Macroeconomic data is supportive for investors to increase their appetite for risk, according to David Jane (pictured), who has been largely cautious for most of the past year. 
The manager, who co-runs a number of multi-asset funds for Miton including their Cautious Monthly Income and Total Return portfolios, says that while the market year-to-date has been unusually volatile, now is a good time to increase exposure to formerly unloved areas of the market such as emerging markets and industrial cyclicals.
The start of 2016 proved to be a particularly challenging period for investors, with fears surrounding China’s growth slowdown and the collapse in commodity prices damaging market performance.
One area that investors were particularly cautious on was emerging markets due to the large proportion of regions in the sector that are commodity-exporting countries. Investors also shied away from the asset class because many developing countries hold dollar-denominated debt and the combination of a Fed rate hike and a strong dollar was therefore seen as a significant headwind.
Over the last few weeks though, the price of oil has begun to creep up again and hit its highest point in the year so far yesterday at $47.59 per barrel.
The Fed also seems to have become more dovish in relation to hiking interest rates – while many investors predicted that they would raise rates four times throughout the course of this year, the general belief is that they are now unlikely to hike rates more than twice.
This positive macroeconomic news appears to have comforted markets somewhat as, since February’s sell-off, most major indices have provided a positive total return.
Performance of indices in 2016
Source: FE Analytics
As seen in the above graph, the emerging markets sector has been the runaway winner year-to-date. While some investors are worried by the sector’s sudden outperformance, Jane has increased his exposure to the market area at the expense of developed equity.
“At times like these we are minded to feel grateful that we are not relative investors as those strategies which seek to beat a benchmark have experienced a huge rotational pain trade,” Jane said.
“Those areas most weak in the early part of the year have now rallied to a huge degree while the previously defensive areas have lagged in relative terms. Hero to zero and vice versa in a very short space of time.”
“The big question is where to now for risk assets, having reversed the heaviest declines of the early part of the year?”
The manager says that the knock-on effect of China’s reflationary policy shift and the weakening dollar led to a boost in commodity prices, which means that underlying macro data is supportive of emerging markets’ recent rally.
However, he points out that the general economic outlook has also become more positive which means there aren’t necessarily stand-out opportunities in the market. Another factor that investors should consider, according to Jane, is that commodity and emerging market stocks are being bolstered by momentum and are therefore vulnerable to rotational shifts in performance.
“Certain areas which we favour over the longer term we have avoided in recent times, whether emerging markets or certain industrial areas, as the broad macro environment has been unsupportive,” he continued.
“While we wouldn’t necessarily feel that these headwinds have reversed we can certainly say they have abated, removing one negative factor and allowing us to get involved again.”
“We have recently been building up our emerging markets exposure at the expense of some of the developed equity. In addition, we have also been buying back into certain industrial cyclical companies which we favour longer term but have been suffering over the near term.”
Companies that have particularly caught Jane’s attention are those that are exposed to global trade, commodities or China, as the former headwinds for these market areas are now reducing.
However, AXA Wealth’s Adrian Lowcock warns that, while he believes the increasing popularity of emerging markets has been the right move if exercised cautiously, there are still headwinds facing the sector.
“The US dollar has weakened and that’s seen as a good thing for emerging markets and the rate of US interest rate rises has certainly eased off but, at the same time, US interest rates still look set to rise at least once more if not twice more this year, so that’s still a potential risk for emerging markets,” he said.
“It’s also about being quite selective on the region. Commodities have been volatile and quite weak and, while China is growing, growth rates are slowing, and although commodity prices in some areas have recovered, they’re still going to be under pressure going forwards.”
“It’s all about being quite selective in emerging markets, it’s not a case of thinking it’s cheap and buying everything.”
The head of investing adds that it is interesting how quickly risk appetite has returned to markets, although he says this is mostly among investment professionals rather than retail investors.
“I think things have settled down a little bit, but I think it’s better to be cautious on this - particularly with emerging markets as it can stay out of favour for much longer than people realise,” he said.
“I’m not trying to call the bottom – we’re in such a different situation from normal economic cycles and it’s very difficult to look so far ahead – but I think with emerging markets time and again it has been proven that the more cautious, steady approach and the real focus on good quality businesses as opposed to aggressive growth is where success lies.”
Jane agrees and explains that he has been adding to stocks that he has liked for a while but it simply hasn’t been a supportive environment for them. With macro data becoming more positive, he says he is pleased to have the opportunity to reintroduce these holdings back into his portfolio.
“As ever, we are pragmatic and the market could well take another lurch downwards, particularly as we enter the summer lull, in which case corrective action may be necessary. In the meantime we are pleased unit holders are able to benefit from a more positive tone.”
Since August 2002, which is as far back as our data stretches, Jane has outperformed his peer group composite by 54.9 percentage points with a total return of 152.36 per cent.
Performance of Jane vs composite since 2002
Source: FE Analytics
