It's not just Invesco that is confused by the market's complacency, Bloomberg notes that global markets are showing a surprising calm as investors struggle to quantify macro risks, taking divergent approaches to portfolio allocations.
While investors cite geopolitical risks as a chief concern and events like Turkey’s failed coup highlight the dangers, Bloomberg notes there is little evidence that people are bailing on risky investments.
BlackRock says it’s very bullish on EM and Ashmore saying it buys into dips from such shocks, while G-10 currencies in tight ranges and volatility low across EM even as a BofAML fund-manager survey sees the highest cash levels since 2001.
“We are living in unprecedented times of geopolitical and social uncertainties. For investors, it is really hard to quantify those risks,” says Pimco’s currency portfolio manager Thomas Kressin.
Developments including the U.K. vote to leave the EU; terrorist attacks in Paris, Brussels and Nice; Italy’s upcoming referendum over a constitutional reform; and U.S. presidential elections point to a marked increase in political risks in systemically significant countries.
The failed Turkish coup caused an initial market reaction, though by Monday the lira was rebounding and TD saw it as a “buy”; subsequent actions by Erdogan to purge the ranks of state institutions have seen TRY trade to around record lows. S&P cut Turkey’s rating to BB from BB+, outlook to negative.
HOW MARKETS ARE IGNORING GEOPOLITICAL RISKS
- VIX is trading at 2016 lows around 12, decreasing from the highest since February hit in aftermath of Brexit referendum and well below its lifetime average ~20
- S&P 500 Index reached a record yesterday and its forward P/E ratio is the highest since early 2002; the MSCI emerging-markets index is at its highest level since mid-August 2015 and the MSCI EM FX index has gained 4.7% YTD
- 10yr UST yields reached record low earlier this month ~1.32%, though have since moved back into the 1.5%-1.6% range
MARKETS’ SHORT MEMORY
- “Markets ignore geopolitics. I don’t see any obvious cases to trade this week, as Fed is silent and there are no important data releases,” said Nordea analyst Aurelija Augulyte Monday, after markets re-opened after the weekend events
- Short term recent developments will likely prompt FX shocks and a return to risk-off sentiment until the dust settles, said Citigroup in a note sent to clients Monday, though “markets typically have short memories”
- “In this age of monetary policy uber alles, every setback somehow gets sold as a buying opportunity. There are no long-term ramifications ascribed to anything,” Bloomberg strategist Richard Breslow wrote Tuesday
WHAT INVESTORS ARE DOING
Firm keeping its cash levels above average to be ready to buy into market swings likely to follow new risk events, says Pimco’s Kressin
Running low FX conviction strategy based on the view that G-10 currencies will continue to trade in ranges as global central banks consider a strong dollar undesirable
Luke Spajic, head of portfolio management for emerging Asia, says Pimco is seeking to “tilt our alignment to cheaper credit where we can find it,” as yields on 10Y USTs dropped further than anticipated
Geopolitical risks across Europe not fully priced into EU assets and euro outlook has plenty of downside risks ahead, portfolio manager Ryan Myerberg says in interview
European project could be at stake as tensions in Turkey will worsen relations with EU over immigration
Attacks in Nice may increase support for France’s Front National, a party that has backed the idea to hold a referendum over European membership
Remains constructive on bonds in euro-area countries including Spain and France, as ECB is expected to tweak the QE program in September
Keeps limited exposure to emerging markets; negative on currencies such as TRY, ZAR
Emerging markets are on an improving path and EM debt is set to benefit from inflows of money fleeing from low or negative rate environments, EM portfolio managers including Pablo Goldberg say in a note
Sticks to positive outlook for EMD despite shock waves sent from the Brexit vote and sees local currency debt providing greater potential given EM FX sensitivity to risk-aversion shocks
Firm typically buys into any temporary weakness caused by global geopolitical events and sees the political shocks in EM to be more country specific risks than geopolitical per se, head of research Jan Dehn, says in interview
While the fund remains underweight on Turkey, it would look to buy the country’s assets once they reach a more attractive entry levels
Expects EM resilience as fundamentals are getting better and bonds are attractively priced
Aberdeen Asset Management
Market is desensitized; for EM investors “this is nothing new” says Edwin Gutierrez, head of EM sovereign debt at Aberdeen Asset Management
In Turkey, for instance, the country has had a number of bomb attacks and “markets get used to it”
When asked about next big geopolitical concerns, says if it were something we knew was going to move the market, it probably wouldn’t
Investors are focused on the U.S. and China, and their relative stability probably allows market to view shocks like Turkey as more of a local phenomenon, Invesco portfolio manager and head of macro research Ray Uy says in phone interview
General theme of political risks increasing or political risk premium has been prevailing for the last few years; now seeing tension between established political regimes and populist movements
Unclear why this hasn’t been a significant driver of markets across the board; “maybe we just haven’t hit the threshold”
Investors are still dealing with aftermath of negative rates, super-accommodative monetary policy globally and structural need for income, which is mobilizing capital flows in unprecedented ways; “maybe that’s what we’re seeing overcome some of the concerns”
Firm may consider reweighting toward havens as rising geopolitical risk could play a bigger part in the portfolio construction process, according to PM Nicholas Wall
Sold a small amount of Turkish bonds as the government’s post-coup purge extended to university deans and others not directly involved in the event, according to John Peta
Wadhwani Asset Management
Sees short term opportunity to buy EM FX as risk appetite comes back after Brexit vote
Central bank activity has supported asset prices and made periods of volatility incredibly short-lived, more so than would’ve been anticipated, Standish Mellon portfolio manager and director of global fixed income Brendan Murphy says in phone interview.
So what will it take for risk appetite to shift?