For information purposes only. The views and opinions expressed here are those of the author at the time of writing and can change; they may not represent the views of Premier Miton and should not be taken as statements of fact, nor should they be relied upon for making investment decisions.
Recent events in Israel and Palestine are of course incredibly tragic. As a result, it’s very easy to get caught up in the paralysing terror of the events but this doesn’t mean actions shouldn’t be analysed and questions shouldn’t be asked.
For example, why did the world-renowned Israeli intelligence service seemingly have no advanced knowledge of these attacks, especially as they were multi-faceted, so with numerous individuals involved and a long time in the planning? To what degree will these events bring together a previously divided Israel? More important by far, why is this part of the world experiencing renewed bloodshed, and where is the political will to make progress, as has been seen in other parts of the world? These are important questions but beyond the scope of one of our Perspectives pieces.
More within our reach is to consider geopolitical risk. This type of risk tends to spike out of nowhere and, more often than not, settle down pretty quickly too. However, this new conflict looks unlikely to end in the short term, in part due to the scale of the initial attack, including the taking of scores of hostages. There is also a risk of it spilling over to a broader conflict in the region.
Linking geopolitical risk to portfolio construction, it is worthwhile taking a look at safe havens. Typical safe havens are gold, developed government bonds (especially US Treasuries), bond-proxies in the equity space such as utilities, currencies, typically the US dollar and the Japanese yen, and sometimes oil, depending on the location of the risk.
Gold is a classic geopolitical risk safe haven and has responded accordingly. Oil moved very sharply higher, in large part on concerns that oil supplies will be under threat, especially if the conflict widens. Bonds are a little less straightforward. Of course, they do offer some elements of safe haven but they also do badly in an inflationary environment, as they are nominal assets and are hurt by higher rates. If oil continues to move higher, or even remain at elevated levels, then that will provide complex crosswinds for bonds.
Indeed, the main event in markets since April has been the persistent move higher in US Treasury yields. Did the selling of this safe haven asset reflect a more risk-embracing view from investors? In part, initially at least risk assets were rallying but not in more recent months, in fact risk assets have been selling off. In the bond driving seat more recently has been a consistently hawkish Fed, a higher oil price (even if headline inflation is falling) and, importantly, few signs that US economic growth is rolling over. On top of that, the supply picture for US Treasuries doesn’t look very positive either.
Bond proxies tend to behave in line with bonds and certainly this more defensive area of the stockmarket hasn’t been helping in recent times relative to the broader market.
Some key portfolio construction lessons can be taken from this. Firstly, don’t assume one safe haven can do the job for the whole portfolio, in practice we look for a number of diversifiers. Secondly, markets reward open-mindedness, rather than pigeon holing assets: don’t assume what was once a safe haven will always be a safe haven.
In practice, we currently hold bonds more for income than for diversification purposes. Instead, in the traditional space, we hold gold and oil, as well as a material exposure to US dollars. Looking beyond the obvious we also hold some Japanese and Indian equities, and tend to avoid big tech, as a way of diversifying global equity risk.
Importantly, we continue to ask important questions around safe havens: are the bond vigilantes back, and what happens to resilient US growth and investor sentiment if yields remain at current levels?
Anthony Rayner
Premier Miton Macro Thematic Multi Asset Team
