Global Balanced portfolio positioning intra-quarter update as of 6/16/2020
Increased economically-sensitive/trimmed late-phase, defensive U.S. equity sector exposures; added to overall equity exposure funded by modest reduction in Treasury fixed-income exposure
June 16, 2020
We believe that an economic recovery is underway. Recent positive trends in some key high-frequency economic data mean we have now begun to see improvement in each of the key types of data we have been tracking to identify an economic rebound. In particular, a bounce-back in weekly credit and debit card data indicates that overall consumer spending is recovering faster than traffic at brick and mortar stores, with ecommerce and home-related products as areas of strength. Additionally, given the slight gain in payrolls in the May employment report (versus a consensus expectation for a decline), the skew of job losses to date toward lower earners, and reduced consumer spending in March and April (which created additional savings), we expect consumers will have about half a trillion dollars of additional spending power going into the fall of 2020. That is more than 3.4% of 2019 personal consumption expenditure, and we believe it should support a continued rebound in consumer spending.
Added to economically-sensitive U.S. equity sector exposure: As the economic recovery gains traction, we see an opportunity to add to more economically-sensitive, early-phase U.S. equity sectors that have underperformed year-to-date, specifically Financials and Industrials. We believe U.S. Financials sector earnings could substantially outpace consensus expectations in 2021, in part, due to banks’ reduced need for additional loan loss provisions, and because capital markets firms should benefit from increased trading activity, debt issuance, and M&A in the next phase of economic and market recovery. We believe the Industrials sector can surpass consensus 2021 earnings expectations, given the operating leverage of companies in the sector and a better-than-expected U.S. economic rebound, yet, the sector trades at a small discount to the market on consensus 2021 earnings.
Reduced late-phase, defensive U.S. equity sector exposure: We have eliminated large-cap U.S. Utilities equity exposure and trimmed U.S. Health Care equity exposure. In our view, Utilities is one of the most defensive sectors and is unlikely to derive significant earnings benefits from economic reacceleration, which, along with potential for rising inflation expectations and interest rates, presents performance headwinds for the sector amid a recovery. We believe the relative attractiveness of the U.S. Health Care sector’s earnings growth is diminished in an economic recovery, but the sector’s significant valuation discount warrants maintaining a sizeable but reduced allocation among late-phase sectors.
Increased equity exposure/reduced fixed-income exposure: We have modestly increased equity exposure proportionally across the portfolio’s revised equity allocations, funded by a reduction in intermediate Treasury bond exposure. Federal Reserve actions have helped drive interest rates down to record lows and, thus, pushed up Treasury bond valuations, but monetary policy easing and record fiscal stimulus increase the likelihood of rising inflation expectations, in our view, which could put downward pressure on bond prices as the economy recovers. Meanwhile, an interest rate-adjusted valuation of the S&P 500 indicates U.S. equity valuations have been below current levels less than 10% of the time in the past fifty years.