Parala's approach is straightforward and intuitive but one which requires highly complex and proprietary calculations to execute effectively. We've found that a simple way of expressing changes in expected investment outcomes is to use heatmaps. The heatmap below covers nine major asset classes. It shows a three-month ahead view of expected performance from June 2018 as well as the previous forecasts over the last year. The investor currency for expected returns is GBP and assumes that fixed income investments are currency hedged. Forecasts are updated each month with the latest macro-economic and risk factor changes.
What is our model telling us about key developments across asset classes for the coming months? A good place to start is considering some of the key macro trends that we have recently observed:
- US Dollar rose on a 12-month basis against major trading partners
- Short term interest rates, inflation and default spreads continued to rise which is negative for fixed term assets
- Year over year changes in commodity prices turned negative reflecting worries about economic growth
- Term spreads continue to tighten which has some investors concerned
- Volatility Risk Premium increased indicating a higher level of investor risk aversion
So, what are the observable trends and what might we expect in terms of asset class relative returns over the next three months?
Here are some takeaways:
- REITs, diversified commodities and EM equities have the least favourable forward-looking rankings over the coming three months.
- EM equities have dropped the most in the rankings since June.
- Among fixed income asset classes, sovereign bonds have the most favourable forward-looking ranking.
What are the key market movers and what can we expect from equity markets over the coming three months?
- US Large Cap equities have the most favourable forward-looking ranking over the coming three months followed by Europe large cap equities.
- US Small Caps and EM equities have the least attractive rankings.
- Large Cap equities have a more favourable ranking than small cap equities across the UK, Europe and US.