Insight

Tactical Asset Allocation - November 2023

Tactical Asset Allocation - November 2023
Synopsis
1

Global growth momentum weakened across developed markets over the past month, while emerging markets are broadly stable. We remain positioned for a recovery in the global cycle.

2

We remain overweight portfolio risk in the Global Tactical Asset Allocation model1, favoring equities relative to fixed income, emerging markets, value, and smaller capitalizations. Overweight risky credit, neutral duration and underweight the US dollar.

Overweight risk relative to benchmark, favoring equities over fixed income and equity sectors, and styles with lower sensitivity to rising bond yields 

Our macro process drives tactical asset allocation decisions over a time horizon between six months and three years, on average, seeking to harvest relative value and return opportunities between asset classes (e.g., equity, credit, government bonds, and alternatives), regions, factors, and risk premia.

Macro update

Our leading economic indicators point to a weakening in the global economy over the past month, led by broad-based decelerations across developed markets while emerging markets were stable in aggregate. After several months of noticeable improvements, the United States reported some weakness in consumer sentiment surveys and manufacturing activity, while housing indicators and business surveys remain stable. Europe continues to lag. Recent economic data point to recessionary conditions in parts of the region, and bank lending surveys suggest the impact of tighter monetary policy is being felt across sectors, with loan demand weaker than expectations across mortgages, consumer credit, and corporate credit. However, leading indicators such as manufacturing production expectations, orders and inventories suggest a tentative trough in the cycle over the next couple of quarters. 

Global financial markets continued to deliver moderate negative returns across most asset classes over the past month, led by higher global bond yields and steepening of yield curves. Despite this noticeable repricing in the cost of capital, credit spreads remain stable, and emerging markets continue to perform in line with developed markets, broadly speaking, across equity and fixed income asset classes. Our barometer of global risk appetite continues to improve, still pointing to rising growth expectations as implied by the performance of riskier versus safer asset classes (Figure 1 and Figure 2). Overall, our macro framework points to a prospective recovery in the global economy, with the United States and Japan in expansion, given an above-trend growth level in these regions.

Figure 1a: Global macro framework remains in a recovery regime
Figure 1a: Global macro framework remains in a recovery regime

Sources: Bloomberg L.P., Macrobond. Invesco Solutions research and calculations. Proprietary leading economic indicators of Invesco Solutions. Macro regime data as of October 31, 2023. The Leading Economic Indicators (LEIs) are proprietary, forward-looking measures of the level of economic growth. The Global Risk Appetite Cycle Indicator (GRACI) is a proprietary measure of the markets’ risk sentiment. Developed markets ex-USA include the eurozone, UK, Japan, Switzerland, Canada, Sweden, Australia. Emerging markets include Brazil, Mexico, Russia, South Africa, Taiwan, China, South Korea, India.

Figure 1b: US and UK growing above trend, while Europe and China continue to decelerate
Figure 1b: US and UK growing above trend, while Europe and China continue to decelerate

Sources: Bloomberg L.P., Macrobond. Invesco Solutions research and calculations. Proprietary leading economic indicators of Invesco Solutions. Macro regime data as of October 31, 2023. The Leading Economic Indicators (LEIs) are proprietary, forward-looking measures of the level of economic growth. The Global Risk Appetite Cycle Indicator (GRACI) is a proprietary measure of the markets’ risk sentiment.

Figure 2: Market sentiment improving, pointing to rising growth expectations
Figure 2: Market sentiment improving, pointing to rising growth expectations

Sources: Bloomberg L.P., MSCI, FTSE, Barclays, JPMorgan, Invesco Solutions research and calculations, from  January 1, 1992 to October 31, 2023. The Global Leading Economic Indicator (LEI) is a proprietary, forward-looking measure of the growth level in the economy. A reading above (below) 100 on the Global LEI signals growth above (below) a long-term average. The Global Risk Appetite Cycle Indicator (GRACI) is a proprietary measure of the markets’ risk sentiment. A reading above (below) zero signals a positive (negative) compensation for risk-taking in global capital markets in the recent past.  Past performance does not guarantee future results.

The escalation of conflicts in the Middle East over the past few weeks has not translated, as of now, into sustained increases in energy prices, which was a risk we highlighted in our recent update. Since then, Brent futures prices have stabilized, and backwardation in the curve has also moderated. Our high frequency indicators of inflation momentum have also stabilized across regions, abating for now concerns of a supply-driven shock compounding with an already strong demand picture (Figure 3). Global yield curves continue to bear steepen and represent, in our opinion, the primary driver of recent underperformance across asset classes due to higher discount rates. 

