The main risk I hear about from investors at present is inflation. The following is an interesting excerpt from etftrends.com with data from Innealta Capital. The bottom line is that equities don't do too badly, fixed interest performs poorly and that some other asset classes such as emerging market equity and debt and commodities may lift performance.
During the 5 'rate hike' periods since 1986 the average return of US equities has been 8%. This period has also been the greatest bull market in history so that may not be surprising. Equities of developed markets outside the US has outperformed over those periods as has Emerging Markets Equities. Commodities have done particularly well with lower volatility than equities.
Innealta Capital came to the following conclusion:
"Of the past five Fed interest rate hiking periods, the period between April 1987 to December 1988 appears the most similar to today from a macroeconomic perspective. What is different about that time frame compared to today is the intentions of the Fed. In 1987 and in the spirit of the Louvre Accord, the Fed tightened monetary policy to halt a depreciating dollar. Today, rising inflation not declining dollar is the risk. Based on today’s macroeconomic environment, asset class historical performance, and current valuations, if the Fed were to begin raising short-term interest rates, we would expect the following:
Fixed Income markets would provide low returns. This primarily caused by the low all-in yields currently available in the fixed income markets.
Risky assets would provide higher absolute returns than fixed income markets; however, the risk-adjusted returns would be lower than the risk-adjusted returns over the past five years.
Bond-to-equity market correlation experiences a sustained shift from negative correlation to positive correlation. In this positive correlation environment, fixed income does not act as a portfolio volatility dampener and many investors will need to rethink their portfolio construction."
The bottom line here seems to be that investors need to have a look at the role of fixed income in their portfolio construction and perhaps look to diversify further into alternatives to provide protection. My own view is that Emerging Market Debt ETF's, Commodity/Resources ETF's and absolute return ETF's could provide valuable diversification.
IHEB is our preferred EM bond fund, MVR the preferred Resources exposure and XARO or GROW in the real return space.
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