Global asset strateGy

Global asset allocation & investment strateGy

Global asset allocation*

– n +

equities

Fixed income

commodities

cash

Notes:* 3-6 month horizon‘-‘ denotes maximum underweight, ‘N’ denotes neutral, ‘+’ denotes maximum overweight.

GloBAl Asset AllocAtion summARy

equities – overweightAs we head into the final stretch of 2014, investors start to focus on 2015. Consensus GDP forecasts for most parts of the world and consensus earnings forecasts for most regions indicate better growth in the coming year. In a world of improving growth we remain biased toward equity investments. We view equity valuations in many parts of the world as above average but not excessively so and traditionally markets do not start de-rating valuations until the end of an investment cycle. We use several models to help predict the economic cycle and our conclusion is we are at least a few years away from a new downturn. We remain overweight on equities with a bias towards the US and Asia.

Fixed income – underweightStronger growth and the start of some modest interest rate normalisation in the US make fixed income investments relatively less attractive at this stage in the cycle compared

with equities. At the same time, the levels of growth are modest and we do not think interest rate normalisation will be sharp or dramatic. Therefore we are not very bearish on fixed income investments. We expect that a gradual path to interest rate normalisation will create some modest headwinds to fixed income performance but believe that fixed income investments still have a place in most portfolios as a balance to the risks of low inflation and deflation. We remain underweight on fixed income with a bias toward emerging markets (EM).

commodities – neutralWhile commodities do well traditionally in the later stages of a growth cycle, we find that the combination of a strong US dollar and changes in the construction demand for Chinese property has resulted in a commodity outlook that is more complicated than usual. For this reason, we stay neutral on commodities.

05QUARTERLY INVESTMENT STRATEGYFourth Quarter 2014

UOB Asset Management

economic FoRecAsts

Actual Forecasts

2012 2013 2014 2015

World 2.1 2.2 2.5 (2.7) 3.0 (3.1)

united states 2.3 2.2 2.1 (2.2) 3.0 (3.0)

eurozone -0.7 -0.4 1.0 (1.1) 1.5 (1.5)

Japan 1.5 1.5 1.4 (1.5) 1.2 (1.2)

uK 0.3 1.7 3.1 (3.0) 2.6 (2.5)

china 7.7 7.7 7.4 (7.4) 7.2 (7.2)

india 4.8 4.7 4.7 (4.7) 5.4 (5.4)

Brazil 1.0 2.5 0.8 (1.3) 1.6 (1.8)

Russia 3.4 1.3 0.3 (0.5) 1.2 (1.8)

Actual Forecasts

2012 2013 2014 2015

World 2.8 2.5 2.5 (2.7) 2.8 (2.8)

united states 2.1 1.5 2.0 (1.8) 2.2 (2.1)

eurozone 2.5 1.3 0.6 (0.7) 1.2 (1.2)

Japan 0.0 0.4 2.8 (2.7) 1.8 (1.8)

uK 2.8 2.6 1.7 (1.8) 1.9 (2.0)

china 2.7 2.6 2.4 (2.5) 2.9 (3.0)

india 9.3 10.9 4.7 (4.7) 5.4 (5.4)

Brazil 5.4 6.2 6.3 (6.4) 6.2 (6.3)

Russia 5.1 6.8 7.2 (6.8) 6.0 (5.5)

Real GdP

cPi

Figures in brackets are as at 30 June 2014Note: All data are sourced from Bloomberg, Datastream and UOB Asset Management (UOBAM) unless otherwise stated, as at 8 September 2014.

Figures in brackets are as at 30 June 2014Note: All data are sourced from Bloomberg, Datastream and UOBAM unless otherwise stated, as at 8 September 2014.

06 QUARTERLY INVESTMENT STRATEGYFourth Quarter 2014

Please refer to the last page for the important notice & disclaimer.

economic indicAtoRs

Source: Bloomberg and HSBC, updated as at 8 September 2014Note: All data are sourced from Bloomberg, Datastream and UOBAM unless otherwise stated, as at 8 September 2014.



