FW: RHB FIC Strategic Allocator - "Time to Stay Defensive in 2018" - 19/12/17

 

 

 

19 December 2017

 

 

Quarterly Strategic Allocator

 

 

Time to Stay Defensive in 2018

 

Highlights

 

¨   Cycle Stage: While the growth momentum improved throughout 2017, political developments have played a crucial role in particular for developed markets, creating both upside risk in Europe and downside risks in the US. Despite being acknowledged by investors, a political risk reversal is unlikely to emerge in the US while populism in Europe could still remain a source of concern. Additionally, geopolitics will continue being a major driver on financial markets with the escalating tensions in the Arabian/Persian Gulf and Middle East, as we already highlighted in June, and posing a major threat to the world stability (and commodity prices) given the complex diplomatic and economic relations between regional countries and the US, Russia and China. Lastly, the outlook for sovereign creditworthiness in 2018 appears stable. Despite high debt constraining fiscal reforms, credit upgrades and stable/positive outlooks increased in 2017. However, lingering risks for the US outlook persist in regards to its commitment to fiscal discipline in time of continuing economic expansion.

¨   Central Bank Stance: The supportive global growth backdrop led to an adjustment in expectations of monetary policies and rhetoric changes for most central banks. However, the risks of an export normalisation, more excessive than anticipated, could dampen the growth outlook, with little room to manoeuvre in terms of monetary policies. The future of those monetary policies is even more dependent on inflation. The economic-recovery-less-inflation scenario is playing out as we expected and contrary to central banks' explanations we are sceptical on increasing price pressures as wage growth stagnates, further threatened by a technological/digital revolution exponentially progressing. The central banks' clear communication does limit the risks of financial market disruptions but a too aggressive tightening by the US Fed could lead to a market correction when assets are at historically elevated levels.

¨   Risk Appetite: The EM story has turned from a yield hunting trade to a fundamental one. While, the growth momentum in advanced economies supported emerging countries along the way, Asian stellar performances can also be attributed to the Chinese economic rebound and improving fundamentals in the region; EM resisted to the Fed's hikes and stronger currencies did not harm exports. Idiosyncratic risks do exist with the Chinese deleveraging reforms and risks of growth normalisation.

¨   Flows & Technicals: The US Dollar reversed in 2017 as we identified through a cyclical and technical approach although it did earlier than our anticipations. Despite this one-year correction, the greenback still remains overvalued, finds little fundamental catalysts to support it in the medium-term horizon and technicals advocate for further downside pressure. As such, the USD is expected to enter a second year of structural decline. As a result and against the improving fundamental backdrop, EM assets are likely to remain well supported most of 2018.

¨   Fixed Income Asset Allocation: We prefer to maintain a rather defensive view given the emerging risks on the external front as we have summarised in the previous page. In terms of duration, we remain neutral as major central banks are gradually trying to push interest rates higher. However, the benign inflation outlook should contain the upside risk while tactical opportunities will continue to be sought on yield hunting behaviour when yields tick up. We upgrade our EM allocation to neutral as (i) fundamentals constantly improve alongside a proven resistance to external factors such as FFR hikes and (ii) as the Dollar remains on a weak footing.

 

 

 

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