In 2020, we expect markets to pivot between embracing and avoiding risk as they process muted economic growth, low rates and heightened political uncertainty.
We think 2020 will be characterized by muted global growth, a slower US economy and continued uncertainty about how monetary policy and politics will move markets. In this environment, investors should aim to keep their portfolios on track by having conviction and actively managing risk – not avoiding it.
Major political developments, including US President Donald Trump’s bid for a second term in office, are on the horizon. This will likely contribute to wide “risk-on/risk-off” movements as sentiment swings between riskier and “safer” asset classes. We expect low beta returns for the overall market, which makes pursuing alpha – in excess of market returns – all the more important.
Central banks will remain a major market driver in 2020, even as their efforts to spark economic growth become less effective and today’s ultra-low interest rates provide less room for maneuver. Facing dwindling options, central banks are likely to continue offering additional stimulus with limited effect. Governments may need to shoulder some of the burden by increasing spending, reducing taxes or both.
Unless they want to chase index performance in this up-and-down environment, investors will need to address risk in a deeper, more holistic way – for example, by focusing on climate change and other risks that a company may face as it produces its goods and services.
Incorporating environmental, social and governance (ESG) factors into investment decisions can help manage risks and improve return potential. So can thematic strategies that help investors align their portfolios with their convictions about how powerful long-term shifts triggered by innovation or regulation could create investment opportunities.
Below are the five focus areas that we have identified for 2020:
1. Risk-on/risk-off swings may mean flat beta returns.
In recent years, headlines about interest rates, politics, trade, climate change and other critical issues have caused wide market swings. Given the upcoming US elections, continued trade wars and the late-cycle global economy, we expect markets could be even more sensitive to news flow.
This will likely result in an increase in “risk-on/ risk-off” trades – moving toward higher-risk investments when economic and policy indicators improve, and toward “safer” investments when they fall. As a result, beta could stay suppressed and volatile, which we believe will make active investment management and asset allocation increasingly important.
2. Consider sustainable investing as a core part of investment approach.
We believe the investment industry is at a tipping point, with sustainable investing no longer seen as a trend but rather an essential consideration in how portfolios should be managed. Sustainable investing incorporates non-financial inputs, such as ESG factors, with the aim of generating sustainable outcomes as well as strong financial returns. It’s increasingly important for asset managers, companies and investors alike.
- Asset managers are driving capital towards sustainable companies and projects that address what investors view as some of the world’s biggest challenges.
- Companies are finding that seriously addressing issues such as climate change and executive pay can help them improve their competitive positions.
- Investors are seeing proof that ESG investing can help them manage risk and improve return potential.
- This widespread recognition of the importance of sustainable investing has translated into US$12 trillion of sustainable investing assets in the United States in 2018, according to the Forum for Sustainable and Responsible Investment – a rise of 38 percent over two years.
3. Strategic US-China competition is heating up.
The US-China trade war has already contributed to the growth of a “tech cold war” that is giving rise to two distinct ecosystems. Tensions between the two nations are also mounting over a range of other issues, including accusations of currency manipulation and objections to adding Chinese companies to benchmark indices.
The growing rivalry between the US and China could force countries and companies all over the world to choose sides. This may further interfere with the supply chains of global tech and consumer-goods firms, many of which already face renewed regulatory scrutiny.
Moreover, if the trade wars continue and China becomes less reliant on Western tech, its markets might even close to the West within the next five years. This would existentially change Silicon Valley’s business model, which relies on low-cost manufacturing from China and other Asian nations.
4. Threats to the oil supply and food security are growing.
While oil prices have been relatively stable recently – hovering mostly in the US$50-70 per barrel range in 2019 – geopolitical tensions in the Middle East could pressure the supply of oil. (The drone attacks at Saudi Arabia’s state-owned oil-processing facilities are a prime example.) At the same time, climate change is pushing more investors away from fossil fuels, potentially reducing the capital the industry can access for growth and investment.
The food supply chain is also more vulnerable than many realize due to trade tensions, abnormal weather patterns and disease outbreaks. Food-price inflation is one of the more serious “flations”. In some instances, it slows economic growth through wage inflation; in the most serious cases, it endangers lives.
5. Thematic investing helps align portfolios with powerful long-term shifts.
Investors are increasingly interested in areas of the economy that resonate with their values and interests – for example, developing new artificial intelligence (AI) technologies or managing resource scarcity. Thematic investments can help investors align their money with their convictions about how powerful long-term shifts – sometimes triggered by innovation or regulation – might provide not just investment opportunities, but new economic growth.
Thematic investments aren’t restricted to specific sectors, regions, market-cap sizes or benchmarks. This helps investors effectively capture disruptive companies and trends that could become tomorrow’s market leaders – and helps them pursue alpha in excess of market return.
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