42

46

50

54

58 Brazil Russia India China

42

46

50

54

58US Euro Zone Japan

ADVANCED ECONOMIES EMERGING ECONOMIES

*For some economies, annualised GDP data were estimated by UOBAM. For India, data are in year-on-year percentages (YoY%). Note: All data are sourced from Bloomberg, Datastream and UOBAM unless otherwise stated, as at 8 September 2014

Pmi Pmi

Real GdP (QoQ%, saar)* Real GdP (QoQ%, saar)*

cPi (YoY%) cPi (YoY%)

-10

-5

0

5

10

15US Euro Zone Japan

-2

0

2

4

6

8

10


-2

-1

0

1

2

3

4

5 US Euro Zone Japan

0

2

4

6

8

10


Brazil Russia india chinaus euro Zone Japan

us euro Zone Japan Brazil Russia india china

us euro Zone Japan Brazil Russia india china



-‐15

-‐10

-‐5

0

5

10

15

Dec10

Dec11

Dec12

Dec13

US Euro Zone Japan

-10

-5

0

5

10

15

20

Brazil Russia India China


iP (YoY%) iP (YoY%)

Retail sales (YoY%) Retail sales (YoY%)

-5

0

5

10

15

20

25 Brazil Russia China

-20

-15

-10

-5

0

5

10

15

20

US Euro Zone Japanus euro Zone Japan Brazil Russia india china

Brazil Russia chinaus euro Zone Japan



Equities 5.6%Bonds 4.2%

Commodities -0.5%Cash 0.2%

90

95

100

105

110

31-D

ec

31-J

an

28-F

eb

31-M

ar

30-A

pr

31-M

ay

30-J

un

31-J

ul

31-A

ug

Inde

xmARKet PeRFoRmAnce

Asset class indices (Rebased 100 on 31 December 2013)

Note: All data are sourced from Bloomberg, Datastream and UOBAM unless otherwise stated, as at 8 September 2014


equity indices (Rebased 100 on 31 December 2013)

equity indices (Rebased 100 on 31 December 2013)

Fixed income indices(Rebased 100 on 31 December 2013)

Fixed income indices(Rebased 100 on 31 December 2013)

equities 5.6%Bonds 4.2%

cash 0.2%commodities -0.5%

ind

ex

ind

ex

AC World 5.6%

USA 8.4%

Europe -0.4%

Japan -2.1%

EM 8.5%

85

90

95

100

105

110

31-D

ec

31-J

an

28-F

eb

31-M

ar

30-A

pr

31-M

ay

30-J

un

31-J

ul

31-A

ug

Inde

x

em 8.5% usA 8.4% Ac World 5.6%

europe -0.4%Japan -2.1%

ind

ex

G7 GBI 4.2%

Sovereigns 4.5%Investment 4.4%

High Yield 5.5%Singapore Govt 4.7%

Asia 7.7%

98

100

102

104

106

108

30-D

ec

30-J

an

28-F

eb

31-M

ar

30-A

pr

31-M

ay

30-J

un

31-J

ul

31-A

ug

Inde

x

Asia 7.7%

High yield 5.5%singapore Govt 4.7% sovereigns 4.5% investments 4.4% G7 GBi 4.2%

Sovereigns 9.8%

Investment 9.2%

High Yield 6.5%

Corporate 7.7%

98

100

102

104

106

108

110

112

30-D

ec

30-J

an

28-F

eb

31-M

ar

30-A

pr

31-M

ay

30-J

un

31-J

ul

31-A

ug

Inde

x

sovereign 9.8% investment 9.2% corporate 7.7% High yield 6.5%

EM 8.5%

AsiaxJapan 9.0%

EM Latin Am 14.5%

EM Europe -8.9%

80

85

90

95

100

105

110

115

31-D

ec

31-J

an

28-F

eb

31-M

ar

30-A

pr

31-M

ay

30-J

un

31-J

ul

31-A

ug

Inde

x

em latin Am 14.5%AsiaxJapan 9.0%em 8.5%

em europe -8.9%

ind

ex



-9 -7 -5 -3 -1 1 3 5 7

Swedish Krona

Euro

Swiss Franc

Canadian Dollar

Norwegian Krone

British Pound

Singapore Dollar

Japanese Yen

Australian Dollar

% change versus USD from 31 December 2013 to 29 August 2014

98

99

100

101

102

103

104

Inde

x

GSCI Light Index -0.5%

Gold 6.8%

Industrial Metals 4.8%

Agriculture -7.9%

Energy -2.3%

90

95

100

105

110

115

120

31-D

ec

31-J

an

28-F

eb

31-M

ar

30-A

pr

31-M

ay

30-J

un

31-J

ul

31-A

ug

Inde

x


COMMODITIES AND CURRENCIEScommodity indices (Rebased 100 on 31 December 2013)

