Luca Paolini, Pictet Asset Management
While concerns grow about the slowing momentum in economic recovery, fixed income investors should look to allocate to China government bonds.
“The asset class is enjoying significant inflows, which are set to accelerate as authorities allow foreign investors greater access to the market and as Chinese debt becomes a bigger feature of global bond indices,” said Luca Paolini, chief strategist at Pictet Asset Management.
This is a compelling opportunity in a world where yields are already ultra-low – and often negative, he added. “Attractively-priced bonds are in short supply.”
Cautious on credit
This is particularly notable at the moment – for the first time ever, the yield on US high-yield bonds is below inflation.
As a result, Pictet AM continues to be underweight US high yield credit; it considers this the most expensive fixed income asset class in its model.
“We are more optimistic on US Treasuries, which look attractive relative to other developed market government bonds,” explained Paolini
But where the firm sees the most potential is in Chinese government bonds. China is also the only sovereign bond market to score positively on technical, according to the Pictet AM model.
Elsewhere, it is broadly neutral on major currencies versus the US dollar.
Managing rising inflation
Given the outlook for the macro environment, meanwhile, the economic momentum from recent months and fuelled by vaccine rollouts is beginning to ease as central banks are readying to scale back monetary stimulus amid rising price pressures.
In line with this, Paolini sees a less favourable mix of growth and inflation, tighter liquidity conditions and high valuations for riskier asset classes. “[These] lead us to maintain our neutral stance on equities.”
More specifically, the firm is underweight economically-sensitive, including consumer discretionary stocks.
It is also underweight US equities due to valuations. “The US market has only been more expensive than it is currently 16% of the time – and lingering question marks over the persistence of the post-pandemic inflationary spike,” said Paolini.
Geographically, he believes Asia ex-Japan equity markets are attractive from a strategic standpoint.
“The region is forecast to grow at twice the rate of the rest of the world over the next five years with a lower inflation rate,” he explained. “Also, the relatively conservative monetary and fiscal response to the Covid crisis means that economies in the region have more policy headroom.”
As a result, undervalued currencies and equity valuations that appear reasonable when adjusted for superior growth should help Asia stocks outperform in the coming year.