2018 was a very contrasted and frustrating vintage with nearly 90% of the financial instruments delivering negative performances. In 2019, the feat was, perhaps unsurprisingly, reversed: at the time of writing, all asset classes, from cash (in USD) to equities and from bonds to commodities, have produced positive returns this year! As a direct consequence, portfolio performance has improved significantly. In concrete terms, a naïve dollar-denominated portfolio composed of 50% equities and 50% bonds, which was down by more than 5% in 2018, rebounded in 2019 with a return of well over 10%.
Thus, it can be said that risk-taking has been generously rewarded this year. However, in terms of contribution to performance and as mentioned above, it is not only risky assets (equities, high-yield bonds, commodities, and hedge funds) that reaped the rewards. Counter-intuitively, as we were operating in an environment of historically low-interest rates at the beginning of the year, it was daring to gain exposure to the long end of both government and credit yield curves. Even so, the latter has produced gains that have not been seen since 2014. The 10-year U.S. Treasury, for example, generated a return of nearly 10%. On the corporate bond side (including high yield), the bold, who had allocated capital and over-weighted these specific asset classes, will have benefited from an exceptional return at the highest level in nearly 7 years.
It is always relatively easy to benefit from ex-post data and to draw down conclusions from it. In fact, as always, not everything has been so simple. As a reminder, uncertainties regarding the recovery of the economic cycle prevailed during the first three quarters of the year. We also expressed some reservations in our September letter entitled « Dichotomy between economic reality and stock market trends ». However, we left the door open to an increase in risk-taking and pleaded, in conclusion, for an upturn in the economic cycle.
Based on these observations, our Investment Committee tactically readjusted its model portfolios during the 4th quarter by substantially increasing its exposure to equities to the detriment of non-risky assets. This additional risk was justified by valuations that remained attractive, as well as by the prospect of higher returns on equities compared with other financial assets as the economic recovery gains pace in the new year.
The end of the year period represents an opportunity for our investment team to review its Strategic Asset Allocation. While the tactical vision allows the Investment Committee to decide on short-term adjustments (3 to 6 months), the strategic vision of SingAlliance, which has a time horizon of 5 years, allows us to determine which financial assets are expected to outperform over the long term.
On this occasion, we have implemented significant adjustments. The model portfolio in USD thus sees its allocations to the « Cash » and « High Yield Bond » adjusted downwards in favor of “Developed Market Equities”.
Among other things, this movement materializes the Investment Committee’s vision of the potential normalization of global yield curves. In concrete terms, bonds are very expensive and the 5 years total returns prospects for the entire fixed-income range seem extremely limited. In our global economic recovery scenario, supported by central bank activism and fiscal stimuli from the US, European and Chinese blocs, we are convinced that risky assets will generate higher returns than assets deemed to be non-risky. Against this backdrop, we favor equities and, to a lesser extent, commodities, and investments benefiting from these favorable market conditions.
One final thought about the expected 5-year annualized return of a « Balanced » portfolio in USD: this is a perilous exercise and an equation bearing many unknowns! It is, however, our duty to think about the different potential portfolio sources of return. Furthermore, during the process of optimizing a portfolio, we must seek the right balance between risk-taking and the assigned performance objective. As mentioned above, it turns out that with low or even negative interest rates, we expect a very low return contribution from the non-risky part of the portfolios. This situation will have a real impact and will further reduce the return expectations of the portfolios. Thus, we estimate that over a 5-year investment cycle, a « Balanced » portfolio in USD will produce an annualized return between 4% and 5%.
2019 being already behind us, the entire SingAlliance team joins me in wishing you a Happy New Year 2020.
Head of Investment Solutions,