dollar index spot (Rebased 100 on 31 December 2013)

currency Return (%) currency Return (%)

Gold 6.8%industrial metals 4.8%

Gsci light index -0.5%energy -2.3%

Agriculture -7.9%

% change versus usd from 31 december 2013 to 29 August 2014 % change versus usd from 31 december 2013 to 29 August 2014

-12 -10 -8 -6 -4 -2 0 2 4 6

Russian Ruble

South African Rand

Taiwan Dollar

Mexican Peso

Thai Baht

Chinese Renminbi

Indonesian Rupiah

Korean Won

Inddian Rupee

Brazilian Real

% change versus USD from 31 December 2013 to 29 August 2014

Brazilian Real

indian Rupee

Korean Won

indonesian Rupiah

chinese Renminbi

thai Baht

mexican Peso

taiwan dollar

south African Rand

Russian Ruble



mARKet indicAtoRs

EQUITIES

DEVELOPED MARkETS EMERGING MARkETS

*Mean and SD are based on data from 1998.


earnings Revision by Regions for Fy2 earnings Revision by Regions for Fy2

earnings Revision by sectors for Fy2 earnings Revision by sectors for Fy2

earnings yield Ratio* earnings yield Ratio*

*Mean and SD are based on data from 1998.

-4 -3 -2 -1 0 1 2 3

CANADA

AUSTRALIA

US

JAPAN

WORLD

EUROPE

% Change

Revisons in previous 2 mths

Revisions last mth

-6 -5 -4 -3 -2 -1 0 1 2 3 4

RUSSIA

EMEA

INDIA

CHINA

EMERGING MARKETS

AC ASIA EX JAPAN

LATIN AMERICA

BRAZIL

% Change


Revisions last mth

-4 -3 -2 -1 0 1 2

Health Care

Energy

IT

Telecom

MSCI AC World

Financials

Cons Staples

Industrials

Utilities

Cons Discr

Materials

% Change

Revisons in previous 2 mthsRevisions last mth

-8 -6 -4 -2 0 2 4

Health Care

Telecom

Energy

Utilities

Financials

MSCI Emerging Markets

Cons Staples

Cons Discr

IT

Industrials

Materials

% Change


Revisions last mth

Aug-14,2.8x

Mean,2x

Mean+1SD,3.2x

Mean-1SD,0.9x

0.0

1.0

2.0

3.0

4.0

5.0

6.0

Dec

-98

Dec

-99

Dec

-00

Dec

-01

Dec

-02

Dec

-03

Dec

-04

Dec

-05

Dec

-06

Dec

-07

Dec

-08

Dec

-09

Dec

-10

Dec

-11

Dec

-12

Dec

-13

Revisons in previous 2 mthsRevisions last mth




P/BV vs Roe by Region

P/BV vs Roe by sector

Pe vs Growth by Region

Pe vs Growth by sector

AC World

World

US

Europe

Japan

AustraliaCanada

Asia Ex Japan

Latin America

EMEA

1.0x

1.5x

2.0x

2.5x

8% 9% 10% 11% 12% 13% 14% 15% 16% 17%

P/B

V -F

Y1 (X

)

ROE - 2yr Forward Avg. (%)

AC World

World

US

EuropeJapan

Australia

Canada

Asia Ex Japan

Latin America

EMEA

8x

9x

10x

11x

12x

13x

14x

15x

16x

7% 8% 9% 10% 11% 12% 13% 14%

PER

FY2

(X)

EPS CAGR FY1-3 (%)

