What fund managers expect in 2019

David Keir, manager of TB Saracen Global Income & Growth (GB00B8MG4091)

Hindsight is a wonderful thing. All investors have had to do to outperform over the past few years is to be overweight the US market and own the tech stocks. The volatility of the past few months has highlighted that perhaps this trade is at long last coming to an end and investors must change their portfolios to continue to outperform in 2019. 

There are clearly many things to be worried about as we head into 2019: can we avert a full-blown trade war between the US and China and/or Europe? Will the populist Italian government bring down the whole EU project? Will the UK crash out of the European Union (EU) without a Brexit deal? And who will Trump pick a fight with next? 

However, the most important factor for investors to focus on is whether there will be a global recession in 2019. The recent market moves and investor shift into ‘expensive defensive’ shares suggest that investors are now fearful of an imminent global downturn. We disagree with this view and would point out that we have had similar recent growth scares in the summer of 2014 and in the first quarter of 2016, both of which provided great opportunities to buy high-quality businesses at very attractive valuations for the long-term investor. While economic growth will slow in 2019, it will persist and we view the current market correction as another buying opportunity.

As we look forward, ‘value’ investing should see a renaissance. There is now too significant a disparity in ratings between highly rated growth stocks, expensive defensives and lowly rated value stocks. Given the underperformance of value over the past 10 years, many market participants have forgotten that value as a style outperforms growth over the long term. Value has outperformed growth in three out of every five years since 1926 with an average annual price return of 18.9 per cent for value stocks and 15.6 per cent for growth stocks.

This shift towards value should see areas such as Europe and emerging markets do better in 2019 and we can expect the US outperformance of global markets to come to an end. Some of the more cyclical sectors, including financials, which appear to be discounting a severe growth slowdown, should also recover next year and the tech stocks and bond proxies (quality income stocks) may take a well-earned rest from leading the market higher.

UK

Colin McLean, co-manager of SVM UK Growth (GB0032084708)

When stock markets sell off rapidly, it is easy for investors to be sucked into trading. But stock market turmoil creates a lot of false signals; it is a time to focus on the big picture. Global growth will slow in the coming year, but recession in the world economy remains unlikely. In the UK, real wage growth is helpful, but likely to remain subdued, and the Bank of England (BoE) will have no reason to raise interest rates in the next 12 months.

What can look like new trends are sometimes quickly reversed. For much of 2018, oil looked the place to be, but the sector has sold off almost as sharply as other cyclicals. A market change that initially looked like a rotation from growth to value has become more complex. Quality stocks – more defensive businesses such as consumer staples – might not prove safe in 2019. The theme for the year may not be trade wars, commodities or geopolitics, but debt. Leveraged companies will find it harder to raise money from shareholders, and bank finance will tighten. Investors will need to look harder at accounts to identify true cash generation. Some smaller companies could see distressed refinancings and larger ones might be forced to cut dividends. Inflation will not pick up enough to bail out businesses with strategic weakness, or that do not generate cash.

The UK equity market might be better placed than some others. Shunned by international investors and with retail outflows since the referendum, it looks under-owned. As an economy with leadership in several sectors, an independent monetary policy and a relatively free regime on takeovers, its appeal may be rediscovered.

Global disinflationary pressures remain, challenging many incumbent businesses, including the consumer staples. UK real wage inflation should help to insulate some consumer businesses.  Airlines and travel may have sold off too far, particularly in the face of cheaper oil. But despite the challenges for technology and e-commerce, the disruption in retail and financial sectors will continue in 2019.  Investors need to look for genuine growth businesses or industrials that have fallen to distressed prices.

Alex Wright, manager of Fidelity Special Values (FSV)

The unrelenting negativity that investors are demonstrating towards UK equities is making me feel more and more positive on their prospects for 2019. It might be counter-intuitive to think that the UK market could be among the top performers globally in the year that we leave the EU (if indeed we do). But markets have a way of confounding expectations and surprising the consensus.

I do not have a view on whether a soft or hard Brexit is more likely. My positive outlook for UK equities simply relies on some clarification in the relationship between the UK and the EU, which would act as a catalyst for investors to revisit the UK equity market as a destination for capital. It may be a cliché, but investors really do hate uncertainty, and for global asset allocators, there has been little incentive to do the work on cheap UK shares. 

