Union Investment Committee confirms equities overweight
- Second coronavirus wave brings short-term risks for the economy and capital markets
- Positive news about a vaccine offers prospect of an end to the pandemic
- Spread products still overweighted-, ‘safe havens’ remain underweighted
RoRo meter still at 3, Risk positioning remains neutral
After deciding to raise the equity weighting at an extraordinary meeting in mid-November, the Union Investment Committee (UIC) confirmed all existing weightings in the model portfolio at its regular meeting on 23 and 24 November. The committee is therefore taking a slightly bullish position. The risk strategy remains neutral (RoRo meter at level 3). This positioning is driven mainly by the combination of current coronavirus-related risks, the anticipated final breakthrough in the development of a vaccine, and monetary and fiscal stimuli. While the pandemic has recently worsened again, a growing number of pharmaceutical companies have been announcing surprisingly positive results from their vaccine development studies. This means that an end to the coronavirus crisis is now in sight. Together with fiscal and monetary policy measures, this prospect is already providing support for risk assets.
The political blockages that currently still exist are another factor in the analysis of market opportunities, but these blockages are likely to be progressively cleared. In the US, the main parties are expected to agree on an extension of the contentious economic stimulus package by as early as the start of January. With regard to Brexit, a rudimentary trade agreement remains possible despite the shrinking window of opportunity. And the EU 27 are ultimately likely to reach agreement on the final sticking points in order to protect their own fiscal interests.
Second coronavirus wave brings short-term risks
The pandemic will continue to dominate conditions for economic growth. In recent weeks, the rise in new infections in North America and Europe has been slowing the upward trend that had emerged in the third quarter. But the picture differs significantly from that during the first phase of the pandemic in the spring. Instead of a blanket approach, the current containment measures are much more targeted. The manufacturing sector, for example, is not affected by the current restrictions. National borders have remained open. And not all sectors of the economy are weakening in equal measure. The US economy, in particular, is proving resilient despite the expiry of fiscal support measures and should be able to weather the intervening period until a new stimulus package is adopted. Progress in the development of a vaccine is offering a more realistic prospect of a general improvement in the pandemic situation – which, in turn, would lay the foundations for an enduring and sustainable economic upturn. But the economic boost from broad access to a vaccine is not expected to kick in until the summer of 2021 at the earliest.
Union Investment’s economists have adjusted their forecasts in light of these developments. They do not expect the eurozone to return to pre-crisis levels of economic output until some point in 2022 at the earliest, whereas the US could be back in pre-crisis shape by the end of 2021. China constitutes an exception, as it is actually seeing a V-shaped recovery. Our economists expect that in the fourth quarter of 2020, the Chinese economy will already be experiencing similar growth rates to those seen before the crisis.
Monetary policy: ECB to extend programme in December
The UIC believes that monetary policy makers are likely to respond to the deterioration in the external environment with further expansionary measures. The European Central Bank (ECB) will probably take the first step. Union Investment’s economists predict that the bank will extend the duration of its PEPP asset purchase programme. In order to ensure that this decision does not result in a de facto cut in the level of monthly purchases, the volume of the programme is likely to be increased as well – despite the fact that the currently approved scope should be sufficient. The Fed, on the other hand, will probably not announce any adjustments until the situation regarding the transition of government in the US has been resolved.
Chart in focus: vaccine news triggers major sector rotation
Positioning within the asset classes
Fixed income – spread segments have little more to give in the short term but retain their strategic appeal
The central banks’ generally loose monetary policy, their purchase programmes and the negative yields on safe-haven bonds continue to provide crucial support for paper with a risk premium. But following a strong rally in recent weeks, further upside potential in this segment is limited in the short term. Issuers have taken advantage of the upbeat primary market environment to obtain additional liquidity. The significant wave of rating downgrades by the rating agencies is expected to diminish. Central bank actions and the current lockdowns are slowing down the general rise in yields on safe-haven government bonds. Discussions about debt relief for weaker emerging markets are likely to intensify, which will limit the potential of EM bonds despite the fact that spreads remain attractive.
Equities – emerging markets currently favoured
Equities continue to be supported by expansionary monetary policy and the negative-interest-rate environment. As news about the development of vaccines emerges, hopes are growing that the coronavirus pandemic can be overcome. Cyclical sectors that had been hit hard by the coronavirus pandemic enjoyed an uplift as part of a pronounced sector rotation. Unlike Europe and the US, Asia – the most important emerging markets region for equities – is seeing only modest rises or even falls in the level of new infections. And the economies of China and other Asian countries such as South Korea are continuing to stabilise. The recently ratified Regional Comprehensive Economic Partnership (RCEP) is likely to further stimulate growth in the region over the medium term.
Commodities – hedging against coronavirus
News concerning the development of a vaccine has reversed the fall in the price of oil. Although fundamentals remained weak, the price of North Sea Brent Crude recently rallied strongly.
The forward curves are flattening and a normalisation in the physical markets over the course of 2021 is being priced in. A realistic prospect of overcoming the pandemic in the foreseeable future should also enable the OPEC+ countries to ramp up production again. China remains the driving force in the market for industrial metals. Imports and production picked up significantly in response to ‘classic’ stimulus measures. Gold is still supported by strong demand from investors faced with persistently negative real interest rates in the US.
Currencies – US dollar likely to remain weak
The ‘Biden split’ scenario that emerged as a result of the US election could persist beyond the run-off election in Georgia in early January. On the one hand, the UIC expects that uncertainty concerning trade will diminish and that the rhetoric towards China will shift to a more moderate tone. But on the other hand, fiscal consolidation will prove challenging. The US dollar will remain under pressure from the worsening twin deficit in the US, the Fed’s increasing tolerance of inflation, and the shrinking difference between real rates of return in the US and those in other countries. At the same time, the euro will continue to benefit from the prospect of further steps towards fiscal union and greater integration at European level in general. Pound sterling has scope to appreciate in light of the possibility of a trade deal being agreed between the UK and EU.
Convertibles – bouncing back strongly
Following a downturn in the last week of October, the convertible bond markets performed very well in November. Equity market sensitivity rose to around 54 per cent and valuations remained fair. In Europe and Asia, issuers from the aviation and tourism sectors became more active in the primary market. In the US, IT companies were the most active issuers.
As at 24 November 2020