About the AllianzGI Investment Forum
Our investment experts recently gathered in Frankfurt for our second Investment Forum of 2016. Over days of discussions, we took the pulse of the economy and made only slight adjustments to our house view, given that our financial repression thesis is holding steady, with no end in sight. At the same time, other themes—including rising global political risks, the “Japanification” of Europe and the painful effects of negative rates—are set to affect investors for some time to come.
Key takeaways:
- Uncertainty remains high globally as financial repression accumulates, and as political cycles and geopolitical events accelerate.
- Brexit and other major political questions keep plaguing Europe, which is already sensitive to the dull global growth environment.
- A flight to safety from NIRP economies has made equities attractive in Asia and EM; risk-adjusted returns from alternatives can help investors take measured risk.
The state of the global economy
Economic growth and inflation have remained weak this year and real bond yields have fallen further due to negative interest-rate policies (NIRP) in Europe and Japan. As we predicted in previous Forums, volatility has increased in asset classes such as global equities, oil and bonds. On the bright side, India and Indonesia have offered resilient returns, China’s renminbi has remained stable despite depreciation fears and oil has stayed in a distinct trading range.
Political risks go global
Politics has grown into an increasingly important risk factor for investors—especially with Brexit, troubles in Italy and Spain, and the US presidential election causing uncertainty and sideways movement in many markets. Sadly, one undeniably upward-moving trend can be found in the growing number of violent conflicts around the world, which are fueling massive refugee movements and terrorist activity. Some estimates put the business cost of this political violence at more than $13 trillion.
Conflicts such as these are also fueling populist and nationalist movements in the US and Europe, which could roll back the growth-friendly globalization, free trade and deregulation policies that have been in place since the 1980s. This populism appears to have its roots in income inequality and the growing number of people left behind by globalization, and it may hurt large multinational companies if governments continue to interfere in tax issues and M&A executions.
A clear example of populism’s rise can be seen in the US presidential elections, with Donald Trump’s strongly protectionist campaign. Investors looking to place sector bets should note that Trump favors “old energy” and defense, while Hillary Clinton seems to favor “new energy”; both candidates want more infrastructure spending to stimulate economic growth.
Will Europe fall into the same trap as Japan?
It has become clear that many promises from politicians, such as healthcare and welfare, may be unaffordable unless governments enact significant structural reforms. This is not happening in Japan and much of Europe, which are already suffering from systemic demographic challenges and could stagnate further. Indeed, there is hard evidence that Europe’s shrinking economic growth could push it into the same economic blind alley that Japan entered into in the 1990s. On a more positive note, it is the world as a whole—not just Europe—that has been hurt by weak demographics and labor productivity. Moreover, Europe’s GDP per capita is much stronger than Japan’s, it is substantially less leveraged and it does not have an overvalued property sector to deal with.
NIRP’s implications for financial stability and economic growth
Of course, the euro-zone’s banks are echoing the traumas that are affecting Japan’s banks. A close analysis suggests that the ECB may have overstepped with NIRP: This modest success has forestalled any incentive to deepen structural reforms—particularly given that the ECB has no ability to punish under-reformers. In Japan, meanwhile, sustained zero and negative interest-rate policies have affected the returns and solvency of all banks and insurers. This may be the future that beckons in Europe.
The central banks’ journey into NIRP has been a long one. Unlike how monetary policy was employed before the Great Financial Crisis, it is now being used to sustain economic growth. Meanwhile, ZIRP and NIRP have driven investors into ever-riskier assets in search of return, which will make today’s monetary policies that much harder to exit from.
Actions for investors
While it may have been better for central banks to have avoided QE and its distortions, we are nevertheless in a “lower for longer” environment; in fact, financial repression may persist for another 20 years. As such, global economic growth will remain slow and low, and investors’ returns will be driven by their appetite for accepting volatility and risk.
With the stage set for volatility stemming from so many political, economic and monetary uncertainties, investors must be active, disciplined and tenacious in harnessing returns. Attractive opportunities can be found in equities, and good income potential can be found in fixed-income securities in emerging markets, Asia and the US. Of course, it is especially important to actively pursue alpha in these areas, since beta returns are set to be low and volatile, which could undermine cheap index investments.
Active engagement with corporations as part of a broader environmental, social and governance (ESG) focus can also play a key role in driving performance. In addition, investors should take a close look at the risk-mitigation and diversification benefits that alternatives provide. Above all, investors need to realize that they must take some risk to achieve their returns.
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Important Information
The material contains the current opinions of the author, which are subject to change without notice. Statements concerning financial market trends are based on current market conditions, which will fluctuate. References to specific securities and issuers are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations to purchase or sell such securities. Forecasts and estimates have certain inherent limitations, and are not intended to be relied upon as advice or interpreted as a recommendation.
Past performance of the markets is no guarantee of future results. This is not an offer or solicitation for the purchase or sale of any financial instrument. It is presented only to provide information on investment strategies and opportunities.
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