There are significant risks on the horizon, but we believe opportunities are emerging.
- Investors are now focused on the forthcoming US presidential election
- The UK’s negotiations with the European Union (EU) over trade and security are coming into sharper focus
- The pandemic has underscored how interconnected the world has become
Before describing the risks that lie ahead, it is worth flagging that on the Real Return team we are relatively upbeat. We do not underestimate future challenges or obstacles, but we firmly believe the pandemic is creating opportunities for investors. But first, let’s look at risks on our radar right now.
Political Risk Is Rising
Beginning with politics, it is clear that, until comparatively recently, the pandemic’s consequences for the real economy and financial-asset prices have overshadowed the US presidential election. But now investors are focused on November, and post-election volatility is expected to be higher if Donald Trump narrowly loses and contests the result.
Outside the US, Europe faces a second wave of Covid-19 infections, and some areas are going into lockdown again. Despite the seriousness of the situation, we do not believe a viral resurgence and the subsequent political response will be as severe as it was earlier this year. Turning to the UK, while Brexit has been somewhat sidelined this year, in our view it does deserve more attention, particularly when we consider how both sides handle the trade talks.
Interest Rates – Lower for Even Longer
In terms of interest rates, we expect them to remain close to zero. Policymakers have said they are going to keep rates on hold, or even go negative, beyond 2023. Economies could be allowed to run a little ‘hotter’, and arguably a touch of inflation could be a good thing.
Living with Uncertainty
The events of 2020 have underscored how interconnected the world has become. So we will probably have to live with more surprises and a greater degree of uncertainty in future. However, it is reassuring that central bankers and policymakers have acted constructively and quickly. Without a healthy financial economy, you can’t have a robust real economy – the two go hand in hand. As long as the decision-makers remain alert, we believe it is right to have some confidence.
Resilience Is Being Tested
There is, though, one effect of the pandemic that is now front and center in the mainstream narrative, and that is its impact on wellbeing and people’s resilience. The financial industry faces its own challenges, given that many employees are operating in isolation. And, more than ever, investors themselves need to focus on making the right decisions.
For that to happen, we firmly believe investors should consider products managed by a team and managed dynamically and flexibly, as there will be many more twists and turns in the journey we are taking. We think that sticking to a particular asset class or a specific style may be unwise – especially when policy responses could trigger inflation over the longer term.
We think that portfolios exposed to companies with a responsible approach towards governance, the environment and society will probably be better placed over the long term. For example, businesses that have not signed up to the UN Principles for Responsible Investment or the Paris Accord may struggle to raise capital in future.
In the alternatives area, we believe it is vital to avoid ‘black boxes’. Exercising caution in relation to areas such as private equity and hedge funds, where it can be difficult to understand what is going on underneath the surface, is in our view always a sensible strategy.
The Opportunities
Returning to the environmental theme, we see particular value in solar infrastructure. It is a growing area that is attracting an increasing number of investors, who are also attracted by the sector’s ESG (environmental, social and governance) credentials.
In relation to income, we think it will be important to focus on companies with sustainable and growing dividends. Obviously, most bond markets are not providing much income right now, but if the US dollar weakens this should boost emerging markets, and investors can potentially harness some yield from these countries’ currencies.
Ultimately, we believe protection comes from being prepared for a range of scenarios, and having confidence in every security in your portfolio.
Authors
Suzanne Hutchins
Portfolio manager, Real Return team
Any reference to a specific security, country or sector should not be construed as a recommendation to buy or sell this security, country or sector. Please note that strategy holdings and positioning are subject to change without notice.
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