Consumer Discr

Consumer Staples

Energy

Financials

Healthcare

Industrials

IT

Materials

Telecom Svcs

Utilities

AC World

0.8x

1.2x

1.6x

2.0x

2.4x

2.8x

3.2x

3.6x

4.0x

9% 11% 13% 15% 17% 19% 21%

P/B

V -F

Y1 (X

)

ROE - 2yr Forward Avg. (%)

Consumer Discr

Consumer Staples

Healthcare

Telecom Svcs

Materials

Industrials

Energy

IT

AC World

Financials

10.0x

11.0x

12.0x

13.0x

14.0x

15.0x

16.0x

17.0x

18.0x

5% 7% 9% 11% 13% 15% 17%

PER

(FY2

)

EPS CAGR FY1-3 (%)

OTHERS



0

1

2

3

4

3M 2Y 5Y 10Y 20Y 30Y

Mid

Yie

ld (%

)

9/1/2014 Beginning of Year

0

1

2

3

4

3M 2Y 5Y 10Y 30Y

Mid

Yie

ld (%

)


us treasury curve euro Benchmark curve

Japan sovereign curve developed markets yield curve

FIXED INCOME

country interest Rate

current Rate (%pa)

latest meeting

change at latest mtg (bp)

last change

next meeting

united states Fed Funds Target Rate US 0.250 30 Jul 2014 - 16 Dec 2008

(-75bp) 18 Sep 2014

eurozone Refinance Rate 0.050 4 Sep 2014 (10) 4 Sep 2014 (-10bp) 2 Oct 2014

Japan BOJ Overnight Call Rate 0.100 17 Jun 2013 - 19 Dec 2008

(-20bp) -

united Kingdom Uk Offical Bank Rate 0.500 5 Sep 2014 - 5 Mar 2009

(-50bp) 9 Oct 2014

Brazil Brazil Selic Target Rate 11.000 3 Sep 2014 - 2 Apr 2014

(+25bp) 16 Jul 2014

Russia Russia Refinacing Rate Announcement 8.250 - - 13 Sep 2012

(+25bp) -

india Reverse Repo Rate 7.000 5 Aug 2014 - 28 Jan 2014 (+25bp) 30 Sep 2014

china Interbank Repo 1D 2.820 - - - -

south Africa South Africa Repo Avg Rate 5.750 5 Sep 2014 - 17 July 2014

(+25bp) 18 Sep 2014

Central Bank Interest Rate

Source: Bloomberg, updated as at 8 September 2014

-1

0

1

2

3

4

3M 2Y 5Y 10Y 20Y 30Y

Mid

Yie

ld (%

)


-1

0

1

2

3

4

3M 2Y 5Y 10Y 30Y

Mid

Yie

ld (%

)

US Japan Europe

9/2/2014 Beginning of year 9/1/2014 Beginning of year

9/1/2014 Beginning of year us Japan europe



DEVELOPED MARkETS EMERGING MARkETS10 year Govt yield (%) 10 year Govt yield (%)

Note : All data are sourced from Bloomberg, Datastream and UOBAM unless otherwise stated, as at 8 September 2014

Bond spread Bond spread

0.00

1.00

2.00

3.00

4.00 US Euro Japan UK

2.00

4.00

6.00

8.00

10.00

12.00

14.00 Brazil Russia India China

0

200

400

600

800

1,000

1,200

Basi

s Po

ints

Bond Spread EM High Yld

EM Investment Grade

0

200

400

600

800

1,000

Basi

s Po

ints

Bond Spread DM InvestmentGradeDM High Yld

us euro Japan uK Brazil Russia india china

dm investment Gradedm High yld

em High yldem investment Grade



GLOBaL INVeSTMeNT STRaTeGY: LOOKING BEYOND THE WAVES

summaryHeadlines on growth remain positive. US growth continues to improve, Europe has rebounded from recession and Asian growth has improved. The global environment remains clear and attractive for equity investment and we maintain our overall asset allocation views.

the us continues to lead the world. The US reported weak growth in the first quarter and 2014 GDP expectations were revised down accordingly. However, the downward revisions have hidden the fact that the run rate of US growth is expected to return to three per cent levels on a quarterly basis and thus growth in the US is no longer ‘sub-par’. In fact, many economic indicators and data series have posted strong jumps in recent periods and bode well for US prospects. Economic trends are more mixed around the rest of the world and many regions are counting on the strong US growth and the stronger US dollar to give them a boost.

