Russia’s escalation increases geopolitical uncertainty and market volatility. While this could further boost inflation and slow growth, especially in Europe via higher oil/gas prices, we believe it’s unlikely to trigger broad-based economic and earnings weakness globally.
Our tactical asset allocation is unchanged. We remain tactically overweight US equities over bonds and emerging market equities over global equities, plus selected high-yielding credit exposures over lower-yielding bonds.
Markets tend to overreact. Events such as the Russia/Ukraine conflict don’t typically affect the global investment landscape over a 6-12 months horizon. There’s a clear pattern of fundamentals reasserting themselves after event-driven market corrections.
Our investment philosophy for direct equities is based on long-term investment. We use what we consider quality growth companies with strong balance sheets. This is designed to minimise as far as possible the impact of unpredictable events that are outside companies’ control.
Our Global Sustainable Equity Model is weighted in-line with its benchmark, with a two-thirds/one-third split between North America and Europe. However, our European holdings are mostly global businesses rather than focused on the European economy.
Don’t underestimate geopolitics, but don’t overreact either
Russia has decided to escalate tensions as Moscow has officially started the invasion of Ukraine. The West will likely impose another round of sanctions on Russia, stricter than the first round implemented earlier this week.
Market volatility will probably remain high and safe-haven assets supported. We expect investors will also focus on energy and commodity prices more generally. From a macro perspective, Europe in particular is exposed to rising oil/gas prices (Brent is past USD 100 per barrel). This could become a stagflationary shock if protracted (rising inflation/slowing growth).
From a market point of view, portfolio diversification at times of high uncertainty is helpful and important.
We don’t (want to) time the market
We believe that anyone’s ability –ours included – to forecast geopolitical events is limited. Of course, it’s helpful to go through scenarios, subjective probabilities and plan ahead. But, rather than timing the market around geopolitics or other events, we rely on fundamental analysis together with thorough risk considerations.
At this stage, we don’t believe there are sufficient elements to change our outlook. Yes, there are perhaps downside risks to growth and upside risks to inflation, especially in Europe, which is more sensitive to potential disruptions to energy supplies and oil/gas price shocks. But this could turn central banks more dovish once again and, in any case, we don’t think the global, US and Asian economies are likely to be impacted materially.
This is why, given our baseline scenario, we believe that the current tactical allocation should be able to withstand a temporary market correction, without causing unbearable losses.
Why we think our strategic approach works over the long term
The well-diversified long-term foundation of our portfolios helps weather geopolitical and other storms. That is not to say that the military escalation in Ukraine will leave our portfolios unscathed. However, rigorous diversification across regions and asset classes becomes especially relevant in times when local market risks dominate.
A global approach to asset allocation offers the potential for better risk-adjusted returns over time, reducing the portfolio’s volatility to less than the sum of its parts and reducing exposure to idiosyncratic risks.
We take the same global approach to our fixed-income exposure as we do with our regional equity market allocation.
In a world where bond yields are still very low, we invest beyond government bonds and high-quality corporates into credit across rating buckets around the globe. The additional risks associated with these asset classes are, we believe, well compensated over time even if geopolitical tensions have the potential to widen credit spreads over less risky treasuries.
To further diversify our strategic allocations and help in risk off episodes, we hold gold, which is investable in a fully sustainable way through recycled gold.
We’re sticking to our moderate tactical risk-on positioning
We remain tactically overweight US equities over bonds and emerging market equities over global equities, plus selected high-yielding credit exposures over lower-yielding bonds.
Of course, Russia’s military escalation has triggered a rise in geopolitical uncertainty, which may increase further in the near term. In turn, this is raising market volatility and has already triggered a broad risk-off move.
Markets have a tendency to overreact to headlines and move from one extreme to the other. However, looking at history, geopolitical events such as the Russia/Ukraine conflict and the response of the West don’t typically affect the investment landscape over a 6-12 months horizon which corresponds to our tactical. Rather, there’s a clear pattern of fundamentals reasserting themselves after event-driven market corrections.
A case in point is the Russian invasion of Crimea in 2014: back then, global equities lost around 6%, which they regained within a few weeks. Similarly, the Iraq War back in 2003 caused a peak-to-trough equity market correction of around 14%, with global stocks taking less than two months to get back to their prior peak.
Understanding the impact of Russia on our asset allocation
Russia represents a small benchmark weight, less than 3% and 1% in emerging and global equity markets, respectively. What’s more, only 0.6% of all S&P 500 revenues are derived from Russia, and less than 4% of emerging market revenues. This is why we think the global earnings picture is unlikely to be impacted materially.
