Posted inAsset Class in Focus

Pictet builds cash holdings

Pictet Asset Management is reducing equity exposure and raising cash holdings as the expected US rate hike approaches.

The firm’s liquidity readings suggest riskier assets may be in trouble, said Luca Paolini, the company’s chief strategist, in a research note.  

“Future monetary tightening in the US, even if it proves to be gradual, could have a negative impact on global liquidity and put a cap on stocks,” said Paolini.

Paolini said tightening money supply in the US due to expectations of an interest hike by the end of the year could herald a bout of volatility.

The company’s credit impulse readings, which use changes in the flow of credit to predict shifts in levels of loan activity, are down in the US and Japan, presenting a potential risk to growth.

“Our other sentiment signals are broadly neutral although flows suggest investors remain under-invested in stocks,” said Paolini.

Pause in equities

Retail investment flows into equities were $40bn this year, in contrast to $110bn into bonds.

Paolini believes the equities rally in key markets this year was due for a pause, citing price-to-earnings ratios well above the long-term norm, especially in the US where equities trade close to 18 times 2015 earnings.

“Low bond yields have supported equity valuations but for stocks to rise from here, earnings growth needs to improve and we have yet to see signs of that,” he said.

Paolini said weaker momentum in China was another worry, but thought there were signs the slowdown in economic growth may have bottomed out.

Nonetheless, Asia-Pacific ex-Japan equities are downgraded due to the slowdown in China, which could become a drag on its Asian trading partners, the firm said.

“Full overweight” European equities

Pictet maintains a preference for Japanese and European stocks, upgrading the latter to a full overweight.

“The allure of European stocks has increased now that Greece and its creditors are progressing toward a new bailout deal that should keep the country in the euro zone,” said Paolini.

“As the uncertainty surrounding Athens has lifted, a more positive light is shining on the region while valuations have become more reasonable following the correction of the past few months.”

The firm remains underweight US equities. The combination of historically high profit margins and a strong US dollar suggest that US companies will find it difficult to boost earnings over the medium term.

As for fixed income, European high yield bonds were raised to neutral.  European sovereign debt, however, was scaled back to neutral from overweight to on valuation grounds.

EM debt overweight

Pictet retains an overweight position in US dollar-denominated emerging market debt.

“The asset class has proved resilient even as worries over the outlook for emerging market growth have intensified. This, we believe, is in part a reflection of favourable supply and demand dynamics,” said Paolini.

The expected net supply of US dollar emerging market debt over the remainder of 2015 is below $1bn while net investment inflows into the asset class have remained in positive territory.

“We expect these favourable technical trends to remain in place over the short to medium term. We don’t expect the US dollar to appreciate much further from here against key developed currencies.”

Part of the Mark Allen Group.