Chris Leyland, True Potential Director Of Investment Strategy, looks back on the key themes around the True Potential Portfolios over the past month.
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Financial markets have had several factors to contend with in the first 4 months of 2022, notably, war in Europe, rising inflation, slowing economic growth and Central banks tightening monetary policy. The environment provides a continued reminder of the importance of portfolio diversification across asset class, geographical location, industry sector and investment manager style.
At True Potential we believe this is the correct way to construct investment portfolios to meet financial goals, we do this by partnering with some of the largest asset managers in the world. We are active fund managers, continuously working to manage risks and to identify opportunities for investors.
Whilst it is easy for current factors to dominate sentiment and views, it is important we take a longer-term approach.
Below we distil our outlook into several key areas.
The rate of economic growth we are seeing is expected to cool but remain healthy.
Economic growth remains supported by strong corporate and household balance sheets. A desire to spend / invest supported by healthy labour markets (US 1.8 vacancies for each available worker) and supportive financial conditions. Covid-19 appears less of a concern in the developed world but continues to create challenges in China, this is having a continued impact on global supply chains.
Whilst we see economic growth moderating, we are not anticipating a significant slowdown in 2022. There are regional nuances, Europe and the UK face higher risks driven by headwinds to growth, with higher energy costs curtailing consumer demand and proximity to conflict in Ukraine.
Inflation remains a risk to be managed.
Record breaking inflation continues to focus attention (US 8.5% and UK 7.0% CPI). We believe globally the rate of increase in inflation has further to run given the strength of demand. There is regional nuance to this view. In the US we believe this peak will come in the first half of 2022. In Europe and the UK, we believe the peak in inflation is into the second half of 2022. The reason, expect energy and commodity prices to remain elevated as a result of the Ukrainian conflict and reluctance from OPEC+ to increase production despite pressure on energy prices.
Supply chain disruption is exacerbated with key provinces in China under restricted activity measures to manage Covid-19 infection rates.
In this environment, real assets including infrastructure and gold continue to provide attractive properties, within both capital and income solutions.
Central banks to continue with monetary policy tightening:
There is more of a willingness to raise interest rates across developed market Central banks as they tackle higher inflation, at the same time reducing balance sheets which expanded significantly to support economies through the pandemic. They face a challenge of increasing interest rates in the face of slowing economic growth, although we acknowledge they will be alert to incoming data.
Regional differences are evident. In the UK consumers are acutely impacted by higher energy prices, interest rates increases may not be as aggressive as the market is currently expecting.
Europe faces similar pressure, but with a symmetrical framework allowing tolerance to over and undershoots of inflation relative to target. The European Central Bank have taken a less hawkish approach which has been acknowledged by the market with fewer rate interest rate increases expected.
In summary, our portfolios are positioned with the following in mind.
- Overweight equities – In an inflationary environment and one in which corporate earnings remain robust, household balance sheets are robust, labour markets are tight and economic growth remains positive are in place. However, recognising the rate of economic growth is slowing, we are seeing a gradual rotation from cyclical into defensive equities with stronger cashflows. This is a theme across both capital growth and income solutions.
- In a rising yield environment (nominal / real) and one we anticipate energy and commodity prices to remain elevated vs history, we prefer value as a style relative to growth.
- Continue to reduce fixed income – Within sovereigns bonds our preference is for shorter duration paper. We acknowledge the benefits of longer dated sovereign bonds as a downside mitigant in risk off environments. In credit we have a greater preference for higher yield credit over investment grade but recognise selective opportunities as valuations improve.
- Commodities remain attractive, given the demand backdrop and supply bottlenecks we expect to prolong, given the conflict in Ukraine and lack of capital expenditure boosting supply.
- We remain positive on alternative assets – they have worked in 2022 providing genuine diversification with a low correlation to traditional assets.
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