Three factors driving markets for mixed-asset investors

With UK politics now firmly settled upon a new course, we note that over half the entire global population will have a similar opportunity in choosing its future political leaders this year. Electorates in many countries are growing tired of established party policies, opening the door for populists to gain a share of power with promises of easy fixes for complex problems.

Just as election results may well change many lives this year, they could also prove consequential for investors in areas such as fiscal and monetary policy, inflation, international trade and broader geopolitical relations.   

Interpreting the macroeconomics is key

As a mixed-assets portfolio manager, it is critical to identify and try to understand how these factors may affect different asset classes. In the short term, the impact of most elections is highly unpredictable, as manifesto promises can often evaporate after polling day. As a result, we focus on the fundamental and longer-term drivers which can often be far more significant. These drivers can clearly be shaken by political shocks, so we believe it makes sense for investors to harness the flexibility and adaptability of mixed-asset strategies that can identify opportunities in the face of such uncertainty.

US dominance

Around 60% of global equity markets, by value, are listed in the US. The US economy also makes up around 25% of global GDP, so it is understandable that its elections have the potential for outsized influence on investment portfolios. In many important aspects, however, such as fiscal positions or geopolitical considerations, the outcome of the US presidential election in November this year is unlikely to result in many significant changes, even though the candidates differ in their approach to areas such as immigration, Russia’s invasion of Ukraine, or energy policy. More importantly, the scale and dominance of US equity markets over recent years is the result of generous returns sustained by an era of loose monetary policy and a reassurance that authorities would be likely to intervene to smooth out the worst impact of a sharp downturn in economic activity.

US debt burden

After several years of support, the US now has an unenviable debt burden of more than 121% of GDP. Pandemic aside, this is almost double the level of the previous cyclical peak in the mid-1990s (around 65%). The outlook is also uncertain, with an ageing population likely to place a compounding burden on key welfare costs. We expect these costs to far exceed economic growth and tax revenues. One key US medical provider said recently that it expects health care to account for an additional 2% of US GDP annually by 2044.  

Many might argue that this does not matter too much because the US dollar remains the dominant global currency of trade and wealth. To date, those who want to trade with the largest consumer economy globally have had little choice but to accept payment in US dollars. They would then also have little alternative but to invest their dollar profits in US assets (US government bonds and stocks).

US dollar hegemony under threat?

This is a circularity that has supported the US currency, market valuations and ever-increasing public debt for decades. However, the dollar’s hegemony appears to be under threat as other global powers take an increasingly political stance, often at odds with the US’s own foreign policy. The huge scale and increase in wealth of China and India’s middle classes suggest there are now alternative consumer markets for manufacturers to pursue. The emerging economies of two decades ago are now economic powerhouses in their own right and increasingly asserting their stature as new global trading patterns emerge. 

While the US remains the pre-eminent global economy and leads the world in technological development, threats to its global dominance are emerging thanks to the trifecta of political change, indebtedness and competitionbetween global powers, as identified by our big government, financialisation and great power competition investment themes.

What does this mean for mixed-asset portfolios?

It is tempting to view higher bond yields (combined with easing inflation) as offering an attractive invitation to invest more in the asset class. However, higher yields can also reflect renewed recognition of the future risk that investors face as the scale of the debt burden comes home to roost. For us, this is a longer-term issue. In the meantime, we believe the higher yield on offer from bonds means there may be opportunities to use them as a tactical risk hedge in volatile markets.

In equities, meanwhile, the US market has become narrowly led by a handful of mega-cap stocks, with ten firms comprising 30% of the S&P 500 index. This is largely thanks to enthusiasm for artificial intelligence, which has the potential to be truly transformative both to existing processes and new innovative possibilities. However, as always, it is important to retain perspective when constructing a mixed-asset investment portfolio, and to try to maintain exposure to transformational trends. We believe this must be considered as part of a further diversification of assets and we remain cognisant that such material tailwinds can fade over time.

All this points to why we believe it makes sense for investors to consider a global mandate, which enables asset managers to pursue opportunities without being tied to asset class or index constraints. Newton’s multidimensional research team identifies and monitors the thematic drivers that shape markets and the outlook for individual firms to identify compelling opportunities, irrespective of location.    

Authors

Simon Nichols

Portfolio manager, Global Opportunities team