Figure 3: Moderate inflation momentum across Europe, UK, and US
Figure 3: Moderate inflation momentum across Europe, UK, and US

Sources: Bloomberg L.P. data as of October 31, 2023, Invesco Solutions calculations. The US Inflation Momentum Indicator (IMI) measures the change in inflation statistics on a trailing three-month basis, covering indicators across consumer and producer prices, inflation expectation surveys, import prices, wages, and energy prices. A positive (negative) reading indicates inflation has been rising (falling) on average over the past three months.  

Investment positioning 

We implemented no changes to portfolio positioning this month. We maintain an overweight risk stance relative to the benchmark in the Global Tactical Allocation Model, being overweight equities relative to fixed income, favoring emerging markets, cyclical sectors, value, and smaller capitalizations with favorable momentum. We are overweight credit risk via lower quality sectors, maintain a neutral duration posture and overweight inflation-linked bonds vs. nominals. We maintain an underweight exposure to the US dollar (Figures 4 to 7). In particular:

• Within equities, we overweight cyclical factors with high operating leverage and a higher sensitivity to a rebound in growth expectations, such as value and smaller capitalizations, while we underweight defensive factors, such as low volatility,quality, and larger capitalizations. Similarly, we favor exposures to cyclical sectors such as financials, industrials, materials, and energy at the expense of health care, staples, utilities, and technology. From a regional perspective, we remain overweight emerging markets, supported by improving risk appetite and expectations for US dollar depreciation. We maintain a neutral stance between US and developed ex-US equities as growth momentum in Europe continues to weaken.

• In fixed income, we remain overweight in risky credit2 via high yield, bank loans and emerging markets hard currency debt, despite the recent widening in credit spreads. We expect volatility to remain subdued and credit markets to offer stable yields in a favorable macro backdrop. The case for credit assets remains limited to their income advantage over government bonds rather than capital appreciation. We have moved to an overweight exposure in inflation-linked bonds across developed markets on moderately positive inflation momentum (Figure 3).

• In currency markets, we underweight US dollar, as regimes of cyclical recoveries are typically accompanied by strong reflationary flows into non-US assets. However, yield differentials continue to widen in favor of the US dollar, providing headwinds to this bearish position on the greenback. Within developed markets, we favor the euro, the British pound, Norwegian kroner, Swedish krona, and Singapore dollar relative to the Swiss Franc, Japanese yen, Australian, and Canadian dollars. In EM, we favor high yielders with attractive valuations, such as the Colombian peso, Polish zloty, and South African rand, relative to low yielding and more expensive currencies, such as the Korean won, Mexican peso, Thai baht, and Chinese renminbi, but still expect these currencies to do well in a US dollar depreciation scenario.

Figure 4: Relative tactical asset allocation positioning
Figure 4: Relative tactical asset allocation positioning

Source: Invesco Solutions, November 1, 2023. DM = developed markets. EM = emerging markets. Non-USD FX refers to foreign exchange exposure as represented by the currency composition of the MSCI ACWI Index. 
For illustrative purposes only.

Figure 5: Tactical factor positioning
Figure 5: Tactical factor positioning

Source: Invesco Solutions, November 1, 2023. For illustrative purposes only. Neutral refers to an equally weighted factor portfolio.

Figure 6: Tactical sector positioning
Figure 6: Tactical sector positioning

Source: Invesco Solutions, November 1, 2023. For illustrative purposes only. Sector allocations derived from factor and style allocations based on proprietary sector classification methodology. As of September 30, 2023, Cyclicals: energy, financials, industrials, materials; Defensives: consumer staples, health care, information technology, real estate, utilities; Neutral: consumer discretionary and communication services.

Figure 7: Tactical currency positioning
Figure 7: Tactical currency positioning

Source: Invesco Solutions, November 1, 2023. For illustrative purposes only. Currency allocation process considers four drivers of foreign exchange markets: 1) US monetary policy relative to the rest of the world, 2) global growth relative to consensus expectations, 3) currency yields (i.e., carry), 4) currency long-term valuations.

Footnotes

  • 1

    Global 60/40 benchmark (60% MSCI ACWI, 40% Bloomberg Global Aggregate USD Hedged).

  • 2

    Credit risk defined as duration times spread (DTS).

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