Taking the long view

What do you see as the cyclical vs structural shifts in 2022, and what are the implications for savers with long-term objectives like retirement?

The world changed in 2022 with many inflection points that will impact investors in the short term and for many years to come. These include a geopolitical realignment as seen with Russia and China; supply chains re-shaping around the world; a shift in the dominance of growth investing in equity markets; the end of a 40-year period of declining interest rates; and inflation that will continue to fall but will likely remain elevated for a prolonged period.

This may feel like an insurmountable wall of worry, however if your investment horizon is multi-decade – such as for retirement – I believe you shouldn’t just take a 30,000-ft view but one from outer space at 380,000 ft! With this mindset, seemingly massive gyrations in markets fall out of sight and allow you to remain focused on the true long-term goal of maintaining exposure to risk assets and compounding returns to build your retirement pot.

We remain optimistic about the investing environment if you’re a long-term investor for several reasons.

First, inflation is easing off from recent peaks. A major headwind to fixed income investing is gradually fading away.

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Second, equity market leadership is likely to change. The last decade was dominated by a handful of tech stocks that you basically had to own to keep up with the market. I don’t think that’s going to be the case going forward. We expect opportunities to arise from a variety of companies, industries and geographies, and well-managed companies beyond the tech sector may have their chance to shine again. Corporate earnings will be the driving force of equity markets going forward, as opposed to multiples expansion, and that signifies a welcome return to fundamentals.

Third, we expect a healthy recession in the US this year. Despite all the worry about it, I see a moderate recession as necessary to clean out the excesses of the past decade, and this one won’t be nearly as bad as the 2008-09 financial crisis. You can’t have such a sustained period of growth without an occasional downturn to balance things out, and it also creates buying opportunities. It’s normal, expected and healthy.

What this means for investors is that maintaining a balanced, “all-weather” portfolio makes sense in any environment, but particularly this one. I remind clients to keep an eye on valuations and prepare for a market correction.

How relevant are bonds, particularly as they failed to provide diversification benefits in the past 12 months?

2022 was a very unusual year – for bonds to fall in tandem with stocks in a single calendar year. That’s a rare event that hasn’t occurred in 45 years.

Bonds are in fact at the most attractive they have been in many years, with income at the highest levels we’ve seen in 15 years. The losses that investors experienced in bonds in 2022 were caused by three primary factors: the low starting point in yields; the magnitude of the rise in yields; and the speed at which yields rose. Now that the market has priced in peak Fed funds of around 5 per cent for mid-2023, much of the pain has already occurred.

In other words, yields are attractive today. Inflation will continue to decline; the Fed will stop hiking; and clients have an opportunity to look forward and generate strong income.

If you invest when bond yields are higher, they have historically delivered attractive total returns. Multi-sector income strategies, such as the Capital Group Multi-Sector Income (LUX) Fund, that can invest across fixed income sectors are a convenient way to get broad exposure to these attractive fixed income markets, and still get relative stability and income.

What are the best ways individuals can mitigate downside risks and volatility?

The answer depends on who is reading this, and I’ll focus on two groups: investors who like to roll up their sleeves and take risks, and younger investors who have time on their side.

For non-professional investors who are attempting to tweak their portfolios to select the best sectors, countries, asset class, or even stocks – it’s an uphill struggle. You may make a great investment occasionally, but you’ll need a chain of correct decisions over time to get the benefit of constant and continuous exposure to broad equity markets. For example, after buying an asset like small-cap tech stocks, you have to decide when to sell. Once you realise your profits in cash, what do you do with it next? There’s reinvestment risk while you decide what to invest in next. Do you double down?

You are much better off leaving investment decisions to professionals. Our portfolio managers have an average of 27 years of investment experience, and the extensive scale and scope of our proprietary research enables us to uncover compelling investment opportunities among different asset classes.

For those who are younger or still building their retirement nest egg, your overarching goal should be to generate growth of your capital over the coming decades, and not be worried about having a lower volatility portfolio. The bulk of your portfolio should be diversified, and you should have as much risk assets as you can have and retain exposure to markets.

Countless studies show that “time in the market” beats “timing the market”. Market drawdowns are a reality of life, but history shows that bull markets last longer than bear markets. The benefits of capturing a full market recovery can be powerful. In all cycles since 1950, bull markets had an average return of 265 per cent compared to a loss of 33 per cent for bear markets. Trying to time the market means you potentially miss out on these gains.