Reshaping the Portfolio

  • Commodities and fixed income assets have delivered the signals for us to reshape our recommended portfolio. The bottom for crude oil marks the stabilisation of the commodity space and the end of the fall of inflation expectations in the major economies. The US labour market indicates that the Federal Reserve remains on track for monetary return-to-morenormal. Accordingly, it will be difficult for yields of longer-dated US Treasuries to fall further, at least if we are correct in thinking that the global output cycle will re-accelerate from the Spring.
  • We are downgrading the defensive growth sectors of Pharmaceuticals and Food & Beverages from OW to N to the benefit of both higher risk growth and the value category. Investors should begin the return to the smaller cap universe because Europe’s large cap stocks are a low growth universe.
  • The adjustment to our recommended portfolio removes its pronounced defensive bias, moving it to an approximately balanced position. There are several obstacles to be overcome before we can envisage a more aggressive positioning, including the Greek stand-off. Don’t go away.

Recommended sector and market asset allocation

January brought the break-out of European equity, ending a period of chronic under-performance. The message in February is about the portfolio rather than the market. Commodities and fixed income assets have delivered the signals for us to reshape our recommended portfolio. The bottom for crude oil marks the end of the collapse of the valuation of the Energy sector and the stabilisation of the commodity space. Inflation expectations in the major economies can now stabilise. January payrolls indicate that the Federal Reserve remains on track for monetary return-to-more-normal despite the absence of inflation. Accordingly, it will be difficult for yields of longer-dated US Treasuries to fall further, at least if we are correct in thinking that the global output cycle will re-accelerate from the Spring. Our interpretation is that nominal growth expectations in Europe can begin to recover from this quarter. The leading indicator is the improvement that is already apparent in the consumer space.

Changes in asset valuations precede revisions of expectations for the growth of activity and EPS. We are now assuming that we have witnessed the climax of the relative valuation of the equity categories that have been the principal beneficiaries of deflation anxiety and the relentless rise in the price of duration, whose combined effect has been to raise the premium for quality and liquidity in European credit and equity. Accordingly, we are downgrading the sectors of Pharmaceuticals and Food & Beverages from OW to N. The downgrading of defensive growth is to the benefit of both higher risk growth and the value category. Our interpretation is that the phase of pronounced outperformance by the growth style relative to value that characterised the second half of 2014 has come to an end. Investors should begin the return to the smaller cap universe because Europe’s large cap stocks are a low growth universe. We are upgrading the sector of Financial Services in the DJ Stoxx universe from UW to N and the sector of Construction from N to OW. We are moving the MSCI Materials sector from UW to N. The adjustment to our recommended portfolio removes its pronounced defensive bias, moving it to an approximately balanced position. There are several obstacles to be overcome before we can envisage a more aggressive positioning, including the Greek stand-off, whose barometer will be the behaviour of the Greek banks. Don’t go away.

Weightings and asset allocation for the MSCI Europe Universe



09/02/2014 Neutral weight in MSCI (%) 2-yr beta values
(vs MSCI)
Tactical sector rating Recommended allocation (%)
Consumer Discretionary 11.0 1.1 OW 16
Automobiles & Components 3.6 1.4 OW 5
Consumer Durables & Apparel 2.5 1.0 N 3
Consumer Services 1.2 1.0 OW 2
Media 2.3 0.9 OW 4
Retailing 1.4 0.9 OW 2
Consumer Staples 14.0 0.8 OW 15
Food & Staples Retailing 1.3 1.1 OW 2
Fod Beverage & Tobacco 10.8 0.8 N (OW) 11
Household & Personal Product 1.9 0.7 OW 3
Energy 7.8 1.1 N 8
Financials 22.3 1.2 UW 18
Banks 11.5 1.2 UW 8
Diversified Financials 3.1 1.2 UW 2
Insurance 6.2 1.1 N 6
Real Estate 1.4 0.9 OW 2
healthcare 13.5 0.8 N (OW) 14
Healthcare Equipment & Services 1.2 0.7 OW 2
Pharmaceuticals & Biotechnology 12.3 0.8 N (OW) 12
Industrials 11.1 1.1 N 11
Capital Goods 8.4 1.1 UW 7
Commercial Services & Suppy 1.3 0.9 OW (N) 2
Transportation 1.5 1.0 OW 2
Information Technology 3.4 1.0 OW 4
Software & Services 1.5 0.9 UW 1
Technology & Hardware Equipment 1.0 1.2 OW 2
Semiconducors 0.9 1.1 OW 2
Materials 7.6 1.1 N (UW) 7
Telecommunication services 5.3 1.0 OW 6
Utilities 4.0 0.8 UW 1
Exposure to risk
(beta value)
  1.00    
Lquidity ratio   3%    
* The exposure to risk is measured by the weighted average of 2-y betas.
We manage the liquidity ratio within a 0-10% rank.
Source: Kepler Cheuvreux