A path of interest rate normalisation will start in 2015. As US data improves and employment trends look healthier, expectations are that the US Federal Reserve (Fed) will finally start to normalise its monetary policy. In 2014, the Fed has steadily wound down its quantitative easing (QE) programme (expected to end in October 2014) and in 2015 it will likely start a path of raising interest rates at a gradual pace. As US rates and US dollar trends influence heavily global currencies and rates, this will be a trend that will weigh on global markets. While there will be some volatility in fixed income and equity markets, we expect the path of increasing interest rates to be gradual and the volatility to be contained.

deflation risks growing below the surface. While the headlines on growth remain healthy, there has been a problem brewing with inflationary trends (or lack of) across developed markets. Low inflation in Europe stands out as the most worrisome trend but despite aggressive monetary policies, Japan and the US have also not yet been able to achieve inflation targets. If the world slips into true deflation, fixed income becomes the more attractive asset class.



Actual Forecasts

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

United States 1.80 -0.30 -2.80 2.50 1.60 2.30 2.20 2.00 3.00 2.90

Euro Area 2.90 0.40 -4.40 2.00 1.60 -0.70 -0.40 1.00 1.50 1.60

Japan 2.18 -1.00 -5.53 4.65 -0.48 1.50 1.53 1.40 1.20 0.80

China 14.20 9.60 9.20 10.40 9.30 7.70 7.70 7.40 7.20 7.03

India 9.65 8.18 6.60 9.35 7.68 4.83 4.73 4.70 5.40 6.30

Brazil 6.08 5.20 -0.32 7.59 2.76 1.03 2.49 0.90 1.60 2.50

Russia 8.50 5.20 -7.80 4.50 4.30 3.40 1.30 0.30 1.30 2.00

GDP forecasts continue to point to a global recovery

Source: UOBAM and Bloomberg. updated as on 3 September 2014

OutlookAs we start the fourth quarter of 2014, the headlines and consensus forecasts on global growth remain healthy and we maintain our positive overweight view on equities. However, below the headlines, we see complicated trends of low inflation and deflation brewing which are critical to monitor. For now, we see enough policy stimuli which should be able to combat low inflation or deflation risks. But if the policies prove ineffective, growth and equity investments will lose their attractiveness.

Headline growth and consensus forecasts improving into 2015While there were growth disappointments in the first quarter of 2014, recent trends and leading indicators helped provide a basis for a confident outlook in economic trends. Most notably, the US is expected to see GDP growth rise from two per cent in 2014 to three per cent in 2015. Growth levels of two per cent have been considered “sub-par” but a three per cent growth level would be considered a return to a more normal level of growth. Further, only the first quarter of 2014 was weak for the US and it is expected to run at a three per cent trend for the rest of the year.



yields. It is also a reflection of the market reality that growth and inflation will have to pick up even more to impact long-term UST. While we find the growth trends and some signs of inflationary trends normalising, it appears that the broader market still lacks conviction on US growth and it will take longer than expected for the market to price in our expected growth levels.

There are signs that the Fed is increasingly of the view that employment is healing enough and that it may begin a process of interest rate normalisation. The first step in this process was started at the end of 2013 when the Fed started to wind down its QE programme. We expect the programme to end by October 2014. The next phase of policy normalisation will be the increase of the Fed funds rate which we expect to start by mid-2015.

key trends that are most convincing to us and are likely to be the drivers of the policy changes are the trends in employment, credit growth and prices in key core segments of the economy. Unemployment is likely to fall to a range of five per cent to six per cent by early-2015. This is a range that has triggered rate increases in previous cycles. Bank credit expansion has been lacklustre since the crisis in 2008 but has appeared finally on a path to grow at a high single-digit level in 2014. Bank credit growth is a signal that the ‘market’ between savers and borrowers is finally starting to clear and that there are enough borrowers to justify an increase in interest rates. Borrowers are saying they have enough confidence to borrow at zero per cent. Next year, the Fed is likely to test if there is enough confidence for borrowers to borrow at one per cent to two per cent.

