Jean Boivin, Head of the BlackRock Investment Institute together with Wei Li, Global Chief Investment Strategist, Vivek Paul, Senior Portfolio Strategist and Natalie Gill, Director, all forming part of the BlackRock Investment Institute, share their insights on global economy, markets and geopolitics. Their views are theirs alone and are not intended to be construed as investment advice.
Sticking with Stocks: We still prefer equities over fixed income on a strategic horizon, but we moderate our stance after this year’s big market moves.
Market backdrop: Stocks bounced back on hopes the Federal Reserve can soon pause rate hikes. But we don’t expect a sustained rebound until the Fed takes a clear dovish turn.
Week ahead: Euro area inflation data will be in focus. The European Central Bank president made clear rate hikes will start in July. We see market pricing as too aggressive.
On a strategic horizon of five years and longer, our asset views are still positioned for an inflationary environment. We see inflation easing yet settling above pre-Covid levels: central banks will choose to live with some supply-driven inflation rather than destroy growth and jobs to fight it. That’s why we favor equities over bonds. Yet we are cautious near term. The market pricing in an inflation-fighting Fed remains a serious risk. So we don’t see a case for a sustained equity rebound.
Equities over bonds for the long term
Strategic (long-term) and tactical (6-12 month) asset views, May 2022
Source: BlackRock Investment Institute. Note: The chart shows our broad strategic (10-year) and tactical investment views. Views are from a U.S. dollar perspective. This material represents an assessment of the market environment at a specific time and is not intended to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding any particular funds, strategy or security.
The key change in our quarterly strategic update is to trim tilts across asset classes given the large market moves since our last update in February. The relative appeal of developed market (DM) equities over government bonds has narrowed as yields have surged. We have reduced our underweight to government bonds and trimmed our overweight to DM equities. Yet DM equities and inflation-linked bonds remain our largest strategic overweights. We see the path of short-term rates – a key input in our return expectations – repricing lower as the policy trade-off on dealing with supply-driven inflation becomes clearer, and we see growth holding up as a result. Yet we have less conviction on both fronts in the near-term given the risk that the market still sees the Fed going too far in pushing up rates. This caution is reflected in our tactical stance being broadly neutral across asset classes relative to our strategic views. See the summary above.
Strategic vs. tactical
We stick with our conviction that the path of U.S. short-term rates will be less than what the market is pricing in now. That underpins our strategic views and is why we prefer equities over government bonds. Yet we have less conviction in that view over the next 6-12 months – our tactical horizon. That is why we gradually trimmed tactical risk all year and downgraded DM equities to neutral this month. We are looking for a decisive dovish pivot from the Fed to flip back overweight. Until then, we think risk assets may be disappointed: it may take some months for the conditions allowing a policy pivot to take shape. We see inflation easing as supply disruptions unwind, allowing such a pivot – even if inflation remains higher than pre-Covid levels. Central banks will choose to live with some inflation rather than destroy growth and employment in a bid to fight supply-driven inflation, in our view. In other words, they will likely pause after hurrying back to around neutral on policy rates.
We have seen historic market moves in the first months of the year already in the direction of our strategic views, especially in nominal government and inflation-linked bonds – and trim our tilts as a result. We had maintained a high-conviction underweight to DM nominal government bonds since March 2020. Since then, the Bloomberg U.S. Treasury index is down 18%, according to Refinitiv data. The outlook for long-term bonds remains challenged. We see further room for long-term yields to rise as investors demand a term premium for holding longer maturities in coming years due to high debt burdens and inflation risks. The jump in short-term yields and our expectation that the policy rate path will reprice lower mean we like shorter maturities over longer ones. This yield curve view moderates our overall underweight on government bonds. We prefer private credit over public credit on a strategic horizon due to our higher expected returns on a risk-adjusted basis. And not all strategic and tactical views are different. We still like inflation-linked bonds on both strategic and tactical horizons.
Near-term risks appear skewed to the downside for growth and risk assets: central banks talking tough on inflation, an ongoing commodity price shock and China’s restrictive Covid lockdowns adding to a weaker macro outlook. We believe the consequences of these risks will be most deeply felt by markets over a tactical horizon – and have reduced portfolio risk in recent weeks. But we don’t think they matter yet for a strategic horizon of five years and longer.
We maintain our view favoring DM equities over fixed income on a strategic horizon. This difficult market and macro environment has brought into sharp focus the importance of taking time horizons into account when arriving at investment views.
U.S. equities bounced back from their 2022 lows, while U.S. Treasury yields dipped. The Fed’s May meeting minutes also confirmed it was considering a two-phase approach to policy tightening, getting to neutral – a level that neither stimulates nor restricts the economy – in phase one and then pausing to assess the impact. That opens the door for a dovish pivot, but we don’t think a sustained risk asset rally is likely until such a pivot becomes clearer.
Past performance is not a reliable indicator of current or future results. Indexes are unmanaged and do not account for fees. It is not possible to invest directly in an index. Sources: BlackRock Investment Institute, with data from Refinitiv Datastream as of May 26, 2022. Notes: The two ends of the bars show the lowest and highest returns at any point this year to date, and the dots represent current year-to-date returns. Emerging market (EM), high yield and global corporate investment grade (IG) returns are denominated in U.S. dollars, and the rest in local currencies. Indexes or prices used are: spot Brent crude, ICE U.S. Dollar Index (DXY), spot gold, MSCI Emerging Markets Index, MSCI Europe Index, Refinitiv Datastream 10-year benchmark government bond index (U.S., Germany and Italy), Bank of America Merrill Lynch Global High Yield Index, J.P. Morgan EMBI Index, Bank of America Merrill Lynch Global Broad Corporate Index and MSCI USA Index.
- May 31 – Euro area inflation; U.S. consumer confidence; China manufacturing PMI
- June 1 – U.S. ISM manufacturing PMI; euro area unemployment
- June 3 – U.S. payrolls report
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