With confidence returning that governments and central banks are handling global macro issues more effectively now, equity markets look particularly attractive, says Stefan Keitel of Credit Suisse.
The group’s chief investment officer also recommends overweighting real assets as a hedge against potential inflation, and selectively reducing allocations to fixed income.
This is despite the issues surrounding Cyprus and its potential bailout. “Cyprus is anything but a big contributor in terms of eurozone GDP growth. But we’re not so unhappy to see that kind of warning sign,” says Keitel, who oversees investments for the private banking and wealth management division. “It’s a strong reminder we haven’t solved the [debt crisis] and that policy failure is still possible.
“But trust is emerging that what is a nasty crisis can be managed from a medium- and long-term perspective,” he adds. “Cyprus won’t change that. There are tail risks, but they are shrinking.”
Nonetheless, if there were a fully-fledged, broadly based haircut on deposits in Cypriot banks, he notes, it would spark “huge nervousness” and may cause a bank run in Cyprus and potential contagion to other countries such as Italy or Spain. But he is confident a compromise will be negotiated to ensure that doesn’t happen.
Luca Paolini, chief strategist of Pictet Asset Management, is less sanguine. "The bail-in of depositors (above the €100,000 limit) and senior bondholders, as well as the introduction of capital controls, sets a dangerous precedent and will in all likelihood encourage deposit outflows from other heavily-indebted European countries at the very first whiff of trouble."
Turning to another topical issue, that of stimulus measures by various central banks, Keitel stresses that they should not simply comprise “a liquidity-pumping exercise for the next one to five years”. They must also come up with the right structural reforms to stimulate growth on a sustainable basis.
Still, focusing on growth is the correct approach for the time being, says Keitel. It’s not the right time to refocus on fighting inflation yet, he argues, although that time is likely to come by 2014/2015.
As a result, equity is the most attractive asset class for this year, he says, in both absolute and relative terms, due to central bank behaviour and lack of better alternatives. Keitel sees global stocks following a similar uptrend to that in 2012, potentially rising by 10-15% this year. Assuming a balance portfolio with 40% in equities, he recommends an allocation of 45%-plus in the asset class.
Keitel also favours an overweight to real assets – such as commodities, infrastructure, gold and property – as an inflation hedge, “to benefit from a potential pendulum swing from deflation to reflation”.
These overweights should come at the expense of cash and fixed income, he argues. With the current negative real yield scenario, there’s a need to preserve capital – "but that doesn’t mean you shouldn’t invest in fixed income at all; you need it for diversification”. But he proposes being underweight the asset class and shifting to shorter-duration bonds and related investments.
Sovereign debt – and other fixed income assets – are “overvalued, expensive and therefore unattractive”, but they’re not “dangerous” or in bubble territory, says Keitel. Central bank behaviour creates a natural cap on yields, he adds, so as long as they continue quantitative easing, yields won’t spike.
“When we look back at times when we were at these macroeconomic and inflation levels in developed economies, yields were much higher,” notes Keitel.
With regard to sub-asset classes in fixed income, he doesn’t foresee major capital flows coming out of high yield for the time being, despite widespread concerns that such bonds may be heavily overpriced.
“We know from history that what was and is expensive can stay expensive and get even more so,” notes Keitel. Hence it would be “extremely dangerous to take long-term short positions in the high-yield space”.
Meanwhile, emerging market debt remains attractive, says Keitel, thanks to the yield and carry component. However, it pays to be selective, he notes: “It’s not like you can talk about emerging markets all going up and down simultaneously now – it’s a much more granular story now."
He is “quite positive on Asian emerging markets, even China; rather neutral on Latin America after some disappointments in the past year or two; and neutral to underweight on emerging Europe”.
Yet the fact remains that some EM regions are “extremely thin and small”, so big players such as Credit Suisse can’t invest heavily in them for discretionary mandates due to liquidity constraints.
Asked his view on the Chinese leadership transition and its likely effect on asset values, Keitel says: “There seems to be the right balance between continuity and structural reforms. We know that sticking to the existing growth model in China may not be the right approach.”