Standard Life Investments

Tactical Asset Allocation

We build our funds including bonds, equities, commercial property and other assets looking over a 12 month time horizon. Our decision-making sequence is first to consider the outlook for each asset class (e.g. Government bonds), followed by views within that market (e.g. the US versus Europe, or the European core economics against the peripheral countries. This table shows our more and less favoured markets around the world.

November 2018

Government BondsWe see most government bonds as expensive when inflation and interest rates are slowly rising in many countries, although some markets are attractive enough to overweight.Neutral
UK GiltsWhile the economy is slow growing, the Bank of England is still warning about future interest rate increases.Neutral
US TreasuriesMost, but not all, of the Federal Reserve’s expected interest rate increases have now been priced into the market. Overweight
European CoreWhile the economy is expanding steadily, the ECB has signalled it will halt its Quantitative Easing in 2018 and start to raise interest rates in 2019; it remains a good funding source.Underweight
European PeripheryThe spread between peripheral and core European government bonds is quite wide but we are cautious in view of political risks. Neutral
JapanJapanese government bond yields are very low compared with other markets, still held down by very strict yield curve control from the Bank of Japan despite the new flexible target.Underweight
AustraliaThe market is well supported by slower domestic economic growth and China’s deceleration; we see this as a useful defence against an adverse global growth scenario.Overweight
UK Index Linked NeutralReal (inflation adjusted) yields are the lowest (least attractive) amongst major developed economies. Inflation expectations have been fully priced into this market. Neutral
US TIPSThis market provides downside protection as and when investors look for a safe haven, as well as a degree of protection against any future inflation surprises.Overweight
Corporate bonds
Investment GradeECB easing has driven European yields to unattractive levels and political risks remain heightened. US credit spreads are now tight and provide little protection should Treasury yields increase further.Underweight
High Yield DebtUS bonds no longer offer attractive returns relative to Treasuries on a risk-adjusted basis. European spreads fail to provide sufficient value. Neutral
EquitiesHigh single digit profit growth globally provides fundamental support at a time of relatively depressed investor sentiment. Overweight
UKThe UK trades at cycle low valuations so we are now neutral. Brexit weakness would support the equity market via a lower pound. Neutral
USMarket supported by healthy macroeconomic conditions and tax cuts which will continue to boost company profits. The domestic exposure of many companies lessens impact of any trade tensions, tempered by valuations and positioning.Overweight
Europe ex. UKBroad economic expansion and relatively attractive valuations supportive for corporate profits. However, currency appreciation and peripheral political risks continues to restrain interest in stocks.Overweight
JapanAttractive as easy monetary policy and fiscal stimulus are helped by efforts to improve corporate governance, share buybacks and business investment, although yen strength periodically remains a concern.Overweight
Developed Asia ex. JapanVulnerable to policy tightening in China and worries about trade tensions, but a relatively inexpensive market keeps us neutral. Neutral
Emerging Market EquityAsset class has discounted much of the China trade risks. Valuations have improved and investor positioning is more attractive. Overweight
PropertyWe have a preference for Real Estate Investment Trusts rather than direct investment in commercial property globally. Overweight
UK The real estate cycle is at a mature stage and limited further capital growth is expected. Income remains attractive, although risks are elevated should the UK enter recession or political uncertainty surges.Neutral
USVacancies are low across most sectors and markets, although the sizeable retail sector is coming under more pressure from the rise in e-commerce. Neutral
EuropeSupported by stronger economic growth and low levels of new supply while valuations are helped by the cautious ECB policy stance. Overweight
CommoditiesWhile commodities are supported by the improvement in global growth, they are very sensitive to Chinese policy tightening; some commodities such as oil face an uncertain demand/ supply balance.Neutral
Other assets
Foreign Exchange The major currencies are within normal valuation ranges. The yen acts as a diversifier against the risk of a decline in global activity. Long-term factors support the euro but technical factors are a headwind.Overweight ¥, Underweight £, €, $
Global Commodities While the slow improvement in global growth supports commodities, they are very sensitive to Chinese policy tightening and some commodities, such as oil, face an uncertain demand/supply balance.Neutral
Cash and CurrencyWith global interest rates still extremely low we still see better opportunities in risk assets. Underweight
DollarStrong US growth, Fed tightening and weaker global growth from trade tensions mean an overweight dollar position is a diversifier against our equity and EM positions. Overweight
EuroPosition acts as a proxy hedge to EM exposure, and concerns over Italy and European politics in general. Underweight
YenTraditionally a safe haven currency, position helps the portfolio by acting as a diversifier if global activity declines.Overweight
SterlingBrexit represents a bimodal risk to Sterling with low conviction on the outcomes of a very uncertain process, while valuations also encourage a neutral stance. Neutral

Key Issues

The world economy looks set to grow quite robustly in 2018, but the differences between faster and slower growing countries are becoming more apparent. The most positive news comes from the US, where tax cuts, government spending and more confident businesses supporting employment and investment all suggest a strong recovery into the summer and solid growth into 2019. On the other hand, Europe and China are seeing slower growth, if still quite solid by past standards. The Chinese government has begun to tackle some of its debt burden, while political uncertainty in Italy is affecting EU business sentiment. Businesses in both countries are concerned about the possible fallout from the more protectionist noises that emanate from the White House - even if the sums involved are not yet large enough to impact sharply on activity.

Despite this backdrop, we still see a favourable outlook for corporate profits, as revenue growth and productivity gains offset rising costs. As long as inflation remains low, and hence central bank tightening remains moderate, then a pro-risk approach is indicated. The House View is overweight in global equity markets, with the exceptions of developed Asia, given concerns about the potential extent of China’s slowdown, and the UK, where political uncertainty is undermining business profitability.

Fixed income markets are responding to a variety of signals: tariffs talk, political stress, and mixed reports about the pace of economic growth and inflation in the various economies. We are still wary about most bond markets; the Federal Reserve has indicated that it will tighten monetary policy steadily, and the ECB has announced that quantitative easing will end in 2018 and interest rates rise in 2019. Our portfolios are underweight in most government bonds, on valuation grounds, except some European peripheral markets. We prefer inflation-linked bonds as a precaution against any inflation surge.

Within commercial real estate, we have taken steps to neutralise our positions across all the major regions. Although global property remains an attractive asset class in a world of moderate growth, valuations mean that the bulk of future returns should come from rents. We maintain a small overweight position in European ex-UK REITs, as the region should benefit as the domestic economic growth environment improves. Generally, we prefer offices and logistics to the retail sector, which remains under structural pressure from the inexorable rise of e-commerce.

Among the major currencies, we hold a small overweight position in the Japanese yen and favour underweight positions in sterling, the US dollar and the euro. This partly reflects cross-border capital flows, partly valuation measures, and partly to act as a diversifier. For example, the yen usually benefits when investor uncertainty falls and provides protection due to its characteristics as a longer duration asset.

Where foresight meets conviction

Whatever your involvement in the financial markets, you will understand that they present ongoing, never-ending challenges. That’s why we’re focused firmly on the future - anticipating and identifying the next compelling investment opportunities for our clients.

Our House View provides a clear, forward-looking strategic direction for our investment decisions. It’s the crux of all our investment insights, taking into account the many factors that shape the outlook for the major asset classes. It ensures we have a consistent approach to managing market risk across our product range, and acts as a bedrock for the decisions our investment teams take on a daily basis.

How the process works

House View process

The Global Investment Group remains focused on a pro-cyclical stance favouring risk assets. However, as valuations have become more extended and the economic cycle has matured, portfolios have sought diversification in specific asset classes.