To manage risk in multi-asset strategies it’s critical to have a dynamic approach to asset allocation. Making short-term adjustments to asset exposures can help improve consistency of outcomes by balancing longer-term strategic considerations with prevailing market conditions.
We believe in a twin-track approach to tactical asset allocation, using a process that combines our proprietary quantitative (quant) models with fundamental research inputs from our dedicated multi-asset team. From an equity exposure perspective, two of our quant models—covering the equity risk and return environments—have seen significant changes over the first four months of 2022 (Display, above).
Equity Signals Weaken
Despite some improvement in April, the equity return signals had deteriorated since the Russian invasion of Ukraine. Some important equity return factors (for instance, corporate quality) remained stable. But other macro and option-based signals (notably inflation, measures of market risk appetite and stimulus momentum) worsened, as price pressures continued to rise, and as central banks reined in their monetary accommodation. That combination led to a reduction in our equity return model’s aggregate score and prompted consideration of lower equity weightings.
Our companion equity risk model oscillated throughout early 2022, but its aggregate score remained below zero. While signals such as realized volatility became increasingly negative, market momentum and options indicators were highly variable. Meanwhile our investor positioning signal was generally flat, but supportive of less market risk.
While quant is only one component of our asset allocation process, our models formed a foundation for our decision—supplemented by fundamental analysis of macro and market factors—to reposition many of our multi-asset strategies away from equities from late February through early March.
Positioning for Cloudy Markets
Our multi-asset strategies’ equity exposures are now generally tilted toward higher quality and commodity-producing equities. We see quality stocks’ more defensive characteristics and their lower sensitivity to rising interest rates as attractive in this volatile environment. And we expect commodity producers will continue to benefit from supply constraints and to provide portfolio defence should inflation surprise to the upside.
Recently falls in asset prices have also expanded income prospects for multi-asset investors. Within our income strategies, high-dividend equities remain one of our favoured sectors. Widening credit spreads have also created more attractive valuation opportunities within high-yield bonds—where the fundamental backdrop remains robust, with healthy levels of interest coverage and historically low default rates.
Elsewhere within our multi-asset strategies, we advocate a flexible approach to managing duration exposure as we anticipate yield volatility to continue, with central banks’ hiking rates and removing monetary support. We are generally positive on real assets in the near term because of continued elevated inflation, driven by supply chain challenges and the Russia-Ukraine crisis.