Maintaining a cautious stance, a preference for quality over value and looking for additional sources of diversification are some of the considerations that investors will have to keep in mind for the coming few months, according to JP Morgan Asset Management’s Karen Ward.
Investors may take comfort in lessons from the past but an economic shutdown like this has never been seen before and has prompted a major shift in the likely direction of both the global economy and markets.
Ward, chief market strategist for EMEA at JP Morgan Asset Management, said: “The outbreak of Covid-19 and its rapid spread around the globe has materially changed the investment outlook for 2020. Given how many governments have operated widespread shutdowns, the Q2 contraction in activity, especially in the US and Europe, is likely to be unprecedented.”
Given this. Ward has four key considerations for investors in navigating these tricky times – which we explore below.
Near-term caution
With lockdowns beginning to ease in some parts of the world, the sense of relief is palpable yet hesitant. The threat of coronavirus is still ever-present and, without a vaccine, uncertainty amongst consumers and markets will remain.
Governments and central banks have reacted well with strong injections of fiscal and monetary stimulus preparing the ground for when economies can in theory return to a relative normality.
However, Ward added: “Due to remaining uncertainties, we cannot say with confidence that we have seen a bottom in the market and would approach asset allocation with some degree of caution.”
Focus on quality
While central banks have sought to assuage investors’ fears by continuing to stimulate the economy by acting as lenders of last resort, the JP Morgan Asset Management strategist thinks investors should be selection when choosing where to allocate.
Central bank asset purchases
Source: JPMAM
“With most central banks only willing to engage in the highest quality section of the market, it’s important to distinguish between those assets that are under the wing of the central bank, and those that will remain out in the cold,” she said.
Focusing on quality (or companies with good balance sheets and a resilient free cash flow) over value stocks should help investors come out of this downturn with stocks that can provide income and avoid any solvency problems.
“With cash and long-term bond yields low, investors have increasingly turned to equities for income,” the strategist continued.
“That income challenge is only going to become more difficult in the next cycle, so investors would be wise to consider stocks that have the potential over the medium-term to pay dividends even if, in the near term, the pressure is to lower payouts.”
Broad diversifiers
The region that will come out strongest from this crisis remains to be seen. In the near term then, the need for diversification is important as ever.
“Government bonds are traditionally an investor’s go-to for portfolio diversification. But it seems unlikely that yields can fall much further from here, so the protection they provide overall for a portfolio is more limited,” Ward said.
She also suggested that infrastructure be a good diversifier for some investors thanks its income buffer, but this is only for those who do not need liquidity.
“We also think macro hedge funds could add diversification, as they have historically tended to perform well in times of market volatility,” the chief market strategist said.
Alternative forms of diversification
Source: JPMAM
Remain open to longer-term opportunities
Looking inward and focusing on the near-term effects of the coronavirus are important but investors should pay ample consideration to the longer-term opportunities.
“Often in times of crisis, the most profitable opportunities come from looking beyond the very near-term,” Ward said.
The shape that the demand recovery takes as lockdown eases will be interesting, as upward pressure to inflation to start to appear if broad demand recovers more quickly than supply. “In our view, the inflation-linked bond market currently underestimates this,” she added.
Meanwhile, although the oil market is struggling to deal with oversupply, it’s unlikely these prices will stay as low as they are into the medium term.
Performance of oil in 2020 (in US dollars)
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Source FE Analytics
“A recovery in oil prices and a steepening of the yield curve in anticipation of inflation would all play into a revival in value aggregates which tend to be heavily weighted to energy and financials,” Ward concluded.