In search of bright spots in 2021

Ken Peng Head of Asia Investment Strategy, Citi Private Bank

2021 is the second year of a new business cycle, as the global economy recovers from the deepest and sharpest recession on record thanks to the pandemic. Vaccinating the global population is progressing and accelerating, as world authorities figure out distribution logistics. In the US, for example, we expect one half of the population to be vaccinated by the middle of the year.

In this backdrop, we expect equities to continue to do well, albeit at a slower pace compared to 2020. Cyclical industries like travel & leisure, energy, consumer services, industrials and financials are likely to outperform. We also like Latam and Asia among EM equities, as well as UK among DM equities.

Much of the positivity comes from the Fed and its global counterparts providing an unprecedented amount of monetary stimulus, bringing interest rates to record lows. The Fed had explicitly stated that it would like to see inflation sustainably higher than its targeted 2 per cent before unwinding stimulus. The substantially higher government debt incurred during the pandemic would also likely cap interest rates, keeping US Treasury yields below inflation in the coming years.

For income-oriented investors, we suggest to look into areas of fixed income (FI) that still have decent yield and can take advantage of the economic recovery, such as high-yield corporates and EM debt. Asian FI still trades at a relatively wide credit spread over US counterparts and we expect this spread to narrow. Local currency debt, such as CNH denominated bonds, can help to diversify USD exposure and earn positive carry. Stocks that sustainably pay dividends are also critical parts of an income portfolio.

We overweight equities, particularly in non-US markets like EM and Europe. We underweight fixed income, particularly in sovereigns and investment grade bonds in DM, while overweighting high-yield and EM debt. We maintain a position in gold as a portfolio risk hedge.

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Over the past few weeks, we're seeing some volatility in FX and equities, as there had been very strong consensus positioning to short the USD and long equities. This crowding is a result of substantial monetary stimulus mentioned above. We see these periods of consolidation as eventual opportunities to add to our favoured assets.

Our top conviction ideas are global travel & leisure equities and interest rate swaps to fix borrowing costs and take advantage of yield curve steepening.

Kelvin Tay Regional Chief Investment Officer, UBS Global Wealth Management

High government debt levels, societal calls for higher government spending, and reduced demand for capital in a digital world mean real interest rates are likely to remain at very low levels for the foreseeable future.

Moreover, the move to average inflation targeting frameworks indicates that central banks will tolerate moderately higher levels of inflation. As a result, we think cash and high quality bonds will deliver a negative real return over the long term.

On average, we expect 2.2 per cent annual nominal returns in US dollar high grade bonds and only slightly positive total returns in euro and Swiss franc bonds over the next 15 years. Such low potential returns, as well as the reduced ability of high grade bonds to provide meaningful positive returns during equity drawdowns, suggest that investors should instead look to credit and alternative assets.

Total returns in credit are likely to be lower than in the previous decade. But given that many central banks have added credit to their purchase lists, and in light of the very low yields in government bonds, we think credit should continue to play an important role in portfolios.

We anticipate that both default rates and spreads will decline below past averages as a result of low yields globally. We expect annual returns of 4.9 per cent both for US dollar high-yield credit and for emerging market US dollar sovereign bonds, and we forecast that US investment grade credit will return 2.7 per cent.

We expect muted long-term economic growth in developed markets due to ageing populations and high debt levels. Corporate net margins also face pressure from potentially higher taxation and minimum wages, political and security considerations, and tighter environmental regulations. We think multiples should be well-supported due to low interest rates, and we note that risk premiums are higher than historical norms.

Using bonds alone as a hedge for falling equity markets is more costly and potentially less effective than in the past, due to low yields. We think investors looking for protection should instead consider a diversified set of hedging approaches. First, investors can consider reducing their overall fixed income allocation and concentrating a greater allocation into longer-dated bonds to benefit from their greater interest rate sensitivity. Second, investors should consider incorporating dynamic asset allocation strategies, which can adjust their exposure to risk assets based on market conditions.

Third, investors can incorporate equity replacement strategies - such as structured solutions with downside protection - to sacrifice some upside potential in exchange for investments that give an asymmetric return profile.

Since 1973, if a US equity sector was a top two performer over the previous 10 years, it had only an 8 per cent chance of staying there over the next 10 years, and a 25 per cent chance of falling into the bottom two.

