The impact of Covid-19 on the global economy last year took even veterans of the finance sector by surprise. “I’ve been in finance since 1990,” says Anthony Raza, senior director and head of multi-asset strategy at UOB Asset Management (UOBAM). “I’ve never seen economic devastation like what we saw last year.”
Yet, optimism is in no short supply. Although the current waves of Covid-19 infections are surpassing prior waves, UOBAM believes the markets are confident for a sharp economic rebound in the wake of lockdowns, and that vaccines will finally quell the pandemic before the end of 2021.
In fact, economic recovery is entirely dependent on how successful countries are with their vaccine rollouts, says UOBAM in its 2021 Investment Outlook Seminar, held recently.
“After surviving a tumultuous 2020, markets are now looking forward to a healthier 2021,” says UOBAM in its outlook. “We expect vaccine rollouts to bring the pandemic under control with global synchronised economic growth to be supportive of markets.”
In his presentation, Raza puts forth that the year ahead will be driven by three key factors, chief among them the vaccine rollout. “[This will] not only improve the health of individuals, but also improve the health of economies.” Coming from a low base that was 2020, indicators like GDP and earnings are both expected to be growing at “significantly higher levels than we’ve seen in a long time,” he says.
All this growth, according to Raza, will be against the backdrop of “guaranteed low rates” for the next few years. “That combination is historically impossible to find… such supportive policy and above-average growth. So, we think this creates a healthier environment to invest in 2021,” he says.
Economic growth in 2021 should be at multi-year highs due to the low base in 2020 and the steady news of strong growth numbers should be supportive to market sentiments, notes UOBAM.
“We expect central banks to maintain low interest rates throughout 2021 and beyond. The low interest rate environment will continue to support the ‘reach for yield’ that will be supportive of risk asset valuations,” states UOBAM.
Looking ahead, the expected recovery is set to turn from hope into reality, according to UOBAM. “We think markets will shift from ‘trading on the hope of recovery’ to one driven by actual earnings and economic growth.”
Low interest rate environment
UOBAM notes that global markets have already performed well in 2020 on the expectation of a recovery in 2021. “We expect steady growth in economic activity and corporate earnings to create a more stable backdrop for investing in 2021.”
With interest rates at the current low, UOBAM expects investors to be pushed up the risk curve. “Fixed income investors will likely take more credit risk; investment grade investors will take more risks in high-yield assets and the majority will be prepared to shoulder more equity risk.”
As such, UOBAM suggests that investors be overweight on equities, credit and high-yield assets in 2021 but be more cautious on government bonds. “Generally, we are of the view that the overall outlook for Asia will be positive and hence our overweight in Asian equities, fixed income and currencies.”
Equities are set to shine, notes UOBAM, and are expected to be stable in 2021 on the back of strong recovery growth in economic activity and corporate earnings. In addition, positive news on the vaccine front and steady low interest rates will support valuations.
While bond yields are usually at risk during a recovery, UOBAM believes this cycle is different as the US Fed has signalled that it does not intend to respond even if inflation rises above target levels. “Fixed income yields are low, but they look set to deliver steady returns in 2021.”
In the year ahead, UOBAM expects to see more rotation instead of large upside in broad indices. “The types of companies that will prosper in 2021 are likely to be very different than those that outperformed in 2020,” they note. “There should be lots of stock-picking alpha opportunities and that tends to be healthy for alternative assets employing market hedging strategies.”
“While 2021 will be a more modest and more stable year, we think the top performers will be in the risk assets such as equities, credit and high yields,” writes UOBAM.
Aside from the positives, UOBAM is remaining neutral on commodities, weighed down by key sectors like energy, which may be “last in line” to normalise, along with travel.
Gold may remain a preferred lowrisk alternative, notes UOBAM, but the bullion’s returns are limited unless inflation picks up, “especially if interest rates go up without ever really seeing inflation risk”, says Raza. “If, in fact, we see inflation risk over the next couple years, gold is going to prove very valuable.”
Conversely, UOBAM is pessimistic on the outlook for cash, given how there’s no need to “sit on” much cash yielding near zero returns when there are so many other asset classes ripe for picking in a year of recovery. “Many markets are priced to near perfection. Cash could be attractive if there are significant disappointments to the market outlook.”
Asia and the US
Across regions, UOBAM is also more optimistic about Asia than the US in the coming year. “We do like Asia this year. It has underperformed by 150% in the last decade compared to the US. For the first time — in a long time — we’re neutral on the US and overweight on Asia,” says Raza.
“I think as we’re starting this decade, Asia is in position to recoup some of that underperformance. Asia has handled the pandemic better, it has a good economic trajectory and China’s becoming pretty much one of the strongest growth pillars of the world,” he adds.
With a new chief in the White House, President Joe Biden’s fiscal policy response looks set to be “much larger than what we saw in 2008” at the start of former US President Barack Obama’s term, says Raza.
The large amounts of fiscal spending expected may drive up inflationary pressures, says Raza. “With Biden coming in as president, he’s promising to do even more. I think there is the possibility that we have to track inflation; I don’t think we can dismiss that.”
That said, Raza notes that concerns over inflation have not appeared in decades. “In some way, I feel like I need to see it before I believe it… I think it’s fair to be a little bit sceptical.”
Calling the Democrat’s control of the Senate a “surprise”, Raza expects a thaw in US-China relations, among other benefits. “We get less rhetoric on the trade war; we get lots of stimulus that helps growth around the world.”
One of the downsides, however, is that it is likely that Democrats will increase corporate taxes, says Raza. While a slight increase in US corporate tax may not necessarily affect Emerging Market or Asian assets, Raza notes that it would weigh on US assets. “I think [corporate taxes] were cut a lot under the Trump presidency, and I think Biden doesn’t plan to push everything back to where they were but somewhere in the middle.”
Equities as a crystal ball
Raza recounts a question by one of his clients on how the markets can move so quickly from the devastation of the year past. “All those losses that were felt in 2020, where does that get registered? How can we be ignoring that? It seems that equity markets do not register any value to last year’s events.”
Raza explains this is because equities are forward discounting mechanisms. “Picture this: If you’re just buying any business out there, or you’re buying a coffee shop on the corner; if it had a bad year because of the pandemic, but every year going forward is expected to be more normal, then you’re going to value that based on what’s going to happen in the next 10 years, not what happened last year.”
“It seems pretty crazy in times such as now, but it’s true that if the vaccine rollout can occur, earnings by the second quarter are going to be as high as pre-crisis levels,” adds Raza.
