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 January 2018 as well as the previous forecasts over the last year. Forecasts are updated each month with the latest macro-economic and risk factor changes. In the future, we will extend the analysis to look at the expected performance within specific asset classes. For example, we can look at expectations for the UK, Eurozone, the US and Asian equities.
What are our models 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:
- USD currency declining on a trended basis against major trading partners
- Rising short term interest rates and inflation which is negative for fixed term assets
- Positive economic growth indicated by year over year increases in commodity prices
- The fifth straight month of slow but rising equity risk aversion which is negative for equities
These macro variables and many others are part of the information set we use to generate forecasts which can then be distilled into rankings and the heatmap below. A nice thing about the table is that it can be used to assess the relative attractiveness of different asset classes at a point in time as well as trends in individual asset class expectations across time with the more attractive potential returns moving from red to green.
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:
- Emerging market equities have the most favourable ranking over the coming 3-months followed by diversified commodities
- Among fixed income asset classes, emerging market bonds have the most favourable ranking and government bonds the least favourable
- Developed market REITs ranking has fallen substantially from previous quarters
In my prior publication, I promised we would take a deeper dive into a specific asset class and this month I've chosen equities.
What are the key market movers and what can we expect from equities over the coming three months?
- EM equities have the most favourable ranking up one place from last month
- US large and small caps occupy the most favourable rankings among developed markets
- Within equities European small caps and UK large caps are the least favourable areas to invest
Our state-of-the-art investment model is constantly learning and adapting to changing macro-economic and market conditions. Next month, we will provide an update to our three-month ahead view as taking a deeper look within another asset class such as fixed income or real assets.