Morgan Stanley Smith Barney (MS) said Monday that it was boosting its exposure to risk assets. This is based on the view that, although there is a challenging global economic outlook, major central banks are providing liquidity, which should support risk-asset markets and the broader global economy.
The broker-dealer’s investment policy committee believes that “the impact of committed monetary policy is palpable,” MSSB Chief Investment Officer Jeff Applegate and others wrote in its late-August commentary on global market and economic developments.
“The MSCI All Country World Index, our proxy for the global equity market, is less than 5% below its mid-March peak, as downbeat economic news is no longer providing as much of a negative surprise as was the case earlier in the year,” the group explained. “Moreover, with yields on many traditional safe-haven investments at or near their historic lows, the higher dividend yields available on equities are attractive and provide some degree of valuation support.”
As a result, MSSB has adjusted its tactical allocations: It broadly eliminated an overweight position in safe havens and an underweight in risk assets.
To neutralize its general tactical position, it made several shifts at the asset-class level. In addition, the group reclassified inflation-linked securities as fixed income instead of an alternative asset “to encourage more clients to consider the beneficial diversification properties of inflation-linked securities.”
Read on for the asset-allocation models that Morgan Stanley has outlined for fixed income, equities and alternatives to reflect this overall outlook.
Global Bonds/Fixed Income
In MSSB’s view, high yield is more at risk than investment grade. “With the price of the Barclays Capital High Yield Index around 102, investors have very limited upside price potential, as roughly 70% of the high yield market is callable at either par or 101,” the group said in its report. “While investors may be attracted to the coupon income the high-yield market offers relative to other fixed income assets, we believe the upside potential is limited to coupon income while downside potential exists.”
MSSB is staying focused on Ba1-rated credits with shorter maturities, as “the higher quality and lower duration should provide some price protection, as well as the ability to clip a relatively attractive coupon.”
Investment grade is apt to remain more stable than high yield in a risk-off environment, it argues, and thus the group thinks investors will continue to seek the yield pickup of investment-grade corporates over risk-free assets.
“During the next 12 to 18 months, we see investment-grade credit as one of the most attractive investment opportunities, on a risk-adjusted basis, across asset classes,” according to Kevin Flanagan, chief fixed-income strategist, and other team members. “In a low-growth, low-yield world, we believe investors will be attracted to the additional income of investment grade credit versus Treasuries and the lower volatility of returns versus equities and high yield.”
The firm notes that spreads have tightened on emerging-market bonds. But it still sees the chance of a sell-off in EM bonds as being very low, given the central banks’ inclination to boost liquidity in the presence of any renewed market weakness
Here are Morgan Stanley’s exact outlooks for different classes:
1. Short Duration: Market Weight
With yields extremely low in many markets, MSSB’s investment team expects relative performance to lag over any reasonable holding period, except in an environment of negative returns on risk assets.
2. Government: Underweight
With interest rates low, “the price of safety is very expensive in perceived safe-haven markets,” the group says. “We see better value elsewhere.”
3. Investment-Grade Corporates & Securitized: Overweight
These securities offer investors an attractive combination of high credit quality and yields that are above those on government bonds, notes MSSB.
4. Emerging Markets: Overweight
The yield spread is above its long-term trend line, according to the investment team.
5. High Yield: Market Weight
MSSB reports that the yield spread is close to the long-term average.