By: Defred Folts III, Managing Partner, Chief Investment Strategist & Eric Biegeleisen, CFA, Managing Director, Research
- Additional monetary stimulus from the Fed combined with accommodative monetary policies from both Europe and Japan provide the potential catalyst for risk assets to appreciate further and the global economy to begin to stabilize and possibly reflate, at least for the short-term. While U.S. equities remain overvalued, non-U.S. equities such as Developed Asia and Europe are showing more favorable risk-adjusted projected returns and remain undervalued relative to the U.S. While trade and tariff discussions have de-escalated somewhat, the outlook for Emerging Market equities remains uncertain due to slower growth in China.
- With the increased potential for an equity reflation, our research indicates the risk of interest rates rising shorter-term could lead to a decline in the value of longer duration bonds. Consequently, the model’s preference in fixed income is towards short-term U.S. Treasuries and short-term Credit.
- Although Gold continues to have a positive outlook from low real yields (nominal yields less inflation), should nominal yields rise more quickly than inflation expectations, i.e., a rise in real rates, then gold could suffer a temporary setback. The outlook for Commodities remains negative, although less so as the potential for a global economic slowdown have diminished somewhat in the near term.
Since the financial crisis of 2008, a widening valuation gap has developed between U.S. large-cap growth stocks (S&P 500 index) and equity indices outside of the U.S. Our model research indicates that additional monetary stimulus from the Fed (three short-term interest rate cuts thus far in 2019 along with the recently announced balance sheet expansion of an additional $60 billion per month of U.S. Treasury Bill purchases) combined with accommodative monetary policies from both Europe and Japan provide a potential catalyst for risk assets to appreciate further and for the global economy to begin to stabilize and perhaps even reflate, at least for the short-term.
This provides an opportunity to rotate into non-U.S. equity asset classes, specifically Japan and Europe equities, that have not only underperformed the U.S. equity markets but also represent more reasonable valuations and more favorable risk-adjusted projected returns. While history demonstrates that overvalued markets can become even more overvalued before correcting we believe that U.S. equities would represent greater downside risk than non-U.S. equities during the next market correction. While Emerging Market equities could also potentially benefit in a reflation scenario, the nascent de-escalation of global trade tensions between the U.S. and China may be short-lived and bears further monitoring.
With the increased potential for an equity reflation, our research indicates the risk of interest rates rising shorter-term could lead to a decline in the value of longer duration bonds. Typically, as interest rates rise, the value of fixed income securities declines. Consequently, the model’s preference in fixed income is towards short-term U.S. Treasuries and short-term Credit.
Although Gold continues to have a positive outlook from low real yields (nominal yields less inflation), should nominal yields rise more quickly than inflation expectations, i.e., a rise in real rates, then gold could suffer a temporary setback. The outlook for Commodities remains negative although less so as the potential for a global economic slowdown have diminished somewhat in the short-term. Additionally, as is the case for EM equities, the potential for a partial yet successful U.S.-China trade resolution appears possible but requires further monitoring.
Although the Federal Reserve lowered short-term rates recently, Cash & Equivalents remain reasonably attractive on an absolute yield basis.
ABOUT 3EDGE ASSET MANAGEMENT
3EDGE is a multi-asset investment management firm that utilizes a proprietary model to analyze market valuation metrics (long-term), economic forces (medium-term), and investor behavioral factors (short term) that we believe drive the global capital markets. Our team of professionals draws on decades of investment management experience and their research in quantitative methods, including system dynamics, machine learning, artificial intelligence, and multi-player game theory to seek to identify undervalued and overvalued asset classes across the globe that may be poised to enter a period of market outperformance or underperformance. While we aim to generate attractive risk-adjusted returns, we also prioritize risk-management in an effort to limit portfolio declines for our clients, particularly during periods of extreme market disruptions. Our clients include individuals, family offices, institutional investors, and registered investment advisors.
CHANGE TO ASSET ALLOCATION ACROSS MAJOR ASSET CLASSES (TRAILING 12 MONTHS)
3EDGE GROWTH STRATEGY
3EDGE TOTAL RETURN & ESG STRATEGIES
3EDGE CONSERVATIVE STRATEGY
DISCLOSURES: This commentary and analysis is intended for information purposes only and is as of November 4, 2019. Allocations shown above reflect target allocations for the 3EDGE Growth, ESG, Total Return and Conservative Strategies (the “Strategies”) as of the date the allocation change was made and individual investor allocations may differ. This commentary does not constitute an offer to sell or solicitation of an offer to buy any securities. The opinions expressed in “View from the Edge” are those of Mr. Folts and Mr. Biegeleisen and are subject to change without notice in reaction to shifting market conditions. This commentary is not intended to provide personal investment advice and does not take into account the unique investment objectives and financial situation of the reader. Investors should only seek investment advice from their individual financial adviser. These observations include information from sources 3EDGE believes to be reliable, but the accuracy of such information cannot be guaranteed. Investments including common stocks, fixed income, commodities and ETFs involve the risk of loss that investors should be prepared to bear. Investment in these Strategies entails substantial risks and there can be no assurance that the Strategies’ investment objectives will be achieved. Past performance may not be indicative of future results. *Short-Term Fixed Income and Cash includes cash, cash equivalents, money market funds, and fixed income funds with an average duration of 2 years or less. Intermediate-Term Fixed Income includes fixed income funds with an average duration of greater than 2 years and less than 10 years. Real Assets (Gold & Commodities) includes precious metals such as gold as well as investments that operate and derive much of their revenue in real assets, e.g., MLPs, metals and mining corporations, etc.