Nosebleed market valuations are starting to price in a choppier recovery than was initially expected – courtesy of COVID’s Delta wave – but stock prices remain a key risk, says MLC Asset Management’s Anthony Golowenko.
This was one of a few investment threats he discussed during a recent chat about the value of a multi-asset approach, particularly during periods of uncertainty and volatility.
On a related note, a slower than expected rise in consumer demand for “out of home” goods and services is another risk posed by the stuttering recovery.
“This transfer from 'on the couch' consumption to 'off the couch', which many of us in Australia are certainly looking forward to, is pivotal in moving to services that are going to underpin where we want to get to move in terms of full employment and wages growth, which remains some time away,” Golowenko says.
How can investors combat these risks?
He suggests the solution is to focus on the middle ground between stocks and bonds, what Golowenko terms “mid-risk assets.” In the following interview, he explains what these are and why they’re so appealing in the current context. Golowenko details three key areas many investors have overlooked alongside the three broad risks he and his team are countering.
Ally Selby: Markets around the world continue to reach new highs while bond markets have really shrugged off inflation concerns. Why do you think a macro view of the market is so important in this environment?
Anthony Golowenko: Thinking about four key forces that are pushing in on our central frame of mind which is the inflation outlook. So as you mentioned, equities are at or near record highs, reporting very robust earnings on average. We've got bond markets at or near record lows, where we've had considerable central bank influence. So central bank's both conventional and in particular unconventional policies are really pressing those yields to record lows. And all amongst that coming out of the pandemic, you've had fiscal taps certainly turned on. So all of those things, as I mentioned, are pressing on the inflation outlook, and that's where we're focusing.
Now, why we believe that to be relevant comes down ultimately to tailwinds, headwinds, and crosswinds that ripple right through the market. And I'll use the example of real yields and real cash rates. They remain at record lows and are having an influence on really elevating asset prices. So at MLC Asset Management, we have a proprietary Investment Futures Framework. We utilise that really to consider a wide range of potential outcomes and to position our portfolios to deliver both diversified, consistent, and importantly resilient outcomes, no matter what the future might be.
Are there any risks that you could see impacting markets and investors portfolios?
Well, I think the most obvious risk is valuation levels and asset prices. At MLC Asset Management, really what we're trying to do is judiciously deploy capital. Now where those valuations are elevated, where prices are higher, you tend to have a more amplified or magnified response to disappointments either in results or disappointments coming through earnings.
Using an example of the most recent reporting season, where a company could be delivering very strong, very robust earnings. If that's not meeting elevated expectations as a result of where those prices are starting from, you can see an amplified decline in price. And that's what we're seeing.
So really that is the first risk and it's probably not rocket science; the amplified risk due to elevated valuations and particularly optimism.
The next risk really is in this, what I'll deem the transfer or translation from 'on the couch' consumption around goods to 'off the couch', which many of us in Australia are certainly looking forward to. And it's that pivotal transfer from 'on the couch' to 'off the couch', moving to services that are going to underpin ultimately where we want to get to move to full employment, and also where we want to see robust wages growth, and that's some time away.
And the third one - and if I think about this period where we are now with elevated valuations - it's as simple as central banks. How are central banks going to navigate tricky signalling to markets? We may see some of that coming out at the end of this week in the Jackson Hole Symposium; some clues as to that tapering of quantitative easing. That has had a dramatic effect right across all risk markets and all asset prices. And that is going to be a multi-year process but it needs to be carefully considered and importantly well telegraphed to the market. So there are three risks that we're thinking about when positioning our portfolios.
Those are the risks. Are there any opportunities that MLC Asset Management has identified that you believe are currently being undervalued by investors?
Well, it's a difficult environment, as I mentioned. Valuations are quite high. So there are individual pockets that are interesting to us coming through the reporting season and out of the US, out of Europe, Japan, and locally now, as we're getting through reporting season. In the listed space, real estate investments and REITs are certainly something we see having appeal in that mid-risk category. And I'll use mid-risk to sit between equities and private equity, higher return, higher potential outcomes and traditional more defensive investments around fixed interest and credit.
Mid-risk assets, real estate investment trusts, focusing on underlying high-quality property, long leases. And what we like about that is delivering a foundation of regular income.
There's a rental escalation, which over time we see growing. I'll caveat that with more discretionary based big box retail where we're still seeing some risks there.
Expanding on that and probably taking a more global view in listed markets in the infrastructure space. We view that prices where they are, are factoring in what are a few wrinkles or a few warts if you like in that 'on the couch' to 'off the couch' services and leisure segment. But again, focusing on quality, focusing on some element of inflation protection. So we've got a usage, tolling or tariff that will keep pace and in some instances exceed inflation. Those sorts of investments are interesting to us.
And the final one, which is probably less so an opportunity and more something that's really useful in this environment, and that's diversification. For example, diversification in going global for growth style investments. We believe that foreign currency exposure is something that needs to be purposefully managed and very deliberate in those exposures. And should we see periods of uncertainty or volatility, that's a valuable cushion that we see as part of that diversified resilient portfolio.
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