Markets have recovered from the selloff at the end of last year, and rightly so. The selloff was predicated on beliefs about weakness in the world economy that were largely exaggerated and unlikely to materialise. The recovery that we have seen in the first four months of 2019 has made up for those losses in the fourth quarter. Now matters get more interesting.
Can the same leadership sustain the equity market rally for the remainder of 2019? Probably not. Rather, rotation is necessary, with leadership from emerging markets, cyclicals and Europe replacing the US and technology. But whether that happens remains an open question. One concern remains the potential re-emergence of trade conflict between the US and China. US president Trump has threatened again to impose higher and more widespread tariffs.
The initial market reaction has been very negative, as one might anticipate. There are two reasons for that. First, a breakdown of negotiations is negative for risk premia. Second, uncertainty could put at risk the global economic expansion.
Investors had anticipated we would put those uncertainties behind us, but if they do re-emerge (in whatever form) we believe rising risk premia will lead to a contraction of equity valuations and reverberations across capital markets.
Thus far this year we have positioned for equity outperformance. We are now trimming back to a more cautious stance. We continue to favour quality and minimum volatility as styles likely to outperform. Our emphasis remains on proper portfolio construction and tactical re-balancing to minimise drawdown.