As we head into 2020 and what’s in store for financial markets, we believe it worthwhile to first take a look back on 2019 and some of the key themes that drove market returns. We also look at whether they will remain key drivers as we head into the new year and what that means for our portfolio positioning.
Clearly 2019 was an exceptional year in terms of overall market performance across nearly all asset classes, whether it be equities, fixed income or property. A lot of investors are going into 2020 thinking that it will be exactly the same this year but that’s not our view. We believe that the performance we’ve seen in financial markets for 2019 is unlikely to continue at the same level in 2020.
There are four key themes that we’ve been focusing on as we head into 2020. First and foremost is geopolitical issues. China’s trade dispute with the US is ongoing. We’ve seen the stage one deal signed, but clearly there’s some further developments that need to take place through the course of 2020 in order for a more encompassing deal. We’ve also got the beginning of the end for Brexit. Even though Brexit has passed through the UK parliament, the EU have already indicated that it’s unlikely that a deal will be ratified with all trade negotiations agreed and implemented before the end of this calendar year. Then we’ve got the US presidential election, which is the big one. It’s unknown who Donald Trump’s going to be up against, but between Bernie Sanders, Elizabeth Warren and Joe Biden, it’s going to be very interesting as to who the democratic nomination will be. Finally, we believe the challenge for many countries is how they’ll tackle the weaponisation of their currencies in order to make them more competitive on the trade front. This all means the geopolitical framework is going to be quite challenging throughout the course of 2020.
So, what does that mean for economies and economics more broadly? The US economy continues to be the bellwether economy on a global basis. It experienced very solid performance through 2019 (ie. low unemployment, sound economic growth, strong financial markets etc), and in our view we expect this to continue through the rest of this calendar year. We don’t see a recession on the horizon in the US. Global growth more broadly has continued to moderate, but it has found some level of stability in recent period. Overall, we certainly think the outlook on the economic front remains relatively sound.
Inflation remains benign, and that’s particularly important when you think about interest rate settings and that leads into our third theme. In our view, central banks are on hold. We’re not expecting any increases in cash rates globally through 2020. We think the US Fed is probably going to sit on its hands for some period. It obviously was quite aggressive in reducing official cash rates through the course of 2019, which assisted the performance of equity and other financial markets.
On the flip side though, we expect the RBA to start to cut official cash rates through the first half of 2020 starting at its February meeting. We’ve obviously seen the impact of the drought and more recently the bush fires. In our view that’s going to have an impact on economic activity and consumer confidence. We expect two rate cuts through 2020 in regard to RBA policy with the potential that the RBA will introduce some level of quantitative easing (QE) via the purchasing of Treasury securities in the second half of the year if the cash rate gets down to 0.25%. So, it’s going to be an interesting period as it relates to RBA policy and the dynamics surrounding further monetary stimulus.
Accordingly, when we think about all of these issues in the context of how we’re positioning our portfolios, we still believe equities, both in an absolute sense as well as on a relative basis compared to defensive asset classes remains the best risk adjusted opportunity for investors. To this extent we continue to maintain an overweight position across most of our portfolios as it relates to equities over fixed income. We think bonds by and large have done a phenomenal job in terms of dampening portfolio volatility and certainly the absolute performance of the asset class through 2019 was solid. However, at present levels, we just don’t see the valuation metric stacking up for bonds as they do for equities, particularly when we’re expecting cash rates to remain relatively benign through the course of this year and certainly into 2021 as well.
Bond yields have rallied significantly over 2019. While we’ve seen a slight uptick over the last three month period, we don’t see that rally continuing domestically with the likelihood of further rate cuts already priced into the market. Nevertheless, we do retain some position in bonds as a defensive ‘balance’ to equities, in addition in maintaining a reasonable overweight exposure to alternatives as a further counterbalance to our equity exposures on the back of strong performance and higher multiples through 2019.
With 2019 behind us, it’s already been a really interesting period for financial markets so far in 2020. In addition, we’re heading into the reporting season domestically in February. This will give us another good read on both the recent performance and outlook for corporate Australia and provide some guidance as to the direction of financial markets going forward. As always, if you have any concerns or questions, reach out to your financial advisor.
Piers Bolger is Chief Investment Officer at Viridian Advisory
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