Other key trends that support the start of interest rate normalisation involve the increases in many core prices tracked by most economists. Most importantly, wages are increasing, notably in key segments such as manufacturing where wages increased from two per cent at the start of 2014 to 2.4 per cent by the middle of the year. Prices of primary residential rents have picked up from 2.8 per cent (CPI rate) to 3.3 per cent rates. Overall inflation has been increasing

European growth rebounded from recessionary levels in 2013 and while there have been some concerns on recent leading indicators, consensus expectations are still for further improvements in 2015. The largest emerging markets suffered some growth weakness in late 2013 and early 2014 but expectations are also for improvements in 2015.

On top of a fairly solid global growth outlook, there have been leading indicators in the US that could be described as “blowout” reports and these could be signalling further improvements for the US economy. The “blowout” signals include the Institute for Supply Management (ISM) report which jumped unexpectedly to a level of 59 in August 2014, up from the low 50’s level earlier in the year and matching the highest levels achieved in the recovery. Durable goods surged 22 per cent in August and while inflated by some big transport orders, this reflects some healthy economic activity. Several employment indicators, including the unemployment claims, the pace of new jobs in non-farm payrolls and the job opening surveys, are at the strongest levels achieved in over a decade. The unemployment rate, at 6.1 per cent as at August 2014, still has room for improvement but the rate of improvement has been better than expected.

Expectations for US growth are already healthy at three per cent for 2015. However, if the more recent indicators continue to remain at elevated levels in the next couple of months, we would expect that there is room for US GDP forecasts to be raised further towards 3.5 per cent. For now, we are expecting a three per cent growth but see upside risks that we are monitoring.

us growth implies us will start a path of interest rate normalisation US employment, growth and inflation trends have all increased over the past quarter but surprisingly, long-term yields on the 10-year US Treasuries (UST) have remained at low levels of close to a 2.5 per cent average yield as at early September. Our earlier long-term target for the 10-year UST yield had been for at least three per cent by the end of 2014 but we now reduce our year-end target to a range of 2.65 per cent to 2.85 per cent. This lower target is due partly to the effects of European low yields pulling down US



as well. Core Personal Consumption Expenditures (PCE) inflation monitored by the Fed increased from 1.1 per cent at the start of the year to 1.5 per cent by the middle of the year. Core CPI is almost at the Fed’s two per cent target after climbing to 1.9 per cent by mid-year.

To be clear, inflation and growth trends are not excessively strong and it would be wrong to sound alarm about the trends versus the current policy stance. However, key economic indicators seem strong enough to warrant the inclusion of interest rate increases as part of our investment views. It is also important to track whether growth is strong enough to warrant a fast pace of rate increases over the coming year or at a slower pace than we have seen before. Our view remains that growth is strong enough to start the increase in rates but insufficient for an expectation of a steep path of increases throughout the year.

Interest rate cycles in the rest of the world are more mixed. Most developed markets are not likely to raise rates in the next year and some emerging markets have already raised rates to some degree over the past year. Nevertheless, with the US dollar being the largest reserve currency in the world, the start of an increase in the US rate cycle should have significant effects on most regions. We would expect that either the currencies of other regions will depreciate versus the US dollar (as we would expect in Europe and Japan), or interest rates will see some further increases (as we would expect in some emerging markets).

Underlying anxiety over deflation still weighing on markets Central banks in developed markets have been very aggressive in expanding their balance sheets over recent years. Most notably, the Fed’s balance sheet is up 100 per cent over the past two years and the Bank of Japan’s balance sheet is up 75 per cent. The European Central Bank (ECB) was aggressively expanding its balance sheet on the back of the long-term refinancing operation (LTRO) programme in 2012 but as banks paid down its LTROs in late 2013 and early 2014, the ECB’s balance sheet has declined again.

