This year was a complicated one for investors, and the next 12 months are unlikely to be smooth sailing either.
Each year, Trustnet looks at what areas of the market will likely prove tricky and should probably be avoided. Whether in good times or during periods of distress, it is necessary not only to think where opportunities lie, but also where it might be safer not to tread.
In this article a year ago, experts unanimously thought fixed-income would be the most problematic space. Had investors taken on this advice, they could have avoided double-digit losses, as global bond indices plummeted.
Unfortunately, no one predicted that equities would give investors a hard time too and fall in parallel to bonds, but they did hint at US stocks being “too toppy”, and tech valuations too high.
If that was enough to convince you to avoid Nasdaq companies, you would have avoided losses of 22.5%, as tech firms tumbled on higher inflation and interest rates.
Performance of indices over 1yr
Source: FE Analytics
In 2021, few anticipated the war in Ukraine, rampant inflation and higher interest rates, but some of the areas to avoid, which also included environmental, social and governance (ESG) strategies, proved correct.
Of course, it is impossible to make truly accurate predictions, but multi-managers are used to thinking about the bigger picture to corroborate or discard ideas for their portfolio allocations.
As such, below four multi-managers highlighted the areas that they perceive as risky in 2023, in which they are not prepared to invest.
Peter Sleep, senior portfolio manager at 7IM, is avoiding private equity, which he suspects is due a “reset down”. A record $1trn flowed into private equity in 2021, buoyed by high returns, low-cost debt and ever-higher valuations.
Quoting the Financial Times, the manager noted how in 2022, though interest rates are “massively higher” and stock markets are down about 20%, private equity valuations are up a “barely creditable” 3%.
“To conserve capital and avoid a down funding round, private equity companies are reining back expansion plans and drawing on credit lines, but the high valuations cannot go on forever, particularly as secondary market valuations fall,” he said.
Performance of IT Private Equity sector over 1yr vs MSCI World index
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Source: FE Analytics
“Maybe public markets will rally to bail out private equity, but I suspect that some of those high valuations are due a reset down.”
Staying in the realm of alternatives, David Coombs, head of multi-asset investments at Rathbones, said in his portfolios he is not allocating to UK commercial property.
“It is a sector already under pressure from negative structural trends, work from home, online retail and rising costs, leading to business failures across all sectors, and this will be exacerbated by a recession,” he said.
“The only area of resilience is probably the highest-quality of London office (West End and City), despite the number of cranes right now. The problem is many property funds have limited exposure to quality or trophy assets but have big exposures to industrial units and out-of-town retail, which looks particularly vulnerable at the moment.”
“The best time to invest in property would be in the trough of a recession, but that may not be until 2024,” he concluded.
Even more broadly, now is also not the time to be buying any new ‘alternative’ asset class, according to Simon Evan-Cook, manager of multi-asset multi-manager funds at Downing, who instead only selects assets that have been through multiple market cycles and survived.
“I won’t buy new alternatives in any calendar year, but that naturally includes 2023. The last thing you need in panicking markets is to be worrying whether an asset class itself will be wiped out, let alone the individual security you’ve picked,” he said.
“Clearly that’s not the case with old-school assets classes like equities, gold or property. But a new, untested asset class (like cryptocurrencies)? Maybe it will survive 2023, maybe it won’t. But I’m not taking the chance.”
Performance of Bitcoin over 1yr
Source: Google Finance
Turning to more traditional asset classes, Simon Doherty, head of managed portfolio services at Quilter Cheviot, isn’t a fan of high yield bonds, as things stand.
In recent weeks, he and his team have closed their long-standing underweight position to fixed income markets, moving the allocation to a neutral weighting (20% within their balanced strategy, for example).
“Exposure remains overwhelmingly composed of developed sovereign debt and sterling investment grade credit, where we see a number of interesting opportunities following this year’s sharp readjustment,” he said.
“In contrast, we believe high yield bond spreads are too tight, with defaults likely to pick up in 2023 and investors insufficiently rewarded for the level of risk being adopted.”