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Written by: Erik L. Knutzen and Jeff Blazek | Nueberger | Berman
To get through the current environment, we think it is important not to chase the markets, but to let them come to you.
Meeting to discuss its fourth-quarter outlook recently, our Asset Allocation Committee (AAC) noted the high number of sizable market moves being caused by major central bank, political, geopolitical and market-positioning events.
These moves can be unpredictable, hard to position for or hedge, and all but impossible to time. They can also cut against one’s medium-term fundamental outlook. As a result, against a backdrop that we regard as generally favorable to taking risk, the AAC is also vigilant against becoming overexposed even to its most confidently held views.
Disruptive Geopolitical and Technical Dynamics
For example, we continue to believe the U.S. will achieve an economic soft landing, and are therefore concerned that long-dated bond yields may be too low. At the same time, we have become more cautious on commodities due to expected slowing global growth.
But we also know that the worsening Israel-Iran conflict—a fast-moving situation that may have deteriorated even since we wrote this—could continue to send investors surging toward oil, gold and safe havens, as it did last week. Our normative, core scenario on the U.S. could easily be upended by an event like the U.S. dockworkers’ strike, which had threatened to become a potentially market-moving shock to growth, inflation or both.
On the global growth outlook, China’s monetary stimulus and projected fiscal spending increase announced in the last 10 days is significant and likely appropriate for the challenges its economy is facing. That said, the AAC is waiting to see what its actual impact will be, and is yet to be persuaded it can truly turn its economy around. But that view couldn’t prevent a wave of inflows and short-covering from sending the CSI 300 Index up by 25% in a week.
A similar technical shock overwhelmed another of our key fundamental views earlier this year: We think Japan’s small- and mid-caps could be an outstanding long-term investment opportunity, given the significance of corporate Japan’s governance revolution; but the crowded yen carry trade was always lurking in the background, with the potential to trigger the kind of sell-off that Japan equities endured over the summer.
Moreover, disruptive geopolitical and technical dynamics are not the only source of unpredictability. While Friday’s strong U.S. payrolls data supported our U.S. soft-landing view, recent weeks have seen several other fundamental economic data releases, and even other jobs data, telling a different story. When the cycle is turning, individual data releases can often point in contradictory directions and send markets lurching.
Being Sensitive to the Risk Environment
To reiterate, this is not about the AAC predicting events; it’s about being sensitive to the risk environment.
Geopolitical tensions as high as they are now should not be ignored. When other market participants crowd particular trades, we’ve seen that even modest changes to policy or marginal economic releases can result in exceptionally outsized market moves. A very tight U.S. presidential election, a synchronized turn in the global interest-rate and business cycles, and the still-glowing embers of inflation only add to the unusually high probability of being blindsided.
We believe investing is not just about having views on the fundamental outlook. It’s also about implementing those views prudently—especially in an environment like today’s.
Be wary of crowded positions, even if they fit squarely with your fundamental beliefs. Where favored asset classes are the center of attention or look fully valued, we think investors should maintain moderate risk exposures and let short-term volatility create opportunities to add to positions, avoiding the temptation to chase markets, and instead letting them come to you.
Those who are secular bulls on Japan, skeptics on China’s growth or bears on long-dated bonds have benefited from such opportunities already. We would be looking out for substantial spread-widening in credit or a pullback in equity markets as similar opportunities to lean further into our fundamental views.
The 4Q 2024 Asset Allocation Outlook will be published later in October.
In Case You Missed It
- Eurozone Consumer Price Index (Flash): +1.8% year-over-year in September
- ISM Manufacturing Index: Unchanged to 47.2 in September
- Eurozone Producer Price Index: -2.3% year-over-year in August
- ISM Services Index: +3.4 to 54.9 in September
- U.S. Employment Report: Nonfarm payrolls increased 254k and the unemployment rate decreased to 4.1% in September
What to Watch For
Investment Strategy Team
- Wednesday 10/9:
- FOMC Minutes
- Thursday 10/10:
- U.S. Consumer Price Index
- Friday 10/11:
- U.S. Producer Price Index
- University of Michigan Consumer Sentiment