Looking Inward: New Opportunities Beneath the Surface of 'The Market'

09.20.2018 - Viraj B. Patel, CFA, FRM, CAIA


Despite recent concerns surrounding trade rhetoric, the benefits of fiscal policy are boosting momentum in corporate earnings, contributing to economic growth and supporting the US equity market. Therefore, our “risk-on” asset allocation remains in place, with an overweight to equities and underweight to fixed income.

Equities: Tilting Toward Mid- and Small-Caps
In the US, we are overweight mid- and small-cap equities. Since both categories have more of their revenue derived domestically, they should benefit from tax reform and other fiscal policy measures that are stimulating the US economy. This dynamic could also help to serve as a hedge against any adverse trade actions. Additionally, mid-caps could be buyout targets for larger corporations as we witness a pick-up in shareholder-friendly corporate actions, including M&A activity.

In international developed markets, we continue to favor Japanese equities. Japan has seen a cyclical uptick in economic data and corporate earnings continue to be supported by a weaker yen. This, in addition to improving corporate governance, should provide tailwinds for Japanese equities, which remain priced at valuations we consider attractive.

In emerging markets, we maintain a neutral view. Recently, emerging market headlines have been driven by idiosyncratic issues related to Turkey and Argentina. We believe the risk of contagion is limited, since most other EM countries are fiscally and structurally stronger than they have been historically.

Fixed Income: Positioning for Higher Rates
Rising rates were a major theme for investors throughout the first half of the year, driven by multiple factors: The supply of Treasury bonds is increasing as new bonds are issued to fund government spending, while demand from the Fed as a buyer is fading. The Fed has also expressed increased confidence in the direction of economic growth, which could encourage higher rates.

Within our fixed income allocation, we prefer US investment-grade credit over government bonds and we are maintaining our short-duration bias relative to our benchmark to guard against interest rate risk. For investors in high tax brackets, the municipal bond market continues to offer tax-advantaged income.

Alternatives: A Hedge Against Market Volatility
With more geopolitical events moving global markets, we see new opportunities for alternatives to generate alpha. Alternatives could also offer valuable downside protection for multi-asset-class portfolios, especially if issues such as tariffs keep market volatility levels elevated compared to 2017.

This communication is intended solely to provide general information. The information and opinions stated are as of September 20, 2018 and may change without notice. The information and opinions do not represent a complete analysis of every material fact. Statements of fact have been obtained from sources deemed reliable, but no representation is made as to their completeness or accuracy. The opinions expressed are not intended as individual investment, tax or estate planning advice or as a recommendation of any particular security, strategy or investment product. Please consult your personal advisor to determine whether this information may be appropriate for you. This information is provided solely for insight into our general management philosophy and process. Historical performance does not guarantee future results and results may differ over future time periods.

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