Macro and political scenario still a concern, says Pioneer’s Giordano Lombardo
The latest economic data point to weak growth but hardly a recession, though policy mistakes often bring downside risks, writes Giordano Lombardo (pictured), Pioneer Investments’ group chief investment officer.
Policy action retains a starring role. In late September we have seen outstanding examples ranging from economic summits devoted to the Euro sovereign-debt crisis, to the joint provision of extraordinary funds to banks by the European Central Bank (ECB) and US Federal Reserve (FED). The banking sector is being identified as a possible carrier of the euro crisis to the global financial system. This scenario is reminiscent of the aftermath of Lehman Brother’s collapse three years ago.
The Fed worsened the economic outlook when it announced new measures to stimulate the economy. Quoting that “significant downside risks” to growth may appease some political detractors of its policy, but this unexpected alarm may also be inspired by the euro debt crisis, which takes a central role as a result.
On an upbeat note, outside intervention may eventually prompt EU officials into taking the tough decisions which are needed to address the crisis on a structural basis. On the issue of Greece, however, it looks like the penchant for muddling through and putting off radical measures still prevails. As a result, it is up to unelected bodies such as the ECB to deal with the crisis, while the Stability Fund is yet to start operations (provided all Parliaments, including Germany’s, give their seals of approval).
What does this mean for our global asset allocation?
In this risk-averse environment we should focus on risk control rather than picking up seemingly cheap assets in battered equity and credit markets. We believe that a
scenario of extended weak growth is not even fully priced into US stocks at current valuations.
In Europe the gloomiest assumptions about the debt crisis are being priced in, notably into stocks and bonds issued by banks which we believe could sustain stressful events such as an orderly default of Greek government debt. Moreover the stock decline became broad-based and affected even those sectors deriving most earnings outside the euro area and in emerging regions which are not at risk of a recession.
Macroeconomic data should get priority and override investment selection criteria based on corporate balance sheets. When market conditions become less volatile,
conventional metrics such as price-to-earnings ratios or price-to-book ratios are likely to regain a key role and European equities should have more upside than other markets in this better environment.
For the first time in several months, the recent eurozone economic summit may be raising more hopes than fears. However, until the macro scenario improves significantly, policy mistakes may still disrupt investor confidence and the case for holding safe-haven assets stays alive in spite of the recent decline in gold prices. Expensive safe-haven assets can also be found in the few core bond markets left (USA, Germany) where yields barely cover current inflation and are thus unattractive, unless we envisaged an outright recession and the ensuing sharp decline in inflation.
The credit market provides plenty of higher-yielding opportunities (all the more so after the recent credit spread widening driven by extreme risk aversion) whereas, if selecting government bonds of the euro periphery, this should be done more carefully.
Giordano Lombardo is group chief investment officer at Pioneer Investments.