Asset allocation is at least as important as individual share selection. So where should you be putting your money? Here’s our monthly take on the major asset classes.
Equities
September was another poor month for stocks, although markets at least avoided a repeat of the widespread sell-offs that we saw in August. US markets held up better than most, with the MSCI USA down by 3% in sterling terms, compared to a 5% fall for the MSCI Europe and a 8.5% drop for the MSCI Japan. Nonetheless, MoneyWeek continues to favour European and Japanese stocks on a long-term view, since these markets offer better value: both the MSCI Europe and the MSCI Japan trade on a price/earnings (p/e) ratio of 14 times forecast earnings, while the MSCI USA trades on 16 times.
After several poor months, emerging markets only modestly underperformed the US in September, although the performance of individual markets varied greatly. India was broadly flat, partly because it’s far less exposed to the commodity downturn than many of its peers, while Brazil was down by 15% in sterling terms as the political fall-out from its corruption scandal worsened and calls for President Dilma Rousseff to be impeached grew.
We’re optimistic about emerging markets, including Brazil, on a long-term view, although the risks are high and they will always be volatile. The MSCI Emerging Markets index trades on 10.5 times forecast earnings – attractive relative to most other global markets.
Cash
The US Federal Reserve chose not to raise interest rates from their current record-low levels at its meeting in September. Fed officials, including Janet Yellen, said that the central bank is still likely to hike rates for the first time since 2006 by the end of this year, but there is clearly a significant risk that policymakers will delay again if markets remain unsettled. The timing of a first increase by the Bank of England is also uncertain: only a slim majority of forecasters now expect it to act in the first quarter of 2016, according to a Reuters poll.
However, inflation remains very low (the UK consumer price index was unchanged in September compared to a year ago), meaning that real (inflation-adjusted) returns on cash are relatively attractive compared to many other assets at present. Investors should continue to hold part of their portfolio in cash and seek out the highest rates they can get, by making the best use of fixed-term deposits, regular saver accounts, and the high-interest-paying current accounts that many banks are offering to attract new customers.
Bonds
The divergence between safer government bonds and riskier credit continued in September. Most developed-market government bonds saw yields fall (ie, prices rose). US 10-year Treasuries finished the month yielding 2.06%, while UK 10-year gilts yield 1.77%. But the spread between the yield on government bonds and high-yield corporate bonds and emerging-market debt rose, as investors began demanding a greater premium for lending to borrowers with weaker credit ratings.
US junk bonds posted a fourth successive month of losses, the first time that’s happened in more than two decades. We don’t believe this represents a good opportunity to buy into high-yield debt: spreads are likely to continue to increase and defaults rise as the bond-market excesses of recent years unwind.
Investors should limit their bond holdings to a small allocation of the safest government bonds, which are likely to perform well during a crisis, and not be tempted into chasing higher yields in an asset class that is still overpriced.
Precious metals
Gold ended the month little-changed, at slightly over $1,100/oz. With inflation quiescent and the eurozone crisis no longer in the headlines, the outlook for gold is not especially promising in the short term. However, investors should still keep a portion of their portfolio in gold as a hedge against further market volatility and the return of inflation in the longer term.
Commodities
The crisis at commodities trading giant Glencore has shown the difficulties facing this sector. Raw materials prices are at levels not seen for over a decade: copper fell to under $5,000 a tonne, its lowest level since the financial crisis, while iron ore fell back below $55 a tonne, having peaked at over $180 a tonne in 2011. But as overstretched firms go out of business or restructure, the supply glut will shrink. A quick recovery is unlikely, but it looks like the bottom may finally be approaching.