Outlook 2019 - Selectively opportunistic as the regime shifts

  • 25 Dec 2018

    As the unwinding of unconventional monetary policy continues, we remain cautious and focused on preserving our clients’ capital through defensive positioning, as well as leveraging our research capabilities to take advantage of opportunities as they present themselves.

    1. Caution is warranted as markets adjust to tightening financial conditions, however opportunities are available.

    2. Normalisation of monetary policy in developed markets will continue, requiring adjustment of risk premia in overvalued asset classes.

    3. Emerging markets may be a macro safe-haven, but could also continue to be impacted by volatility in developed markets.

    1. What is your investment outlook for [asset class] in 2019?

    The year ahead is likely to be characterised by the continued shift from quantitative easing to quantitative tightening, with increased structural volatility arising as a result. 2018 saw two significant spikes in volatility and an equity market sell-off, and we are remaining cautious on equity markets, however we don’t see a recession on the horizon.

    Of importance in the year ahead will be a focus on capital preservation, as valuations appear stretched and potential upside appears quite limited. In equities, emerging markets and Asia ex-Japan are becoming increasingly attractive, while a very dire outcome is priced into the Chinese market. We are seeing limited upside in fixed income, and are avoiding overvalued sectors, like European investment-grade bonds, and instead look to play defence.

    Overall, as rates normalise, income levels are starting to improve, but the transition to higher yields will not be a smooth one. As such, we look to continue on the path of adding defensiveness and reducing risk, while taking advantage of opportunities as they present themselves.

    2. What do you think could most surprise investors next year?

    One area that may surprise investors is emerging markets. After struggling through 2018, with a strong US dollar and rising rates acting as headwinds, they may surprise on the upside through prudent policy decisions. There has been much positive reform in emerging markets, and while this continuing would be a positive surprise, on the negative side we could see this negated by volatility in developed markets transmitting into the more vulnerable nations.

    Asia high yield bonds may continue to surprise into 2019, after struggling through much of 2018. If fundamentals remain strong and leverage moderates even further, we could see this asset class continue to be a positive addition to portfolios, especially relative to their European high yield peers.

    Given that the market has priced in a very negative outlook for Chinese equities, this could be another area that may surprise on the upside or downside. While it is difficult to see a rapid turnaround at this point, renewed stimulus from Beijing and a resolution to the ‘trade wars’ could see this negative trend reverse.

    3. How do you plan to capture the best opportunities?

    As we head into a new year that is likely to be characterised by a low return, higher volatility environment, alpha will be a key source of returns, with broad market exposure unlikely to persist as a source of attractive returns.

    We express our investment views by investing in highly-specialist underlying managers, and leveraging Fidelity Multi-Asset’s Manager Research team will be a key way to access the alpha generation of the best active managers.

    We will continue to be positioned defensively, using the full toolkit of hedges that we have available across equities, fixed income, and currencies. Exposure to defensive assets, such as US investment grade bonds and Chinese government bonds, will play an increasing role, as will exposure to alternatives, which we like for their low correlation to traditional asset classes.

    While we will be defensive, there will be opportunities that arise given the increase in volatility. However, we will focus on being selective with the risks we take, instead of adopting a broad-based risk-on stance. Areas hit hard by a difficult 2018 may begin to be attractive, and we are watching for attractive entry points in emerging markets equities and debt, for example.