During the previous low interest rate environment asset allocation was easier, much easier. Many advisers and investors overweighted portfolios to shares and it was a matter of determining what sectors and individual stocks to invest in.

Rising interest rates have changed that and are providing comparatively higher returns than they did in the past. Not only that, rate rises have increased the interest expenses of companies listed on the stock market and consequently impacted their earnings and profits.

This has seen an increase in investors in fixed income assets, including listed fixed income exchange traded funds (ETFs). AUSIEX data shows a 40% increase in fixed income ETFs over the September quarter compared to the June quarter.  Interestingly, Generation X investors accounted for almost 73% of trades. 

Individual asset allocation will continue to depend on investors’ timeframe and risk tolerance. AUSIEX clients appear to be altering aspects of their tactical asset allocation to take advantage of changing markets, shorter-term investment themes and opportunities.  

Professional fund managers are doing the same. 

The October fund manager survey from Bank of America (which questioned 295 panelists with US$736 billion in assets under management), found managers have shifted a higher proportion of their assets into cash from 4.9% in September to 5.3% in October.  Cash weightings reached as high as 5.6 per cent in June.  

The survey also found that respondents have been rotating out of Eurozone equities and emerging markets into US and Japanese equities. The net overweight to Japanese equities rose from 10 per cent to 16 per cent in October, the highest since 2018. 

Energy, commodities, banks and technology stocks were also in favour while consumer staples and utilities were out of favour. 

The number of fund managers expecting a US recession in the first half of 2024 rose from 36% to 44%.  

Back in Australia, the country’s second largest superannuation fund the Australian Retirement Trust (ART) said in October it was overweight US and UK bonds and underweight in US equities. But the fund still sees slight potential for value in select global equity markets, all the while maintaining a substantial allocation to unlisted assets.  

ART chief economist Brian Parker, was quoted as saying the fund was not taking “massive amounts” of active risks in terms of its asset allocation. He indicated ART is slightly overweight Europe, the UK, and Japan.

What should advisers do?

There is much for advisers to consider as they prepare for their calendar year reporting to clients and any recommendation to revise investments. 

Australian bond yields have reached their highest levels since 2011 and US bond yields their highest since 2007. Grant Mundell, Investment Specialist at Equity Trustees Asset Management, notes “in early 2022, we were underweighting fixed income at a time of very low interest rates. At that time, an investment in fixed income offered little upside.”  

But earlier this year, he said, Equity Trustees Asset Management moved to a neutral allocation, and is now looking to move overweight, given the income from fixed interest assets is more compelling than previously. It can also provide stability to a portfolio if volatility in equity markets rises and dividends potentially fall.  

Mundell notes “A diversified portfolio of short-dated domestic bonds compares favourably to both residential investment property and domestic shares (excluding franking credits) and are currently yielding around 4%.”  

“Investors can find appealing fixed income returns without having to increase duration (out across the interest rate curve) significantly to achieve more than 4% returns. Yields of around 6% are available from a range of investment grade securities and appear attractive when compared to other risk assets. An investor no longer needs to invest in sub investment grade bonds to realise an appealing return,” he said.  

Fund manager Schroders has a similar view. Its team has written that “current yields in credit securities are between 5% and 8%, providing a healthy pick up above cash or sovereign bonds. Investors can use managed funds to access a globally diversified portfolio of credit securities.”  

“While a case can be made for being underweight equities, valuations are fairer in other markets such as Australia. Simply looking at valuations, investors would favour Australian over global equities, and within global equities favour cheaper markets like Japan over the US.”