Valuation discounts are just not a strong enough draw in the face of risks that are so widely discussed and absorbed into consensus thinking. The possibility of clients saying ‘I told you so’ has a real impact on investor behaviour. This is an exciting environment for a contrarian.

One thing I have learned from investing in unloved companies is that you shouldn’t necessarily wait for good news to become obvious before investing. By investing when all the bad news is ‘in the price’ and no good news is expected at all, you put the odds in your favour. I think this is a situation we are in in the UK at the moment.

Scott McKenzie, manager of TB Saracen UK Income (GB00BW9H1L31)

As we look towards 2019, Brexit continues to dominate the landscape for the UK equity market. As we write, chaos appears the order of the day and uncertainty is the only certain thing.

We can offer no added insights to the outcome at this stage other than a hard Brexit, crashing-out scenario needs to be avoided for the sake of the economy and the markets. However, we do believe that times of maximum uncertainty often present the best opportunities for investment and waiting for clarity or sitting on one’s hands is not an acceptable course of action right now.

Since the referendum in mid-2016, we have seen global investors flee. But it is important to note that the UK is not detached in this respect. Other major global markets have fared far worse than the UK during 2018, notably Germany, Hong Kong and China. Many of the issues facing global investors are universal – rising interest rates, slowing economic growth and the threat of trade wars across most key regions.

Turning back to the UK, domestic sectors such as retail, housebuilding and property have underperformed significantly since the referendum and trade on huge discounts to historical valuations.

We believe there is a case for selective investment in such areas, assuming we can find businesses with strong balance sheets which are not in structural decline. While the worst-case scenarios are not pretty, valuations are already extreme and such sectors should recover significantly if the Brexit clouds ever clear.

It is also worth noting the significant dividend payments currently available from UK plc. The index now yields almost 4.5 per cent after recent declines and the income opportunities have rarely been greater.

Again, careful analysis is required and dividend cuts are to be avoided. We would highlight value in the financial sectors, where many companies have rehabilitated themselves over the past 10 years and are priced for meltdown.

We would expect to see increased corporate activity reflecting currently low valuations and the attractiveness of a weak sterling to overseas buyers. There is scope for a sharp recovery in UK equities should the Brexit outlook become clearer and the high dividend yields on offer pay investors for many of the risks taken. 

US

Paul Niven, manager of F&C Investment Trust (FRCL)

A series of comments by key Federal Open Market Committee (FOMC) members over the summer, suggesting that interest rates might ultimately rise further than expected, led to jitters in the markets. Elsewhere in the US, the split Congress, which resulted from the US mid-terms, has reduced the chances of further fiscal stimulus, adding to the list of worries for the market. Trade tensions are increasing concerns over a longer-term strategic shift in relations between the US and China.

This mood change raises the question of whether the bull market in equities, and risk assets more generally, now more than a decade old, is over. Volatility has risen and prospective returns on risk assets are likely to be modest going forward, but at this point we continue to expect equities to outperform both cash and bonds.

The fundamental reason for this view is that the backdrop in terms of economic growth, inflation, corporate profits and interest rates remains supportive.

US growth is bound to slow next year both in terms of gross domestic product (GDP) and corporate profits. This year’s performance is simply unsustainable. But the slowdown will be to still-healthy growth rates. The US equity market is supported by strong earnings growth and economic momentum. While at a later stage in the business cycle, we think it still has further to run, although further trade protectionism from the Trump administration is a risk.

Walter Price, manager of Allianz Technology Trust (ATT)

As we examine the outlook for technology companies in 2019, we think it may mirror the results in 2018, but in a true mirror image: cross currents and some weakness in the first half, and strength in the second half.

There is too much near-term uncertainty for the sector to rebound quickly, as the slowdown in smartphones and their supply chain still needs to get baked into lower estimates for the components companies and into Apple (US:AAPL). 

Cloud spending seems to be taking a break as the titans are trying to make their existing investments more efficient, now that they have built a global footprint. The cash flow surge from the US tax cut will be fading, and the default location of your next factory is no longer China, but the replacement has not yet been determined. 

