Modest returns but no recession

World’s largest investor more upbeat than most about global financial fears.

Investors face plenty of uncertainty, but it’s not all doom and gloom, according to the world’s largest investor BlackRock.

Blackrock’s Managing Director and Head of Investment Strategy David Griffith made a flying visit to New Zealand this week to speak at the ASB’s Inaugural Investor Conference in Auckland.

He told the conference that while some commentators talk about the risks of a major global slow down, BlackRock is more upbeat.

Three key themes for investors identified by BlackRock are rising protectionism with the US/China trade war at its centre, a stretching of the current economic cycle led by a dovish tilt by central banks, and the need for resilient portfolios that can withstand a variety of adverse conditions.

Stretching the cycle Risks do exist. However BlackRock is not predicting economic expansion in the US to end any time soon. “It has been one of the longest slowest economic recoveries in history,” said Griffith.

BlackRock expects central banks to use monetary policy to cushion the slowdown, which could help stretch the current cycle for longer.

Griffith cautioned investors not to expect the level of share market performance they’ve seen over the past year where the NZX rose by 23 per cent. That growth cannot be maintained indefinitely.

“We are saying we need to be a bit more modest in expected returns from global equity markets,” Griffith said. “We should expect four to five per cent earnings yield and five to six percent expected return from (global) equities. That is our best estimate over the next 10 years.”

If it wasn’t for the US/China trade war, which is starting to have an impact on economies and markets, equity prices would be even higher. “The trade war is holding back markets,” says Griffith. “Ordinarily without trade war we would expect equity prices to be even higher than where they are based on underlying economic growth.”

Griffith pointed to a BlackRock chart that measures the mentions of trade war in financial press and on Twitter. “We can measure whether or not the context around trade war is positive or negative,” said Griffith. “It all feeds up into global geopolitical risk indicators, which are looking a bit elevated right now.

A new norm? A recurring theme at the conference was the impact of the interest rates, which have been heading downwards since the 1980s. Interest rates have fallen roughly 15 per cent in that time.

For 30 years central banks used monetary policy to push down inflation. But now we find ourselves in a situation where inflation is too low from the perspective of many central banks. Interest rates are low, and in some cases are in negative territory, as central banks try and push inflation in the opposite direction, Tennent-Brown said

Chris Tennent-Brown, ASB Wealth Senior Economist pointed out to conference goers that interest rates can’t continue to decline as they have over recent decades. Tennent-Brown cited a Bank of England chart dating back more than 400 years, which indicated that the high interest rates associated with runaway inflation of the 1970s was an aberration and not the norm.

Plenty of risks, but a recession is not the core view Markets wobbled early in Q4 last year and began to price in a risk of global slow down. At the time Blackrock wasn’t so convinced. “Clearly markets got ahead of themselves in Q4. (But) we thought (fears of a recession) would be unfounded and to date it hasn’t happened,“said Griffith. “Our view is we don’t think recession is on the horizon, at least over the next year or so,” said Griffith.

None-the-less BlackRock considers the risks of significant global slow down are starting to rise and at the same time central banks are struggling to find effective tools to stimulate their economies. “Central banks are losing the ammunition,” Griffith said. “Rates are low and central banks are using nonstandard policy measures, which are a bit concerning.”

A yield starved world Investors at the conference heard that they may need to focus more on diversification in the current low interest rate environment. Interest rates on low risk deposits are now back at the low levels last seen in the 1960s. Bond yields are similarly low in most parts of the world. The big issue for investors to factor into their thinking is just how low interest rates are and how long they’re expected to stay low.

Griffith and other speakers pointed to higher yielding bonds being challenging to find with half of developed market bonds paying 1 per cent or less. Around one third of government bond debt is trading with a negative yield.

Bond yields may be in unchartered waters, yet despite low and even negative yields in some markets, bonds still have a place in portfolios, Griffith said. Look beyond the headlines A recurring argument from Griffith, Tennent-Brown and other speakers including ASB’s General Manager of Wealth Jonathan Beale, was that investors need to look beyond the noise generated by negative headlines when assessing markets and investments.

“Despite all the uncertainty we are experiencing really good returns”, Griffiths said.

Investors need to focus on their own goals and their own timeframes rather than the latest headlines, concluded Tennent-Brown.

Hear all of the presentations in full on ASB’s website.