Global Equity Investment: Portfolio Positioning for a Multi-Low Environment - Latest Asset Allocation Views

Both Italian and Spanish bonds reversed much of the prior rise in yields, to what were unsustainable levels, while the recent rapid widening in the spread of French bonds over German bunds unwound completely. This partially reflected a rise in German yields, however, following a disappointing auction and growing concern over bunds' safe haven appeal. The only safe haven bond markets with adequate liquidity, at least for now, appear to be the U.S. and U.K.

Equity markets recovered strongly late in November as hopes rose that the December 9 meeting of EU leaders would deliver a sufficiently credible agreement to alleviate pressures on financial markets. U.S. equities led the way once again benefiting from continuing upgrades to earnings that by year will be at record levels.

Other risk assets tended to perform in line with equity trends, with strong late month recoveries in oil and copper prices. In the currency markets the euro/dollar rate also remained highly correlated to "risk on, risk off" trades and the yen and dollar continue to be the main safe haven plays.

Equities: A neutral equity position is retained given relatively low valuations and the belief that the EU authorities will eventually be forced to avert a disorderly financial crisis. An outlook of low economic growth, low inflation and low interest rates in a deleveraging world suggests a relatively defensive approach to geographic, sector and stock selection. This implies tilts towards the U.S., Asia Pacific and emerging economies to capture growth, defensive sectors and strong companies with healthy balance sheets. Good quality, high yield stocks should also be favoured in a low yield environment.

Bonds: With main market government bond yields at such low levels, it makes little sense to increase weightings unless a U.S. recession and/or a eurozone financial collapse is expected. In recent weeks U.S. and U.K. yields have fallen to generational lows, and on fundamentals the massive bond rally appears overdone, especially with the scale of government debt and deficits. The dangers of a turn in sentiment, however, were made abundantly clear with the recent rise in German yields, previously the main safe haven, as well as those in France. Given current growth uncertainties, still sizeable attempts at monetary stimulus via bond purchases and no respite yet from the eurozone debt crisis, however, yields could stay at lower levels for quite a while longer. Investment grade corporates offer better value but upside is limited, while emerging market debt should be reconsidered following recent falls and currency weakness.

Commodities: Predicting commodity returns is difficult enough given the very broad spread, high volatility and problems associated with rolling over futures contracts on returns. It has become even harder as a result of the uncertainty created by EU sovereign debt issues, a weak U.S. recovery and signs of a Chinese economic slowdown. Commodities such as crude oil and industrial metals have rallied smartly from recent lows and as long as the Chinese economy avoids a hard landing and the U.S. economy experiences nothing worse than a modest recovery, the pace of world economic growth should be sufficient to ensure that the prices of supply constrained industrial materials, such as oil and copper, will hold up in 2012. Gold reached a new closing peak of $1,898/oz before its recent reversal but remains favoured by many investors worried that a far worse fate awaits the global economy. Scarce supply and strong demand will keep prices elevated until sentiment turns and real interest rates rise.

Currencies: Currencies remain as volatile and as difficult to predict as ever and near term trends will depend on the authorities' response to current financial turmoil. The yen is unlikely to strengthen too much further against the dollar, given counteracting flows from the central bank while the Swiss franc remains pegged to the euro. In recent months the euro has lost all its interest rate differential support and, with the eurozone crisis an ongoing issue, sterling and particularly the dollar should continue to outperform despite further QE. After its recent substantial decline, however, the euro is likely to be driven by market sentiment towards resolution of the eurozone financial crisis i.e. it will remain volatile. Asian/emerging market currencies are still undervalued despite short term capital flight and greater uncertainty.