The upgrading of existing infrastructure will probably slow as cloud alternatives become more proven and attractive. And there is a real chance that higher tariffs go into effect in January for China exports to the US. These challenges imply a slow start for much of the sector in 2019.

But as expectations are tempered and new plants are deferred, demand and supply should come into balance, and the strong growth of cloud computing should resume. Furthermore, the benefits of lower commodity prices will help consumers feel more confident about spending again. Finally, earnings can grow for the sector again as we reach easier comparisons in the second half of 2019 and the first half of 2020.

EUROPE

Olly Russ, manager of Liontrust European Income (GB00BD2WZ329)

Europe has seen more than its fair share of problems over the past decade or so – many of them self-inflicted. Pre-financial crisis, Europe and the US tended to move very closely in tandem in terms of earnings and market returns. The same was true immediately post-crisis, but then Europe uniquely fell into the eurozone crisis, from which even now European earnings have struggled to recover, currently languishing about 30 per cent below the prior earnings peak in 2008, some 10 years later. By contrast, US earnings are 75 per cent above the same peak over the same period.

In adversity lies opportunity, of course. Sometimes lost in the treatment of Europe as a homogenous mass is that the underlying economies are very different (Switzerland is not Greece, for example) and while unemployment might be far too high in Italy, it is arguably too low in Germany. To take this diversity argument further, individual companies can be even more decoupled from their domestic economies. In short, corporate Europe can be very different from political Europe.

And in corporate Europe things have been changing recently, with earnings growth nearing double-digit levels for the past two years and much the same forecast for 2019, giving a near-30 per cent earnings uplift over three years. If we had a word for investors to focus on, however, it’s ‘value’. Value investing has had a torrid time lately (think utilities, financials, telecoms) as growth (internet, technology etc) has dominated investor preferences.

This has left the valuations for value names at rock-bottom levels, many producing good solid dividends. Banks have largely been awful performers in 2018, but they have been left on super-cheap valuations. For those with perhaps smaller risk appetites, the insurers also look good value, but suffer from fewer of the negatives. Insurance is a good European niche.

If bond yields start to rise (the European Central Bank (ECB) is finishing its QE programme, which has undoubtedly suppressed yields), value as a group and insurers in particular tend to do well.

By contrast, some of the relatively rare but widely owned European tech names may well struggle. Markets are often defined by a change in marginal buyer – few areas are as unloved as European value, although a catalyst in the shape of rising yields or inflation may ultimately be necessary to change investor behaviour.

James Rutherford, manager of Hermes European Alpha Equity (IE00B3RFR850)

The outlook for the year ahead remains mixed: through the apparent gloom, Europe is set to deliver another year of earnings growth in 2018, but there are a number of broader concerns that should keep volatility elevated into 2019. Chief among them is the increasing earnings risk as concern grows that global growth could slow down. On the flipside, a weaker euro could provide a useful tailwind for European companies.

If a slowdown does materialise, the central banks have few levers left to pull to help stimulate economic activity. The mantra of ‘the market is not the economy’ has rarely felt so apt. When fear is ripe, opportunities emerge and there will undoubtedly be plenty of those for active European equity managers next year. Given the uncertainty, we think the opportunities will tend to reside among structural growers that have a high degree of earnings visibility.

We believe the healthcare sector will continue to outperform in this environment, as the continued shift towards biological drugs reinforces the defensive nature of the industry. We are also selectively positive on the technology sector, particularly those facilitating structural shifts in consumer behaviour and enabling the internet of things and industrial advancement.

At the same time, we remain cautious on the near-term prospects for banks. While potential interest rate rises will be beneficial for them, they are facing multiple headwinds of increasing regulation and competition from a new generation of aggressivefintech start-ups.

James Sym, manager of Schroder European Alpha Income (GB00B7FHV230)

Investors face a changing market environment as we head into 2019 and a key feature of this is the return of inflation. Anecdotal evidence tells us that many European companies are facing an increasingly tight labour market, so they need to pay higher wages to attract and keep employees. Meanwhile, underinvestment since the global financial crisis combined with steady economic growth means many companies now find themselves with full factories, so they need to invest in new capacity.

