Fixed income is looking attractive again after last year’s excessive drawdowns, while for equities bottom-up stock selection is key, according to two executives from AllianceBernstein at a roundtable event FSA recently attended.
US Treasuries and German bonds lost 17% and 25% in US dollar terms last year respectively as the Federal Reserve hiked interest rates seven times in a bid to tame inflation.
While bonds have sold off recently due to sticky inflation in the US and the prospect of interest rates remaining higher for longer, nobody is expecting the same number of rate hikes this year and that stability is good news for bond investors, according to Scott DiMaggio, co-head of fixed income and director of global fixed income at AllianceBernstein.
“Whether it’s one, two or three [rate hikes], I’m not sure it matters all that much,” he said. “But what hurt the market last year was the constant guessing and the massive hikes. I think with that it’s going to help keep volatility in check.
“I think it is really set up for a nice environment where interest rates, the risk free rates, Treasuries can stabilise at around these sorts of levels and the spread product, the high yield/investment grade spreads are attractive.”
DiMaggio also noted that the consensus among most asset managers was to buy investment grade. This is a popular view, largely because of the expectation that when there is a sell-off in fixed income, investment grade is the first sector to bounce back. The prospect of a looming recession also hurts high yield.
But DiMaggio noted that there was a compelling case for high yield, at least in the US, pointing to the attractive valuations as well as fundamentals.
“We also want to make the case that US high yield looks attractive and I think there are a couple of reasons why,” he said. “Number one we’re starting at a much higher yield level. We’re 8% plus depending on what date you look at. Two, credit metrics in high yield are really off the charts strong.”
Regarding equities, Chris Hogbin, head of equities at AllianceBernstein, said that active management was the key as last year’s sell-off in risk assets creates a compelling opportunity to set up a portfolio that will deliver over the medium term, although persistent inflation and the prospect of a recession means not all companies will prosper.
“I don’t think this year is really the year about making big sector calls, of saying it’s tech versus financials or whatever pair you want to say,” he said. “It’s really about doing bottom-up stock research to find companies that are well-positioned to prosper in this environment.”
He conceded that while we have already witnessed multiple compression, we have yet to see a major downgrade in earnings.
“Arguably it puts us in a harder position than where we were in January because what you’ve seen is the market go up high single digits and earnings roll over further so you end up in a position where the market isn’t super cheap and there may still be more to come on earnings,” he said.
Regarding China, he said that it was best to avoid the temptation to buy things that suffered last year such as property or tech companies following the country’s reopening and instead emphasised value stocks, particularly in those sectors that are aligned with China’s long-term goals.
“I think one of the really interesting things in China, something we have been spending a lot of time with, is China’s net-zero commitment,” he said.
“Actually, if you look at a bunch of industries, or a bunch of the spend associated with that, it’s going to create some really interesting opportunities. Whereas China’s GDP may grow at 4% or 5%, sales of electric vehicles will probably be a few percent above that; green financing will probably be 20% above that.”
Regarding Japan, which has become flavour of the month again following the Bank of Japan’s surprise decision in December to lift the cap on 10-year government bond yields from 0.25% to 0.5%, he was less sanguine, although he noted that the prospect of meaningful corporate restructuring was also acting as a tailwind for the country.