The March 2023 round of rate hikes at the FED, ECB, BOE and even the SNB only confirmed what the macro research from many investment managers inside RFPnetworks have been predicting for months. A recession in 2023 is inevitable. The soft landing everyone was hoping for may be harder than even the pessimists predicted. It leaves investors with one key question: How to position portfolios given the virtual possibility of a recession has become a reality? Inside RFPnetworks, institutional investors are researching multiple topics.
Tight labour markets are still a big problem in developed markets. It is a long term structural problem, with no quick solution. Added to wage inflation pressures, we have the latest banking crisis - or stress, as many investment manager prefer to describe the situation. Whatever your preferred adjective, the monetary solution to these two problems are in conflict.
Rising rates is effective at withdrawing credit from the economy, and therefore controlling inflation. But for bank balance sheets, rising rates makes funding and therefore credit more expensive, reducing corporate earnings across the board.
Many investment managers have interpreted the latest rate meeting comments and actions from the Central Bankers, as a strong signal that the policy trade-off today is firmly tilted towards controlling inflation, at the expense of growth. Their view is that a recession in 2023 is inevitable.
Investment Manager views on how to position portfolios for a recession vary by degree and carry many caveats.
Defensive positioning is a common theme - seek healthy balance sheets, consumer staples, healthcare, utility or minimum volatility stocks. And avoid cyclical stocks. This is the recession defence default tilt. However, the risk is that when the re-rating comes, investors will miss the bounce. The additional risk is that it may come quicker than expected. How to deal with market timing is being researched intensively by institutions inside our pro-research feeds. There are multiple solutions that tackle the beta issue.
The default defence for a recession is government bonds and investment grade corporates. Here we see divergence across investment manager recommendations. Some propose inflation linked bonds. Others argue that reducing portfolio duration is far more important right now. Diving deeper into model portfolio and asset allocation recommendations, there is a noticeable divergence across managers surrounding fixed income. The neutral positioning is broadly similar. The tactical positioning is not.
There is a lot of debate. A recession will impact funding costs, and default rates. But the seniority of loans and the securitisation techniques within CLO's may help should these burdens. The institutional research we see taking place in this space is more devoted to relative positioning - High Yield versus Loans. Europe versus U.S..
There are many themes at play. The recent re-pricing could be further impacted by more rate rises and softer supply. But investors are still focused on capturing the 'green-premium', so demand for sustainable buildings remains high. Institutional investors inside RFPnetworks seem to be focused on specific niche opportunities. Consequently, investment managers are responding by launching very creative new products.
Investors are still adjusting to the end of easy money and bull markets. For many, the period ahead is uncharted territory. They are on a learning curve. We see it as a positive that many investment managers are producing research on how to position portfolios in a recession. And that investors are researching these insights seriously. Let's hope they make the right decisions for their portfolios and clients.
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