By Matt Tickle, Chief Investment Officer, Barnett Waddingham
The economic view
For 2025, we expect inflation to remain above central bank targets in the west and in large parts of the rest of the world; with China a notable outlier to this.
Fortunately for investors, we expect real yields to remain positive as central banks are slower to cut rates in the face of that above-target inflation and expansionary fiscal policy. This is not universal as we expect the Eurozone and China will continue to loosen monetary policy and so expect divergence in interest-rates across the world.
What to buy?
Equities – We are increasingly comfortable that equities can continue to deliver strong returns through 2025; albeit not the 22% p.a. returns seen over the last two years. While much concern has been raised over the concentration of the US stock market around the Magnificent 7, and such concern is not unfounded, we remain less concerned about this than others and so support a broadly global approach.
For the brave, it may be tempting for UK investors to leave currency unhedged. However, this is a low conviction view on our part, as currency positions should always be, but if Trump is able to implement anything like the type of policies he has suggested then, combined with a slower rate cutting environment from the Fed, this would likely support a strong Dollar.
Floating Rate – Global Loans and European securitised assets. Whilst there is a bit more nuance to this regional view than space allows here, we like floating-rate assets due to their higher spread than fixed-rate equivalents, typically less cyclicality, and a slow rate cutting cycle in 2025.
What to avoid
Chinese equities – We have concerns about “Japanification” of the Chinese economy. China is likely to be hardest hit by US trade tariffs, it has significant economic adjustments that it needs to make and a stock market that, while volatile, has traded sideways for more than a decade. There could be small bouts of upside volatility on policy announcements (see September 2024) but overall we would avoid.
Office properties – Globally these are not yet out of the woods. There are long-term structural headwinds against existing buildings given EPC requirements and still uncertain demand from a return to the office. Coupled with the fact we think base rates will be slower to fall in 2025 (more of a 2026 story) we think repricing will continue to happen as debt is rolled onto new, higher rates.
What does this mean for pension schemes?
DB Schemes - If schemes find themselves needing to close a funding gap or increase their funding position, then we recommend allocating to global equities whilst avoiding Chinese equities. We continue to recommend reducing allocation to global offices.
We still see many examples of well funded schemes that have a very narrow focus on investment-grade fixed-rate credit portfolios. Given the historically low spreads on these assets, combined with the fact we feel rates could remain elevated in 2025, schemes could benefit from an allocation to floating-rate vehicles, such as global loans and European securitised assets. These have higher spreads and are typically less cyclical than their fixed-rate counterpart, improving the diversification of portfolios whilst improving the level of returns.
DC Schemes - We believe global equities will have another strong year, with the exception of Chinese equities. Therefore, keeping a strong allocation to equities will be important to make the most of potential gains within growth portfolios. A key decision for Trustees/providers is often whether to hedge their currency exposure or not. Given we feel 2025 could be a year of currency moves, this could again lead to material difference in short term outcomes.
For those reviewing portfolios closer to, and through, retirement we recommend greater use of floating rate credit assets. Fixed-rate spreads are extremely low and therefore prefer global loans and European securitised assets, with higher spreads that are typically less cyclical than their fixed-rate counterparts.
Final thoughts
We said throughout 2024 that politics, despite half the globe going to the polls, wouldn’t cause as much volatility in markets as others expected. And it didn’t. Can our predictions be right (or lucky) two years in a row?
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