including the euro and the Swedish krona.
All investments carry the risk of capital loss. The value of investments, and any income generated from them, can fall as well as rise and will be affected by changes in interest rates, currency fluctuations, general market conditions and other political, social and economic developments, as well as by specific matters relating to the assets in which the investment strategy invests. Environmental, social or governance related risk events or factors, if they occur, could cause a negative impact on the value of investments.
With Western central-bank policy normalising, economic growth rates diverging and global trade still readjusting to life after lockdown, investors have a complex environment to navigate in 2022.
Ninety One’s portfolio managers assess the outlook across their asset classes and regions.
Our team also takes a deep dive into the outlook for emerging markets, as well as into how sustainability will drive investment outcomes next year and beyond.