Cyclical sectors bounced when vaccination rollouts began and economies revived in parts of the world. However, Citigroup reckons that investors should concentrate on quality and diversification in 2022.

Citigroup’s private banking and wealth arm has cut exposures to “cyclical” sectors because the global economy has recovered from the worst of COVID-19 this year, and intends to focus more on “quality” firms in 2022. The US firm expects most asset classes' returns to moderate in the coming decade.

The group, like its peers, is trying to judge the most appropriate asset allocation for clients after the upheavals of the past two years, when great uncertainties remain. 

This year, broad measures of equity returns in developed countries have shown solid gains. For example, the MSCI World Index, in dollars, shows total returns (reinvested dividends added to capital growth) of 16.31 per cent. The MSCI Pacific ex-Japan index has done far worse, at 1.95 per cent, reflecting to some degree the far greater negative fallout from the pandemic. 

Citi Global Wealth Investments has brought out its biannual “outlook” report; besides setting out investment views, it also peers through the fog of day-to-day events to capture long-term trends.

“Our allocations have evolved in 2021 towards less cyclical, higher quality assets. In 2022, we will continue to emphasize quality in portfolios, identifying stronger companies with leading positions in growing industries,” Citigroup said. “We are also emphasizing dividend growth strategies in both US and non-US portfolios.”

Jim O’Donnell, head of Citi Global Wealth, continued the theme: “In 2021, we urged our clients to keep portfolios fully invested and positioned for the economic and market progress we expected. As we enter 2022, we believe that the early-cycle snapback from COVID is complete. We now expect slower but continuing economic growth, moderating inflation and diminishing pandemic impacts as the world learns to coexist with the virus.”

At the “macro” end of the asset allocation stance, Citigroup said it is leaning to equities relative to bonds as 2022 begins. “Acceping negative real returns from many bonds seems a poor choice,” the bank said. 

The bank also warned that too many investors hold significant cash piles, even though negative real interest rates and inflation are eroding its value.

“We estimate that in just ten years’ time, every dollar that has remained uninvested has seen its purchasing power shrink to 80 cents. Nonetheless, many sophisticated investors have 20 per cent or more in cash, believing that to be a hedge, safety net or pool to be invested later, at the `right’ time,” David Bailin, chief investment officer, and head of Citi Global Wealth Investments, said in the report. “None of this is true. Cash is not a safe investment, given that inflation and taxes can destroy its value. Instead, we urge investors to maintain a fully diversified, global portfolio. With 86 per cent of all months since 1945 seeing economic expansion, history has shown that it is safer to grow wealth than hold cash.”

Forecasts
The bank predicts that gross domestic product growth in 2022 will be “solid.” “The world’s factories are catching up to demand and we expect real GDP to slow to 3.8 per cent in 2022 from 5.6 per cent in 2021, when the world was rebounding from a depressed 2020,” it said.

“Inflation is likely to retreat to tolerable levels in 2022. So many of the current distortions are not permanent events. We expect trend inflation will be 2.5 per cent in the coming decade. Interest rates will remain low or negative. We expect US cash yields to average -1.6 per cent less than inflation in the coming decade,” it continued.

“Corporate earnings per share are going to continue to rise, by a probable 7 per cent in both 2022 and 2023, even with a new US corporate minimum tax. CEOs remain confident. The impacts from COVID will gradually abate as more exposure, vaccines and effective treatments diminish the impact of the disease,” Citigroup said. 

Risks ahead
Sketching out what risks wealth managers and their clients should have on the radar, Citigroup listed the following: A significant new COVID variant; US-China military escalation and a complete breakdown in trade relations; persistent inflation that requires central bank tightening, and large-scale cyber-attacks.

The bank argues that many asset class returns will moderate over the next years; it says that many qualified investors don’t hold enough alternative and private asset classes – or none at all – and hold far too much cash. Citigroup recommends that clients hold just 2 per cent in cash.