With recent months having proved challenging for investors, we have been rebalancing the InvestEngine Managed portfolios to meet the ongoing economic headwinds during the final quarter of 2022.
Inflation remains a key focus for markets as central banks continue their battle with the rising cost of living whilst increasing interest rates.
In the US and UK, the latest inflation readings are 8.3% and 9.9% respectively. Both are still far above the central banks’ long-term inflation targets. Inflation is also running above target in Europe at 9.1% where the ECB has begun raising interest rates much later than other central banks.
We have moved to an overweight position in US equities following this year’s market falls. The US is better positioned to weather a recession than other regions, and any recession in America would be milder than the UK and Europe.
With an interest rate path that is much closer to completion than other economies, the possibility of an economic soft landing is also higher in the US than elsewhere.
That said, we have taken the opportunity to cut exposure to growth stocks in the US, further reducing our holding in the tech-focused Nasdaq market and liquidating our Russell 2000 (US smaller companies) position.
With the pound having fallen to a historic low against the US dollar, we have also increased our exposure to currency-hedged ETFs, meaning that should the pound bounce back this will not dilute the underlying market performance for our portfolios.
We are maintaining our exposure to the UK despite the challenging outlook. However, we are wholly invested in the FTSE 100, whose global businesses are much less affected by UK economic problems than the more domestic-focused FTSE 250 index.
Europe’s economy remained resilient for the first half of the year despite inflation eroding spending power. However, as the energy crisis has intensified and inflation risen further we have reduced our exposure to the region. We believe Europe is in worse shape to weather a recession given its heavy exposure to the conflict between Russia and Ukraine, while potential inflation surprises could trigger larger than anticipated interest rate hikes by the ECB.
Either energy disruption by Russia or a sovereign debt crisis in Italy could easily send Europe into crisis and force the ECB to revise its rate hiking course.
While many investors will be more aware of the poor performance of stock markets this year, bond markets have also been hit hard - in some cases even harder than shares. For example, while the MSCI All Countries World index is down 23.9%.year-to-date, the FTSE UK Conventional Gilts index has dropped 25.0%.
Lower bond prices are starting to make bond yields look more attractive again (bond prices and yields move in opposite directions) after years of very low rates from fixed income. The traditional 60/40 portfolio (60% equities, 40% bonds) which is currently having its worst year for nearly a century, could become worth revisiting again.
While we are sticking with our fixed income weightings for now, we continue to monitor the yield environment closely.
Date of data: 04/10/2022
Source Bloomberg