Market Perspectives May 2020
Welcome to the May edition of “Market Perspectives”, the monthly investment strategy update from Barclays Private Bank, which is also available to download as a PDF [PDF, 680KB].
Financial markets have recovered somewhat following a sharp sell-off, with the level of COVID-19 infections and timing of any vaccine dominating sentiment.
Equity and bond markets seem to be taking radically different views on inflation expectations. Valuations in the former suggest a quick, strong pickup in activity, and presumably inflation. However, those in bond markets hint at a long period of low inflation. The difference matters. Given the uncertainty, hedging against inflation by investing in inflation-linked debt or gold may make sense.
The strong rebound in stock markets may reflect overoptimistic sentiment, given the uncertainties over the pandemic and size of the coming recession. While equities are unlikely to revisit March’s lows in the short term, we expect them to take a breather and let fundamentals resync with valuations. As such, diversification should assume more importance to eke out returns.
Meanwhile, emerging markets had the second largest monthly outflow of capital since October 2008 in March as investors fled from risk assets. While emerging market debt valuations may seem attractive, spreads are elevated and the asset class may face heightened volatility for some time. As such, asset selection is likely to assume more importance than usual.
The sight of the oil price in negative territory for the first time in April and a very steep oil curve highlighted the extreme nature of the supply and demand issues facing the industry. Oil producers are unlikely to cut supply sufficiently soon. Meanwhile while uncertain in quantity, the demand destruction the pandemic will cause is likely to top any supply cut implemented.
Government debt is set to soar in order to fund measures being taken to resuscitate the economy. That means that less money may be available to tackle climate change risk. But the risk remains. The challenge facing investors is to position portfolios for the transition to a low-carbon economy while being aware of the fresh opportunities created by the extra government spending.
Jean-Damien Marie and Andre Portelli
Co-Heads of Investment, Private Bank
Japanification or high inflation?
The COVID-19 induced recession may lead to lower prices as a result of weaker activity and excess production capacity on the economy. The effect of sharply lower commodity prices may also depress inflation. With financial markets taking divergent views on inflation prospects, how can investors hedge their portfolios from the risk of an era of deflation and low growth?
Time for a break
Stock markets have rebounded strongly since March but remain highly volatile. That said, expected earnings downgrades for this year appear reflected in valuations. However, much optimism is discounted in prices, with sentiment so much driven by the prospects for a vaccine. With this in mind, how might investors position their portfolios?
Emerging market debt: action stations
Emerging market debt might be worthy of consideration for investors, with their yields appearing attractive. That said, the outlook for global growth is worsening and the economic effects of the pandemic are affecting emerging markets unevenly. Volatility in financial markets is also likely to persist. For investors considering the asset class, selection will be key.
Oil and gold markets diverge
With the oil price sliding and piling the pressure on producers, how long might it take for a sustained recovery in the price? Meanwhile, as gold recaptures its diversification benefits as the price climbs and risk-averse investors return to the commodity, what next for the commodity?
Merger arbitrage: spreading the love
Hedge funds had a difficult start to 2020 with their average return in March worse than seen in the Great Financial Crisis. That said, as the economy faces a recession in the wake of the coronavirus outbreak, might merger arbitrage strategies offer one way to improve returns while diversifying portfolios?
A time to invest in distressed debt?
A sharp, but likely relatively brief, recession appears to be beckoning as the coronavirus pandemic hits growth prospects. Meanwhile financial markets are showing signs of stress with volatility soaring recently. Asset classes often move in lock step with each other at times of stress. At such times, might distressed debt funds offer a way to diversify a portfolio?
Does climate change still matter?
In the face of the coronavirus outbreak and its potential effects on growth and government policy, some may question the importance of climate change on portfolios. This is a danger. How might the outbreak affect the transition to, and opportunities available in, a low-carbon world?
Looking beyond the headlines
Financial markets recovered strongly in April after March’s violent sell-off as more becomes known about the COVID-19 pandemic and its effects. However, elevated levels of market volatility are likely for some time. What can investors do to focus on positioning for the long term rather than worrying too much about the short term?
Multi-asset portfolio allocation
A recession seems more likely as COVID-19 quarantine measures persist in much of the world and hit growth prospects. In fixed income, we favour developed market government bonds and emerging market debt. Meanwhile, dovish policy should underpin developed market equities. We are cautious on high yield bond prospects, with default rates rising.
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