Both of these factors are inflationary, and could weigh on the kinds of companies that fared well in the low rate and low inflation environment. Can a company still grow if it is unable to add new workers or new capacity? We think investors will need to look at a different type of company as higher inflation becomes embedded.

Financials could benefit from the new inflationary environment because they can re-price the rate they charge on loans and other products. Revenues should rise more quickly than staff costs, and financial companies benefit from volume growth as the economy continues to expand. Within financials, we prefer insurers; it remains important to be selective when investing in European banks.

The telecoms sector is another that should benefit from higher inflation. The infrastructure is already there and rising wages mean consumers can bear higher prices. Similarly, consumer cyclical sectors – such as the carmakers – are currently very cheaply valued and could benefit from a more confident consumer in 2019.

We see this return of inflation as an embedded structural factor – the result of years of underinvestment and pressure on wages. The important thing, as investors, is to identify this changing environment early before it becomes obvious to the whole market.

JAPAN

Nicholas Weindling, manager of the JPMorgan Japanese Investment Trust (JFJ)

While we have experienced market volatility, we maintain our view that the outlook for the global economy remains solid. Valuations of the Topix index remain lower than its historical average and other major markets such as the US. The biggest risk is a return to a deflationary environment, but a more likely scenario is a mildly positive inflation figure, but below the government’s 2 per cent target.

Japan continues to make progress in corporate governance, tourism and free trade, and has improving relationships with many countries. Prime Minister Shinzo Abe is likely to become Japan’s longest serving prime minister since the birth of Japan’s parliamentary system in the 1880s. This stability is in stark contrast to the problems besetting many other countries.

The corporate governance story continues to develop and this increasingly looks structural in nature. The market is likely to reward companies with improving governance policies overall, including shareholder returns, internal controls and disclosure.

The recent volatility in the market has not altered our conviction that we should focus on long-term growth opportunities and avoid structurally-challenged companies in value areas, particularly banks and autos.

Ken Maeda, head of Japanese equities at Schroders

Long-term equity investors should be considering the possibility of an exit from current monetary policies. If the authorities can declare a sustainable exit from deflation, this could dovetail well with the final stages of Prime Minister Abe’s tenure. Although these appear to be largely political considerations, they reflect the underlying improvements in the real economy, which are, in turn, driving the corporate profit growth we are expecting over the next couple of years.

Japan has continued to see a gradual improvement in domestic economic conditions, despite some short-term weakness in headline GDP in the first quarter of 2018. The labour market has continued to show sustained improvement, which is maintaining upward pressure on wages. The extent to which higher participation rates have offset Japan’s known demographic issues continues to be widely under-reported, but should be regarded as a key success for government policy.

Although this particular trend must reach a natural peak soon, the tightness of the labour market is capable of sustaining the recent upward pressure on wages. This will ultimately feed through to inflationary expectations, which will, in turn, generate better pricing power for domestic-oriented companies. 

Capital expenditure is also running well ahead of companies’ earlier expectations. This is partly a rational response to the macro impact of labour shortages, but is also a reversal of the long-term trend of underinvestment, especially in technology and systems, through the period of deflation.

CHINA

Andrew Mattock, manager of Matthews Asia China (LU0594555913)

Chinese equities were highly volatile in 2018, largely on sentiment. Experience has taught me to look past this at what’s happening on the ground. For example, online shopping reached a record high this year during ‘Singles Day’, China’s version of ‘Black Friday’ with sales up 27 per cent on 2017. Consumer discretionary spending in areas such as electronics, entertainment and clothing tend to hint at where China’s economy is heading.

Looking ahead, it can be helpful to distinguish between internal and external factors impacting China’s economy. The internal factors are the micro-reforms, as well as the government’s fiscal and monetary policy. The external factors are tariffs and investor sentiment. As China’s economy is driven by consumption and not exports, the internal factors are much more important. 

Consumption will spread further across the economy. China is famous for its megacities. Tier one cities have populations of more than 15m. Tier two cities range from 3m to 15m, but it’s tier three cities (150,000 to 3m residents) that are fuelling much of the consumption growth.

For China’s businesses, these are providing an entirely new base of consumers. Job creation, incomes and consumption are all rising. These cities have traditionally been underserved and represent pent-up demand for everything from dating apps to Indian restaurants. Entire ecosystems of basic consumer services don’t exist yet in these cities. 

