European equities are very attractive right now with a risk premium of around 7 per cent. To navigate in this environment, a barbell strategy between long and short duration equities is appropriate. In this way, one can intelligently combine growth and value.
If large-scale government investment plans mean that productivity growth picks up, equities could get a fresh boost, according to Jérôme Van Der Bruggen (photo), head of investment strategy at Bank Degroof Petercam. Together with the macro team and the asset allocation specialists of the bank, he explains the investment strategy of the bank.
“For the first time in sixty years, Western governments are going to make large-scale and structural investments again in order to make long-term improvements in green and sustainable infrastructure, digitalisation and more equality. That is why we think that, for the first time in a long time, the declining productivity growth we have seen can be reversed,” Van Der Bruggen commented.
He referred in particular to the Next Generation EU plan of 750 billion euros, which was the subject of long negotiations but which now finally allocates funds to economic segments that have much-needed investments. In the US, there is the Infrastructure Investment and Jobs Act of 1 trillion dollars, an outspoken agenda of Joe Biden. “In the US, we are going to have huge investments in infrastructure over the next ten to fifteen years. Ports in the US have been disastrously underinvested. That offers many opportunities for investors. But we are going to look very critically at the resources that are deployed.”
“Companies are already reinvesting and the governments’ plans should ensure that the investment cycle picks up for a while.”
According to the strategist, this has not yet been factored into share prices, and it is an interesting new fact. It could be a game changer for (European) equities. After all, there is a good chance that the long-term growth of the economy will pick up again.
Inflation
“I think central banks were a bit too quick to hope that inflation would be a passing phenomenon. The pandemic probably fuelled inflation by completely paralysing production capacity. Currently, inflation in the US is around 7 per cent, which is very high and explains why central banks in the US are so cautious.”
At Degroof Petercam, they are not in the camp that says inflation will remain around 7 percent. Van Der Bruggen: “There are many elements that could temper inflation next year, such as energy prices, which we believe have risen too high. We do not think they will rise much further. Productivity improvements will also influence inflation. As the pandemic recedes, we also think demand for goods will fall and people will buy more services.”
The Fed will tighten its policy as it does not want to be seen as the party that fuels inflation. Therefore, the strategist thinks inflation will fall back a bit next year.
Tactical allocation
In a neutral portfolio, Degroof Petercam is slightly overweight in equities. In October, they took some profit as a prudent man. “We do not want to be too optimistic or pessimistic. Equities remain the preferred investment at the moment thanks to solid corporate earnings. This year earnings have been exceptionally good, and next year we expect some 6 per cent corporate earnings growth in the MSCI World all countries. That remains solid earnings growth and argues for equities.”
The central bank will take a very cautious approach to policy, according to the strategist. Risk premiums could fall further as a result, which would be positive for equity markets.
Barbell
Degroof Petercam is geographically overweight in Europe and the United States. }This is combined with a barbell strategy in equities, which you also often find in fixed income. In this way, you combine the two extremes, long and short duration. That long duration is often quality growth in the US, such as technology and medtech, which still provide solid cash flow. The short duration is found mainly in Europe, where you find many more cyclical industrials and cyclicals. Banks and insurance are also in that category.”
In the fixed-income segment, Degroof Petercam was mainly focused on inflation-linked bonds. However, fixed income portfolios are highly diversified. Therefore, some profit was taken on this inflation-linked bond. The main focus is on US Treasuries in USD, as a stronger dollar is expected and interest rates in Europe are not expected to rise. According to Van Der Bruggen, the yen and Swiss franc are diversification currencies, and investment grade corporate bonds can also offer relative safety. Finally, the gold position was somewhat reduced.