Despite the aggressive central bank policies, inflation in the developed markets remains very low. The economist Milton Friedman famously said that “inflation is always and everywhere a monetary phenomenon” and most economists still accept that today. Many economists are surprised and concerned that the aggressive actions have resulted in such small effects on inflation. While the US core PCE inflation index has improved, it is still below its targets. Japan’s inflation levels are only marginally above one per cent and after years of deflation, it is not clear that this one per cent level is sustainable. Alarmingly, Europe’s inflation has fallen to very low levels. Core CPI has fallen below one per cent and overall CPI has fallen to 0.5 per cent. The deflationary fear that is brewing among investors is that if these aggressive central bank policies have not stabilised inflation, deflation may be a bigger risk than expected. Also, the region that appears to have the greatest risk of low inflation is the Eurozone where the central bank has the most constraints. While the ECB has announced quantitative measures to extend a targeted LTRO programme and to purchase asset-backed securities (ABS), it remains unclear how fast and how large a scale these programmes will be implemented and if they will be enough to stop the deflationary trends.

Our view is that US growth is strong enough to support inflation in the country and that Japan’s QE is aggressive enough for us to expect more inflation. However, it is not clear if the ECB has done enough to stabilise inflation.

Source: UOBAM, Bloomberg, 1 September 2014

Global Central Banks’ Balance Sheets

US Federal ReserveBank of JapanECBBank of EnglandSwitzerland Central Bank



Assessment In summary, the macroeconomic environment still offers healthy growth trends that are conducive to growth in corporate profitability, resulting in an attractive part of the economic cycle for equities. At the same time, we expect growth to push up the market in terms of long-term yields and the Fed to start to normalise short-term interest rates. Rising rates would provide a headwind to fixed income markets, though we are quick to mention that we expect only a gradual increase in rates and do not expect the headwind to fixed income to be very strong. Overall, such an environment of healthy growth and rising rates is clearly favourable to equities over bonds and we stay with our view to be overweight on equities.

Within equities, we are most overweight on the US, neutral on Asia and underweight on most other regions including Europe, Japan and Latin America. We view valuations in the US as slightly above average but they are within our expectations at this stage of the cycle.

Within fixed income markets, we prefer credit to government bonds, hard currency bonds to local currency bonds and Asia to most other markets.

Overall, the key headline macro data points decidedly to an equity growth environment. However, we are keeping an eye on deflationary trends which have the potential to reverse our investment strategy should deflation really take hold in developed markets. In the absence of these risks, we would argue that this is the clearest stage in the cycle to advise an asset allocation strategy that is overweight on equities.

The deflationary risk has a critical impact on our strategy. As part of our asset allocation strategy, we seek out markets that are continuing to deploy an equity-focused strategy through the expansion phase of their investment cycle. However, if a country or region falls into deflation, then our strategy would switch to a fixed income focus. We would argue that Japan’s investment markets in the past couple of decades have provided an outline of what other regions that fall into deflation may experience. In Japan’s case it suffered many years of weak equity market performance. While nominal interest income on Japanese fixed income securities achieved only low yields, the deflation provided effectively healthy real yields (i.e. the real yield being the stated yield minus the inflation rate. The real yield climbs when inflation turns negative.). Further, in an environment of deflation, the currency starts to strengthen as it prices in inflation differences, which was a clear pattern for the Japanese yen over the prior two decades.

Geopolitical RisksWhile we have expressed a positive view on global macroeconomic trends, it is clear that tail risks (i.e. lower probability but potentially significant risk events) remain in global markets. As at the end of 2014, the most significant risks appear to be geopolitical risks.

The conflict in Ukraine has the potential to draw in Russia and trigger more European sanctions that could affect negatively the economies in both Europe and Russia. The conflict in Iraq threatens to draw the US into another messy, expensive and drawn out conflict. Israel’s conflict in Gaza has the potential to trigger broader Middle East conflicts. Scotland’s vote on independence could introduce political uncertainty to the Uk and Europe as a whole.

Generally, our view is that it almost never pays to overreact to geopolitical risks. Even in the biggest wars and conflicts over the past several decades, it did not pay to change investment strategy in the face of major conflicts. Nevertheless, investors should be mindful of the near-term volatility which the risks can trigger. Specifically, we continue to view most of these risks as lower probability events without dismissing them.



Date post:	16-Oct-2021
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