The quality of companies in China is also much better than it was 10 years ago. Current valuations are near the market lows of 2008, but the quality is much improved, creating a buyers’ market for long-term investors. Policy makers are serious about cleaning up state-owned enterprises (SOEs), progress is being made to reduce pollution and a recent anti-corruption campaign has been effective. The cumulative effects create a more level playing field for market pricing. In this environment, developing compelling brands is becoming more important to retaining a competitive edge. We’re seeing more sophistication in adapting products to suit different customer segments, from high-end to mass market.

Between 2012 and 2016, corporate earnings in China experienced little or no growth. Earnings then ramped up considerably in 2017 and remained sound throughout 2018. The drivers of that growth still have a long way to run. Even if earnings moderate slightly, they are likely to be supported by a healthy economy. This favours companies that can tap into the growing consumer spending that accompanies rising incomes.

ASIA EX JAPAN

Mark Williams, co-manager of Liontrust Asia Income (GB00B7BZB324)

This year has seen a confluence of factors that have combined to push markets lower. Most of these, in some form, have led to tighter monetary conditions. The most obvious are the US’s and Europe’s moves to slowly extricate themselves from  post-financial crisis policies such as QE. This includes the ECB reducing its bond-buying programme, the US Federal Reserve shrinking its balance sheet, and interest rates rising around the world, which has led to, amongst other things, a strong US dollar.

These alone provided headwinds for Asia, particularly in countries with current account deficits, which inevitably require international capital. This is most visible in the weak currencies of India, Indonesia and the Philippines.

Adding to this nasty backdrop for 2018 was the escalation of a trade war between China and the US. Markets started to pay real attention to this in the middle of the year, leading to a savage equity sell-off.

The good news for 2019 is that most of these headwinds are likely to abate. Interest rates in the US are not likely to rise as frequently as they did in 2018, meaning the dollar will probably not strengthen as much as it has this year. And there seems to be an honest attempt to patch up relations between China and the US.

The removal of negatives may well allow for significant improvement in Asian equity returns. Much of the weakness in the middle of 2018 seemed more sentiment-driven than based on any fundamentals. Trade tariffs are bad, but they are most significant in long-term investment plans and overall demand, not the instant reduction in sales or profit that markets seemed to be predicting. China’s response – to provide some domestic stimulus to offset any slowdown – seemed to have been ignored by markets.

This leaves us with plenty of opportunities. We find domestic Asian plays in Thailand and China, which have compelling valuations at the moment. There are also a number of Taiwanese technology companies we like, although we avoid those overly dependent on single brands for their sales. 

The one area in the Asia Pacific we remain concerned about is Australia. The equity market there performs well when investors panic, but its combination of high household debt and high property prices (which are already falling in Melbourne and Sydney) does not seem to be reflected in current valuations.

Teera Chanpongsang, manager of Fidelity Asia (GB00B6Y7NF43)

Concerns about the Sino-US trade war and frequent announcements of tariff imposition have made their way into investors’ thinking of late. A strengthening US dollar has further dampened sentiment towards Asian markets, which had experienced a strong currency run in 2017.

The uncertainty surrounding the evolution and resolution of the trade dispute is an ongoing risk to both sentiment and earnings expectations in the region.

But China is potentially prepared to mitigate the impact of trade tariffs through a range of approaches. These include improving their own efficiencies, shifting manufacturing facilities to other regional markets and passing on some tariff impact to US consumers. The trade war is not a deal breaker for investing in China, even though it should continue to contribute to market volatility over the coming months.

The two key markets of India and Indonesia are also going to see some political uncertainty ahead of their national elections in 2019. Meanwhile, all eyes are on China’s deleveraging exercise and I am mindful of any policy misstep that can adversely impact growth.

While I am cognisant of this backdrop, I believe that there are plenty of attractive investment opportunities across Asia. Asian countries are experiencing structural changes in the right direction, supported by attractive demographics with a young working population. The middle class is expanding, which means domestic consumption should be a multi-year growth story in the region.