If the last decade was about investing in the technology sector itself, we think the next decade will reward investing in the disruptors in sectors undergoing technological transformation.

John Woods Chief Investment Officer, Asia Pacific, Credit Suisse

Equity market price actions have been reflective of rising reflationary expectations, with cyclical markets and sectors outperforming and value stocks on average outperforming growth stocks. We think such expectations are justified and expect more such price action this year.

We continue to view the USD as unattractive compared to other major currencies, including the EUR.

On asset allocation, we expect investment conditions for cyclical assets to remain favourable. The vaccine roll-out and additional fiscal stimulus in the US should continue to help alleviate investors' concerns about the current wave of virus infections.

We maintain an overweight allocation to equities in a portfolio context, keeping emerging markets (EM) at overweight and developed market equities at strategic allocations. The broad commodity index is at overweight as well.

In the portfolio context, we keep our underweight allocation to government bonds and recently reduced investment grade (IG) bonds to the benchmark weight. EM hard currency bonds remain at an overweight allocation for their diversification benefits.

Within that space, we note that Chinese government bonds offer diversification benefits because of their relatively lower correlation with global risk assets.

Our best ideas: We think China equities will outperform Asia and developed markets in the next 3-6 months. China's economic recovery is allowing corporate revenues - and earnings - to recover. Chinese equities are attractively valued and will benefit from China's drive for self-sufficiency. Both factors will render Chinese equities more resilient against cyclical risk.

On Covid-19 related recovery: Value/cyclical stocks in financial, energy and travel related sectors. These stocks should continue their recovery as their fundamentals and outlook improve in 2021.

The precise timing of herd immunity is difficult given lack of clarity over vaccinations (vaccines are not vaccinations). But the trajectory is fairly clear - time in the market beats timing the market.

Hou Wey Fook Chief Investment Officer, DBS Bank

We expect a V-shaped global economic recovery in 2021 to drive strong corporate earnings growth and appetite for risk assets such as equities. Our confidence lies in historically large policy support response, where governments globally are doing whatever they can with unprecedented measures to support economies and livelihoods. Positive vaccine developments have given hope that the world economy can return to normal, with 2021 being the year of mass global vaccination.

In the near term, as the rally broadens, we expect value and cyclical stocks to catch up, driving performance in markets such as Japan and Europe, as well as deep cyclical sectors such as consumer, industrials and energy sectors. However, in the long run, we believe growth should outperform value. Sectors which are driven by long term structural themes such as accelerated digitalisation, millennium spending trends, and increased healthcare expenditure will continue to draw investors' attention.

With a broad-based recovery, inflation and bond yields will rise, and bonds will fall out of favour. As riskfree Treasury yields are lingering just above all-time lows and a potential rise in yields will erode prices of such bonds. Credit deserves an increasing relevance in investor portfolios. Investment grade markets offer an additional spread buffer for still-low risk, while highyield markets are prime avenues for more diversified sources of alpha. In particular, we like Asia high yield where there is still room for spread compression.

2021 will certainly face several challenges. These range from the efficacy of the coronavirus vaccines to how the US-China relationship will progress under a Biden administration. To overcome these headwinds, we continue to emphasise a portfolio approach in investing; it allows one to stay invested for the long haul, even during times of extreme market volatility.

We encourage investors to adopt a Barbell Strategy. The DBS Chief Investment Office (CIO) Barbell Strategy entails taking high conviction exposures in both growth and income investment themes, and include risk diversifiers such as gold.

Our strongest investment ideas: We are most excited about the trend of the world becoming a digital economy. At the DBS CIO, we have coined the acronym I.D.E.A. to encapsulate the types of companies that will be winners of this new digital world. Companies which have the characteristics of Innovators, Disruptors, Enablers, and Adapters have seen their stock prices surge, and we expect this trend to continue.

We believe 2021 will be a strong year for Asia. The region should benefit as risk appetite picks up and the global market rally broadens. Rotation into value and cyclical sectors should lift markets in the near term, and an economic recovery scenario for 2H21 should see the rally extending into the full year.

In the near term, there are already encouraging signs of an economic rebound, buoyed by strong capital inflows, improved external balances, and structural reforms.