Naturally, the ongoing equity drawdown is having the biggest negative impact through our overweight in US equities and our underweight in safe-haven government bonds, which suffer from weaker risk sentiment. That said, US equity year-to-date returns of -12% already reflect weakening investor risk appetite and we expect that the impact of Russia’s escalation on the US economy will be limited.
Our newest tactical position, an overweight in emerging market equities relative to global equities, is likely being impacted by weakening risk sentiment as well – at least for now. While past performance is not a reliable indicator of future returns, historically underperformance of this nature has been relatively short-lived as the positive drivers we identified remain supportive. Importantly, more than 75% of our emerging market equity exposure is from Asia, a region that in our view is less impacted by the current crisis than Europe.
We still see accelerating economic momentum and policy easing in China, and continue to believe that some large emerging markets, having already hiked interest rates significantly, are likely to stop tightening, or even to start easing policy, before long.
Finally, we think our tactical credit overweights shouldn’t be affected that much. Emerging market sovereign bonds are highly diversified across geographies, and the combined weight of Russian and Ukrainian bonds is just 4.5% of the broad emerging market sovereign bond index. In addition, we believe their long duration and significant exposure to oil exporters should act as balancing factors in an adverse scenario. Nor do we see a fundamental impact on Asian high-yield bonds, which are driven by the aforementioned idiosyncratic factors.
Our Direct Equities approach at times of geopolitical uncertainty
We currently have no plans to make changes to the Global Sustainable Equity Model in response to the escalating situation in Ukraine. While we fully appreciate that this situation is of concern to our investors, we don’t believe it merits changes to our Model. We explain why below.
Our investment philosophy is based on a long-term investment time horizon in what we consider are quality growth companies. This is designed to minimise as far as possible the impact of unpredictable events that are outside companies’ control. In our view, focusing on companies with leadership in their respective markets and what we view as the potential for above-average returns on invested capital gives our portfolio greater insulation against external shocks.
One key component in our definition of quality growth is balance-sheet strength. On a variety of measures, we estimate that our Global Sustainable Equity Model has balance-sheet strength of 30-50% greater than the broader market.
This balance-sheet strength is important for two reasons: first, it minimises the risk of dilution in the event of a significant downturn in trading; and, second, it provides leading companies with the option to invest through the downturn, further strengthening their market positions.
Furthermore, in terms of regional exposure, our Model is weighted in-line with its benchmark, with a two-thirds/one-third split between North America and Europe. However, our European holdings are mostly global businesses rather than focused on the European economy.
In terms of sectors, we have an overweight in Technology and underweights in Energy and Financials. Our Energy underweight is structural and relates to our Sustainability Framework. Our Financial underweight is as a result of holding zero exposure to European financials. This zero exposure to European financials is structural, too, due to the low returns and growth for companies in the region. Otherwise, our Model is well diversified by end-markets across industries and geographies.
Our role as investors and fiduciaries of client wealth
While the situation in Ukraine is unusual, the market reaction is not. Since 2000, 13 of the past 21 years have witnessed a calendar-year drawdown in global equities in excess of 10%.
For those with long term investment goals, our philosophy is to stay invested as ‘time in the market is much more important than timing the market’. This allows those who can remain invested to have the potential to continue to harvest risk premia – which can even become more attractive in times of market stress. If an investor had sold every time the market fell 10% – and then waited a year before re-entering the market – their average annual return from global equities, since 2000, would have been very low, just 2.7% per annum.
In contrast, an investor who remained invested would have done far better, with a return of 6.8% per annum. While past performance is not a reliable indicator of future returns and periods of market volatility can be unsettling, it’s important to refer back to your long-term objectives and risk-profiling to ensure your portfolio meets your needs.
Bill Street, Group Chief Investment Officer
Daniele Antonucci, Chief Economist & Macro Strategist
About Quintet Danmark:
Quintet Danmark, a branch of Quintet Private Bank (Europe) S.A., opened for business in 2020. Located in central Copenhagen, Quintet Danmark combines a highly personalized approach with independent advice and open-architecture investment solutions.
For further information, please visit: www.quintet.dk
About Quintet Private Bank:
Quintet Private Bank (Europe) S.A., founded in 1949, is headquartered in Luxembourg and operates in 50 cities across Europe, staffed by 2,000 professionals. Widely recognized as a private banking leader, Quintet serves wealthy individuals and their families, as well as a broad range of institutional and professional clients, including family offices, foundations and external asset managers.
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- Brown Shipley (UK)
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- Merck Finck (Germany)
- Puilaetco (Belgium)
- Puilaetco (Luxembourg)
- Quintet Danmark (Denmark)
- Quintet Luxembourg (Luxembourg)
- Quintet Switzerland (Switzerland)
For further information, please visit: www.quintet.com
For further information, please contact:
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Quintet Private Bank
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