Uncertainty and nervousness in the market is a good testing ground for any investment philosophy. It is important to look beyond short-term sentiment dips and see volatility as an opportunity to invest in businesses that offer robust growth prospects at discounted valuations. The sharp sell-off seen this year has made regional valuations more attractive versus developed markets.

EMERGING/FRONTIER MARKETS

Nick Payne, manager of Merian Global Emerging Markets (IE00B8Y1GV72)

Emerging markets have faced three principal headwinds in 2018 – a hawkish Federal Reserve and strong US dollar, the trade war, and a decelerating Chinese economy. We have now seen two out of three of these improve at the margin – the trade truce and recent more dovish comments from Federal Reserve chairman Jerome Powell. For the third, the Chinese authorities started loosening monetary and fiscal policy in the summer, and further stimulus is likely before the year-end to aid reflation of an economy slowed by the authorities’ correct crackdown on ‘shadow’ banking. Expect to see better economic data in 2019. If the trade war intensifies, China is likely to react by stimulating harder and loosening controls on the property market.

Corporate profitability and returns on capital have been improving for two years in emerging markets. This reflects both the early-cycle stage of many emerging economies exiting from recessions in 2014 and 2015 and an improvement in capital discipline from managements, driving better returns from existing assets. We believe this will continue – corporate profit cycles tend to last five to seven years in emerging markets (2010 to 2016 being the last down cycle).

Valuations and sentiment towards the asset class are at multi-year lows. Historically, investors buying at the same valuation as today have made positive returns on a subsequent one to two-year time frame. Similarly, some sentiment indicators show pessimism for the asset class not seen since 2008. We assert that things are not as bad as people fear. Long-term investors know that the best returns are made when the crowd is pessimistic and buying feels uncomfortable. Embrace your inner contrarian!

However, investors should avoid companies whose business model is dependent on significant debt. There are great franchises available for investors to buy in emerging markets that do not borrow to grow. Debt is an additional headache in an environment of rising rates and falling global liquidity.

So be selective. There are opportunities to buy great companies at great valuations. Look for companies with the following traits 1) A barrier to entry or ‘moat’ that makes it hard for competitors to copy, allowing a business to earn and sustain high returns on capital. 2) Cash-generative businesses. It’s a cliché, but cash truly is king. 3) A business that has plenty of opportunity to reinvest surplus cash to grow organically.

Chetan Sehgal, manager of Templeton Emerging Markets Investment Trust (TEM)

In 2018, the world economy entered unfamiliar territory. Global supply chains and trading relationships came under pressure and emerging markets (EMs) appear to have borne the brunt of the fallout: an asymmetric – and, in our view, excessive market reaction that has contributed to valuations dropping to near crisis levels.

However, the current fundamentals do not warrant the declines seen in EM assets over 2018. And while investor expectations may deteriorate, we think the gap between EM fundamentals and valuations is such as to provide a reasonably large margin for performance potential over the next 12 months.

Trade tensions have been a primary contributor to weakness in EM. However, while exports remain a key engine of growth, they are increasingly shipped to other EMs; the relative importance of developed markets has declined. Although tariffs undoubtedly come at a challenging time for China, the impact will be felt globally. Furthermore, as EMs have become more domestically orientated, the roles of consumption and technology in generating growth have become more prominent. Industries such as semiconductor manufacturing, online gaming and internet banking have become a primary driver of returns, while e-commerce platforms facilitate rising consumerism. We retain confidence in the sustainable earnings power of these companies, despite recent share price corrections.

EM valuations have been approaching crisis levels due to substantially weakened confidence (and performance), yet cash flows and earnings generally remain resilient. In 2019 we expect these conditions, when paired with improving corporate governance that includes dividend payouts and buybacks, present an increasingly attractive long-term buying opportunity for us. Many currencies have been cheap, and as value-oriented, long-term investors, we continue to invest in companies that demonstrate sustainable earnings power and trade at a discount relative to their intrinsic value and other investments available in the market.

GLOBAL BONDS 

Nick Maroutsos, co-head of global bonds at Janus Henderson Investors

The most important aspect of 2019 is whether the US Federal Reserve will raise interest rates at its anticipated pace. Much of what will occur in bond markets – and the economy – will be influenced by the Fed’s actions. While some expect an even more aggressive Fed, we believe that, given its history of caution, it will err on the ‘dovish’ side. The threat of an escalating trade war and broader prospect of slowing global growth are two factors that could necessitate a pause on rising interest rates.

