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Investments That Thrive In Inflationary Environment – Julius Baer

Amanda Cheesley

1 July 2022

Although the first few months of 2022 saw a perfect storm of both global equities and bonds selling off, at a media event this week highlighted the benefits of holding a diversified portfolio of equities.

History shows that they have stood the test of time as a store of value, the firm said. It believes that investors should use the opportunity to look at investments which can thrive in an inflationary environment.

Defensive stocks
Defensive stocks tend to do well when leading indicators roll over and policy uncertainty is high – as has been the case so far this year, the firm stressed. It expects defensive stocks to keep on outperforming as the economic slowdown continues.

Defensive companies benefit from more stable demand for their products and services where the demand does not tend to change as the state of the economy fluctuates, the firm explained. As a result, the companies tend to have stronger cash flows, more stable earnings, and pay more consistent and higher dividends.

It favours defensives in the current environment, but not exclusively, advocating a barbell strategy with exposure to both defensive and beaten-down, but profitable growth stocks.

It believes that stocks in the healthcare sector tend to have very strong balance sheets, and it favours large-cap pharmaceutical and biotechnology companies due to their earnings' stability and solid pipelines.

In an increasingly uncertain environment with high inflation and slower growth, it expects Swiss equities to continue to outperform due to the market’s heavy tilt towards the defensive sectors relative to the cyclical sectors. It believes that the Swiss equity market is one of the best-quality and most defensive equity markets in the world.

Fixed income
In fixed income, where it takes a more tactical approach, there is income again thanks to the rise in bond yields, the firm added. After a multi-year low tide in yields, interest-rate expectations and bond yields have moved up on the back of higher inflation.

It believes that corporate bonds from developed markets should perform well, favouring the US low-investment-grade corporate bond segment as well as low-investment-grade space to high-yield in Europe, given a riskier macro-economic backdrop.

Although Asia has faced its share of challenges, the firm believes that there are pockets of opportunity. On the back of higher US Treasury yields and some widening in credit spreads, its preference in Asia is for moderate duration bonds from high-quality, investment-grade issuers. For those with a higher risk appetite, there are also selective opportunities in Indonesia and India high-yield bonds, it added.

Sustainable investing
The firm also believes that sustainable investing remains key to capturing future growth opportunities. Its next generation ESG-linked investment themes for long-term investors include the circular economy as well as clean energy.

The Julius Baer Private Markets team also focuses on venture and growth capital to achieve return and impact at the same time, by funding the technologies of the future, such as cellular meat, carbon-capture technologies, and precision agriculture to transition to a low-carbon economy. Fintech also has a vital role to play in emerging markets, as it provides new ways of evaluating credit quality and extending finance to companies and individuals who would otherwise have no access, the firm added.

Real assets
Focusing on real assets, the the group's CIO Yves Bonzon said: “The market environment continues to be challenging and prudent portfolio construction matters more than ever, so investors are well advised to favour real over nominal assets.”

“Examples of real assets are commodities, gold, and real estate, which are linked to the physical world,” he explained. “Historically, real assets have indeed outperformed cash and bonds during elevated, but contained, periods of inflation. While favouring real to nominal assets will be crucial to preserve capital in a sustained inflationary environment, overall portfolio construction and diversification remain the keys to success,” he said.

“One real asset class that should be considered, particularly in the current economic and geopolitical landscape, is private equity,” he added. “The illiquid nature of private equity funds protects investors from themselves, helping them to stay invested and, in the end, reap the gains of their long-term investments,” he stressed.

The Swiss bank forecasts global inflation of 7.9 per cent for 2022, but attributes most of this to the first half of the year. For 2023, it expects a notable decline in global inflation rates to 3.8 per cent, and does not believe we are heading for a recession.