Australia Strategy: Asset Allocation update – Q4 2021

About the author:

Andrew Tang
Author name:
By Andrew Tang
Job title:
Analyst - Equity Strategy
Date posted:
05 October 2021, 8:00 AM
Sectors Covered:
Equity Strategy and Quant

  • Global markets have been reintroduced to volatility as multiple macroeconomic risks to the economic restart emerge.
  • While we have moderated our pro-risk stance slightly with markets likely to face some near-term hurdles, we continue to advocate looking through the noise and continue to see risk assets outperforming defensive positions over the next 3-6 months.
  • Tactically, we stay overweight equities as we expect the powerful economic restart to overshadow the near-term risks. We tilt toward cyclicality and maintain a bias for quality.
  • We like having some inflation protection in the portfolio with rising prices unlikely to unwind on strong demand dynamics and supply chain constraints.

Higher inflation regime to test market stability

The powerful economic restart after the COVID-19 shock is playing out. We remain pro-risk as the restart broadens.

However, the next important consideration for investors: What comes next? An economic restart is not a traditional business cycle recovery as economist Michael Knox has argued (Is the pandemic more like a natural disaster than the Great Recession?) therefore the usual recovery playbook does not apply here.

Instead, we see persistent near-term inflation from the rebound in demand as economies reopen.

Central banks have pledged a more muted response than in the past allowing inflation to overshoot targets to make up for past misses, yet markets have not yet bought the narrative and are pricing in a more rapid lift-off in interest rates.

This mismatch and resulting uncertainty will stoke volatility.

To be clear, there remains a strong chance that equities record new highs as recession risk remains low. But the upward ride will likely be bumpier. Therefore, while maintaining a mild overweight in both Global and Domestic equities, investors should think carefully about the protection they apply.

Positioning for a weaker USD and tightening global liquidity

The USD should weaken once investors look past Fed tapering and emerging economies overcome challenging pandemic dynamics.

Improving global growth and high structural US fiscal deficits will put downward pressure on the USD. We expect the AUD to trend back toward 80c by Q1 2022. To mitigate short-term risks, we prefer hedged away currency risk.

US inflation should stay above target as the US labor market starts to tighten and the GDP output gap closes. We continue to expect some near-term winding back of stimulus measures (central bank asset purchases, fiscal stimulus) but the hurdle for a lift in interest rates remains high.

We think the Fed will act to anchor US inflation expectations and lift interest rates but not until 2023.

Given the gradual tightening in global liquidity conditions, assets with long-dated cash flow that involve interest rate/inflation risk should be kept short. We maintain an underweight exposure to Fixed Assets with a preference for floating-rate instruments.

However, on a tactical basis, the implicit solvency guarantee by governments and central banks will limit defaults and provide opportunities in the high yield credit space.

Key changes to our asset allocation settings

We decrease our underweight to cash. With global short interest rates edging ever so higher and conditions in place for a return of pricing volatility, we see the need to build up some dry powder.

We trim our strong overweight position in Australian equities to build cash. See page 2 for our asset class views.

Figure 1: Morgans recommended asset allocation settings  

Growth stocks have had a choppy ride since the onset of the pandemic


Find out more

Download full research note

If you would like more information, consider reading Australia Strategy: Global Leaders Update. In this edition, we update our asset allocation settings, outline what the economic restart means for key industries, discuss why bond yield must go up and more.

Otherwise, please contact your adviser or nearest Morgans office.

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Disclaimer: The information contained in this report is provided to you by Morgans Financial Limited as general advice only, and is made without consideration of an individual's relevant personal circumstances. Morgans Financial Limited ABN 49 010 669 726, its related bodies corporate, directors and officers, employees, authorised representatives and agents (“Morgans”) do not accept any liability for any loss or damage arising from or in connection with any action taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their Morgans investment adviser before doing so.

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