The global economy is likely to recover more quickly and robustly from the COVID-19 recession than after a more typical large downturn. The virus was an exogenous shock, whose effects were far more unevenly spread than in other crises. Governments are providing the necessary fuel to support the recovery. Employment and spending could rebound faster. Furthermore, the mispricing of equities caused by COVID-19 could be reversed. The extent of the mispricing is underappreciated and presents an “alpha creation” opportunity that seldom appears broadly in markets.
Risks to the outlook
- Although the vaccine trial results have been encouraging, vaccine production and distribution may be the constraint.
- With a new US government, there is hope for more normalized trade and international relations, but the composition of governments from the Americas to China to Brazil may limit the ability to achieve much.
- Low interest rates may need to be sustained otherwise the recovery itself may be at risk.
Implications for portfolios
- First, investors could consider the amount of “strategic cash” they need to hold for the next five to ten years. During the decade from 2010, investors held too much cash, always waiting for a “better time to invest” or for a “better entry point. Citi analysts believe this behavior is well worth avoiding in the next decade.
- Second, composition of portfolios can be altered in four ways:
- The ratio of equity to fixed income could be modified to reflect this period of “financial repression” where interest rates are low, eroding the value of cash and bonds. Citi analysts favour dividend yielding equities as well as REITs.
- The exposure of portfolios to unstoppable trends could be increased. Citi analysts favour the Rise of Asia, Increasing Longevity, Digital Disruption, and New Energy in the long run.
- The ability to capture “alpha” as markets normalize coming out of the pandemic can be added as a tactical opportunity. Citi analysts prefer COVID-19 cyclical sectors, as well as global small/mid caps that have underperformed and look poised for recovery.
- Fixed income portfolios should reflect the best yield opportunities and Citi analysts prefer selective Emerging Markets and US high yield debt.