Central bankers continue to talk tough about inflation, but markets have largely moved on from worries about rising prices as the risk of overtightening and recession has come into greater focus. What does this mean for investors today?
In the near term, we think the risk-reward for broad equity indexes will be muted. Equities are pricing in a “soft landing,” yet the risk of a deeper “slump” in economic activity is elevated. Tactically, we therefore advocate selectivity—preferring value, quality income, and healthcare—and optionality. In fixed income, we move high grade bonds, which would likely rally sharply in a “slump” scenario, from neutral to most preferred. In currencies, we keep a most preferred stance on the Swiss franc.
But what about investors with a longer-term view?
We believe a combination of below-average equity valuations, above-average yields, and post-peak private equity vintages will mean stronger long-term returns for diversified portfolios. After a 26% decline in valuations over the past 12 months, the S&P 500 is now trading at levels consistent with annualized returns in a healthy 7–9% range over the next decade. Yields available in bond markets have improved significantly this year. And in alternatives, growth funds created following public market sell-offs have historically delivered better returns than those from prior vintages. In this context, from a longer-term perspective, many clients appear underdiversified and underinvested.
Investors often try to reconcile a constructive long-term view with a more challenging short-term outlook by simply waiting. But this approach also entails risks: The potential savings from waiting tend to be limited, but the potential opportunity costs can be much larger. And, while the near-term outlook for equities might be uncertain, we believe diversified portfolios should deliver more stable outcomes over the coming months, given the potential market scenarios we face.
By buying, or committing to buy, diversified portfolios today, we believe investors can both mitigate near-term risks and position for long-term performance, without running the risk of being left, potentially indefinitely, on the sidelines.
In this letter, we share our latest views on the short-term outlook for the market, then detail why we think the longer-term outlook has improved this year, and analyze how longer-term investors should think about the trade-off between waiting and investing.