By DeFred Folts III, Managing Partner Chief Investment Strategist, and Eric Biegeleisen, CFA, Portfolio Manager Deputy Director of Investments
Prospects for American equities improved somewhat, but not uniformly. Valuations continue to be near all-time highs for large-cap US growth stocks, which have benefited from a prolonged regime of ultra-low interest rates. However, cyclical value-oriented stocks offer more attractive valuations. In addition, if interest rates continue to rise, these stocks may prove to be less vulnerable to a slightly higher interest rate environment and may perform well. At the next FOMC meeting in November, the Fed may announce the timing and extent of its reduction in asset purchases. For now, markets have apparently adopted the Fed’s alleged course of action somewhat in the wake. However, as with previous phased-down announcements, markets may still sell lower on this news. Research on the 3EDGE model will focus on any signs of regime change induced by potential changes in inflation expectations and monetary policy in the coming months.
?? Japan stocks saw a strong recovery in September in the wake of Prime Minister Yoshihide Suga’s resignation, as market participants hoped for a new face with a different approach to handling the stalled economy and lackluster coronavirus response. Instead, in a surprising result, Fumiko Kishida, a former foreign minister, won the election and he started discussing policies unfavorable to the stock market, such as higher taxes on capital gains. As a result, Japanese stocks suffered another setback. However, the new management can still tackle these issues more effectively, and it is also possible that the Bank of Japan will add additional stimulus to the Japanese economy.
Prospects for European equities softened somewhat. As Europe experiences its fastest rise in prices in more than a decade, risks from rising inflation may cause the ECB to tighten further to control inflationary pressures, reducing thus monetary stimulus, which could have a negative impact on European equities. In addition, Europe could face a harsh winter with the potential for natural gas shortages leading to spikes in energy costs – further exacerbating their inflation problem.
?? Indian stocks continue to show positive investor psychology alongside favorable economic conditions, including the steepening of the yield curve measure. The accommodative monetary and fiscal policies are expected to continue as the next elections approach.
Prospects for Chinese equities remains unfavorable. Recent restrictions imposed by the Chinese government have increased investor uncertainty. In addition, insolvency issues with Chinese real estate development company Evergrande and other Chinese real estate developers have impacted the cost of borrowing for many Chinese companies. Recently, China’s high yield bond rates exceeded 15%, higher than in the 2008 financial crisis and well above the US bond rate of around 4%. As the Chinese government has begun to explore approaches involving asset sales and debt restructuring, the fallout could further weaken an already sluggish Chinese economy.
â¶ The risk / return trade-off of US Treasuries remains unconvincing as the entire yield curve for Treasuries continues to yield less than the expected inflation rate. The recent rise in yields underscores the risks associated with longer term fixed income investments. In addition, any rise in the 10-year US Treasury yield, perhaps driven by higher inflation expectations or the Fed’s tapering, would cause bond principal to depreciate.
â¶ With credit spreads close to historically low levels, the yield associated with investment grade and high yield corporate debt markets presents unattractive risk / reward tradeoffs. Unsurprisingly, companies took advantage of the extraordinarily low interest rate environment to issue more debt. For example, $ 786 billion of unwanted bonds have been issued in the United States so far in 2021, surpassing the previous full-year high set in 2008. If the global economy slows down from here, the Corporate spreads could widen, causing painful losses.
â¶ Although gold has struggled so far in 2021, it remains relatively attractive and continues to be supported by negative real yields (nominal yields minus expected inflation). Additionally, concerns about spike in growth and an uneven recovery in labor markets could delay the Fed’s plans to scale back. However, if inflation turns out to be more persistent than transitory, the Fed will have to perform a delicate balancing act to resolve its dual mandate of monetary tightening to control rising inflation. may slow growth while pursuing a lax policy to encourage growth may increase inflation. expectations.
â¶ Commodities maintain a rather positive outlook. Global supply shocks continue to push prices upward across the commodity complex, increasing the upside risk to the outlook for global inflation. The price of a barrel of oil recently hit its highest level since 2014, and soaring natural gas prices have also raised the prospect of increased demand for petroleum products as winter approaches. At the same time, a potential slowdown in China could somewhat offset this surge, as Chinese demand for commodities has been a major growth engine for the global economy.
DISCLOSURES: This commentary and analysis are intended for information purposes only and are dated October 8, 2021. This commentary does not constitute an offer to sell or a solicitation of an offer to buy any securities. The views expressed in View From the EDGEÂ® are those of Mr. Folts and Mr. Biegeleisen and are subject to change without notice in response to changing market conditions. This commentary is not intended to provide personal investment advice and does not take into account the unique investment objectives and financial situation of the reader. Investors should only seek investment advice from their individual financial advisor. These observations include information from sources that 3EDGE believes to be reliable, but the accuracy of such information cannot be guaranteed. Investments comprising common stocks, fixed income securities, commodities, ETNs and ETFs involve a risk of loss that investors should be prepared to bear. Investing in the 3EDGE investment strategies involves substantial risks and there can be no assurance that the investment objectives of the strategies will be achieved. Real assets (gold and commodities) include precious metals such as gold as well as investments that operate and derive a large portion of their income from real assets e.g. MLPs, metals and mining companies mining, etc. Medium-term fixed income securities include fixed income funds with an average maturity greater than 2 years and less than 10 years. Short-term fixed income securities and cash include cash, cash equivalents, money market funds and fixed income funds with an average term of 2 years or less. Past performance does not represent future results.
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