A second theme could be that higher rates are here to stay. The autumn’s equity volatility did not send bond yields materially lower (ie send bond prices higher). While still below historical levels, higher rates could put pressure on earnings and economic growth. The absence of inflation, however, should keep a lid on longer-dated bond yields, with the result being a flattening yield curve. However, a flatter, or even inverted, curve does not portend recession, in part due to lower term premiums.

We are looking beyond the US for the most attractive opportunities, namely in ‘softening’ economies where central banks are likely to either hold rates steady or lower them; Australia and New Zealand are two examples. With the Fed ahead of other developed market central banks, holding very long-dated US bonds looks risky. Bond investors typically stay within their comfort zones, but we live in an interconnected world and investors can generate attractive returns on a hedged basis when looking internationally.

On the credit side, we think quasi-sovereign companies, or structurally advantaged industries, such as banking and infrastructure where – often regulatory – barriers to entry are high, present attractive sources of income generation. The largest risk to markets would be the combination of more aggressive Fed policy coupled with widening credit spreads. An unexpected acceleration in inflation, trade disputes hurting margins and an extended credit cycle are factors that could contribute to such a scenario.

Bob Jolly, co-manager of Schroder Absolute Return Bond (GB00B57BFC79)

The storm clouds are gathering for fixed-income investors who may soon have to leave behind the quiet life they have become accustomed to post-2008. The sea of tranquillity is being disrupted by monetary policy adjustments and geopolitical factors. We see a mixed picture: the US expansion has further to run (good), red flags such as excessive consumer borrowing remain absent (neutral), but market gains are likely to moderate (negative).

So where do we go from here? After a decade of extreme monetary policy accommodation, it’s hardly surprising there is a degree of market turbulence as central banks begin the gradual removal of these policies. Markets are acclimatising to the shift and some of the more inflated riskier assets, equities notably, have recently suffered. From here we see a mix of good, neutral and negative developments.

The good news: the US expansion looks more durable than most commentators suggest. Our analysis suggests productivity (often measured as amount of economic output, or GDP, per amount of input, usually hours worked) could rise going forward. While this may involve interest rates ultimately settling at a higher level, it also suggests a stronger level of growth. The positive developments in terms of higher productivity could also extend beyond the borders of the US.

The more neutral news: domestic economic activity in most parts of the world is moving ahead nicely, consumers are mostly living sensibly within budgets and many of the excesses which can often appear after a long period of economic expansion and as the economic cycle starts to mature, are still largely absent. For the most part, employment and average wage earnings growth are reasonable rather than excessive.

Inflation, while nudging higher, is again not flashing any real warning signals of excess. While monetary policy accommodation (QE, low interest rates) may be removed, should the above backdrop continue, central banks can continue to remove it gradually without risking choking off economic activity.

The bad news: asset prices are unlikely to continue to rise at the speed and consistency they have been for much of the last five to 10 years. As monetary policy returns to a more normal level, many assets will need to be priced without the meaningful support provided by the world’s central banks. For some this could mean significant adjustments.

Markets are likely to be more volatile going forward. We may see higher levels of company defaults (companies missing interest payment on bonds). Risk will need to be stringently and realistically priced, which means it could be time to throw away the rose-tinted spectacles, especially in parts of the world where debt has quietly been increasing to record levels.

While this doesn’t have to be disastrous for asset prices, it could suggest the days are numbered for buy-and-hold tactics, holding stocks and bonds and riding a smooth upward trajectory.

UK equities: relative values, external levers

Aim-ing for growth in 2019

The UK economy - Trouble ahead

Must politics always weigh on European stocks? 

Japan: Abe's arrows still on target

US equities: losing their bite

Emerging markets and the Trump effect

2018: The year in charts

FX: Too early to call the top of the dollar rally?

Brexit: Businesses scramble to adapt

Where are next year's IPOs?

Asset Allocation: Favouring durability and defensiveness

What fund managers expect in 2019

Resources: Calling time on fossil fuels?

Housebuilders set for a squeeze

Alternative routes to profit

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