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For resilient portfolios in uncertain times, advisers rely on quality
With financial markets betting that central banks globally will be forced to keep monetary policy tight over the remainder of the year, the return on Australian and international shares is likely to be capped. Advisers are, however, finding opportunities with select assets and harnessing long-term growth themes to support portfolio performance.
The investment opportunities in this economic environment are different from the past, when share gains held up portfolio returns. Advisers have identified key themes they believe will provide growth and defence, including gaining exposure to artificial intelligence (AI), fixed interest and quality shares.
Exposure to US technology
The US sharemarket has easily outperformed most other developed markets this year. According to BlackRock’s 2023 midyear outlook, gains in the US benchmark, the S&P 500, have become increasingly concentrated in a handful of technology stocks, surpassing levels in the 2000 technology boom.
“We think this unusual equity market shows a mega force like AI can be a big driver of returns even when the macro environment is not your friend,” the report says. “Getting granular in portfolios in the new regime is likely to be more important than relying on broad asset class returns.”
Wakefield Partners senior financial adviser Lynette Anderson thinks there could still be some way up to go for the US technology sector.
“AI is certainly the new frontier and, if it is to be believed, will change how we do everything,” she says.
“Many major US technology companies are rushing to roll out their AI ideas. Rather than picking individual stocks, which can also be hard and expensive to access here in Australia, a small exposure to a Nasdaq index-tracking exchange-traded fund (ETF) or a specific related thematic ETF, is our preferred way to get exposure, without taking on the risk of trying to be smarter than the market.”
Quality favoured for defence
If Australia or the US does fall into recession, many financial advisers recommend exposure to quality shares. Quality stocks are typically characterised by three main fundamental variables: high return on equity (ROE), stable year-over-year earnings growth and low financial leverage. Such stocks typically outperform in times of volatility and during weaker economic environments.
“For long-term investors who are looking to batten down the hatches, a focus on quality will be all important,” Anderson says.
“Large ASX-listed companies with strong and stable management and well-capitalised balance sheets and which are dominant in their markets should outperform and be the best place to be coming out the other side,” she says.
“The ASX has shown amazing resilience in recent months despite deteriorating economic conditions and an increasing number of profit downgrades. We will be watching carefully the midyear earnings season and ongoing inflation and employment data. If the results are brushed aside by the ASX, it may well take another ‘black swan’ event to trigger the decent correction that many feel we should be in the midst of now.”
Candice Bourke (pictured), senior investment adviser with Shaw & Partners, also recommend quality companies and avoiding retail stocks.
“We remain cautious around consumer spending in the medium term, and there is evidence amongst listed retailers that this has begun to play out. We continue to prefer quality growth companies that have growth drivers that are less dependent on the overall economy, as well as pricing power companies that can pass on higher costs and maintain or improve their margins,” she says, naming CSL as an example.
According to BlackRock, investing in quality can include AI stocks. Its 2023 midyear outlook reveals that developed market (DM) equities remain the biggest building block by far in BlackRock’s portfolios, especially US stocks. “We implement an overweight to AI as a mega-force. Our tilt toward quality already captures AI beneficiaries,” the report says.
Fixed interest is back
After years of tactically allocating away from fixed interest due to low or no returns, Wakefield Partners’ Anderson is looking to rebalance portfolios to a more normal strategic asset allocation with bonds and shares.
“Fixed-interest investments, mainly bank-issued capital notes and listed investment trusts, are now not only attractive, but are pulling their weight in overall portfolio returns,” she says. Term deposits are also a feature of many portfolios that she is building for clients.
Bourke prefers investment-grade corporate bonds and other lower-risk fixed-interest investments, depending on clients’ personal circumstances. “During 2023, we have favoured investment-grade corporate bonds, notably in Australia, the US and UK, considering they have offered a better return-risk profile than either government bonds or high-yield debt for 2023. So far, that has indeed been the case,” she says.
“We are not changing our perspective on the global economy and cautious stance on growth and risks assets, and where possible prefer investment-grade lower-risk fixed-interest investments depending of course on the client’s personal circumstances.”
