A world of increased uncertainty over fiscal situations is leading to a market more conducive to fixed income and international equities, says Indrani De, head of global investment research at FTSE Russell.
The firm’s most recent asset allocation insights report found a global market that’s seeing steepening yield curves amid economic uncertainty brought on by U.S. tariff policy.
Read: Growing risk concerns pushing institutional investors to private markets: report
“We continue to remain in a world that is very uncertain, where growth and inflation dynamics are different across primarily the U.S. and Europe.”
Efforts to de-escalate trade tensions have contributed to what the report described as a broad risk-on mood but policy uncertainty and resultant downside risk remains elevated. In terms of particular asset classes, she adds, there’s a greater role for fixed income, alternatives such as infrastructure and gold and international equities including emerging markets.
“Many fixed income investors are essentially looking for income yield, which the long-end yields are good and because inflation, broadly across the world, is coming under control, [the] stock-bond correlations have dropped from their highs in the [coronavirus pandemic], meaning fixed income is again providing the ballast to equity.”
The report found U.S. equity underperformance has been driven by valuation compression, but current price-to-earnings ratios and real yields show the trend could continue for the rest of the year. Companies with negative earnings revisions increased in April due to trade tensions and the resultant risk to earnings made several analysts change their estimates. There were fewer negative earnings revisions in May.
Read: 59% of global institutional investors consider investment managers strategic partners: survey
Increased trade-tension escalation could restart the acceleration of downward earnings revisions, creating another downside risk to the entire equities segment. De notes the report established conviction patterns on different assets depending on the timing of capital flows, with European equities becoming a leader in the last three months. “Within equities, money is going more into defensive sectors like utilities. You have money going more into commodities and alternatives.”
Returns from private assets, like infrastructure, have remained on par with returns seen from some categories of equities, she says. Over the past 12 months, equities and infrastructure saw similar returns at 14.5 per cent and 13.5 per cent, respectively.
“[These asset classes are] almost head-to-head, but infrastructure’s correlation to equities is a fairly low 0.4 per cent, which means as an asset class infrastructure is giving very comparative total returns.”
Read: PIAC, ACPM asking federal government to bring back real return bonds