The best investment opportunities in 2018 will be found in emerging market assets as the baton of growth momentum has been passed from the advanced to the emerging economies.
The best investment opportunities in 2018 will be found in emerging market assets such as local currency bonds and Asian equities, as the baton of growth momentum has been passed from the advanced to the emerging economies. Investors, therefore, should focus on the balance of risks and returns in 2018 and allocate assets to markets that have appealing prices and can benefit from the economic environment, says HSBC Global Asset Management.
“Despite previous concerns, emerging market growth has not been derailed during 2017. We have seen a notably stronger rally in emerging market equities, with robust corporate profits supporting rising valuations. Asia ex-Japan equities, for example, have recorded 13 consecutive months of positive earnings revisions since September 2016,” says Bill Maldonado, Chief Investment Officer, Asia Pacific at HSBC Global Asset Management.
In fact, both global stock markets and emerging markets recorded robust returns in 2017 to-date, driven by simultaneous growth across all major economies, low inflation and strong corporate results. Macroeconomic factors have created a favourable business environment and this should continue to support corporate profits in 2018. However, the ‘goldilocks’ economic environment – where the environment is ‘just right’ for growth – seems to be waning. Expectations for growth have risen, while government policy may be somewhat less supportive of growth going forward. Inflation has remained low but has also bottomed out. But, while forces contributing to ideal growth are beginning to soften, there is little risk of a global recession and there is still some good momentum in emerging markets. Such economic and market conditions are usually more conducive to risk assets than government bonds.
“We’re seeing the strongest pace of economic expansion since the early 2010s, though it is modest by historic standards. Meanwhile there is strong synchronisation across global economies and diversified growth drivers,” Maldonado adds.
Outlook for Equities
HSBC expects equities to continue performing well in 2018, and for emerging markets to outperform developed markets once again, as valuations for emerging market equities remain more attractive despite the strong rally in 2017. However, HSBC does not believe that developed market equities are overvalued and they still have a place in a globally-diversified portfolio.
“Equities across the board look attractive when compared with other asset classes; we see strong economic growth and rising corporate earnings across emerging markets, and emerging market equities in particular have valuations that are generally attractive relative to profitability,” says Nick Timberlake, Head of Equities, Global Emerging Market, HSBC Global Asset Management.
“The main investment opportunities we see for next year in equity markets are in Asia, and especially North-Asian markets such as South Korea and China. Asia looks set to continue growing at a faster clip than the rest of the world, and that will benefit Asian equities,” Timberlake adds.
Outlook for Bonds
For bonds, while we saw a year of positive returns in 2017 there is more nuanced outlook for 2018. The performance of government bonds will largely depend on the decisions of central banks, because bond prices fall when interest rates rise. However, HSBC expects interest rates in the US and Europe to increase little next year. Conversely, corporate bond prices could suffer from rising interest rates, and could be hit as central banks end their bond-buying programmes.
“Emerging market bonds remain our preferred investment for bonds, particularly Asian bonds. We believe their medium-term performance will be positive thanks to better risk-reward and relative valuation profiles,” says Alfred Mui, Head of Asian Credit, Fixed Income, HSBC Global Asset Management.
“Asian bonds will benefit in particular from China’s belt and road initiative as a key driver of activity in coming years. Meanwhile, emerging market bonds generally are set to benefit from improving macro fundamentals and external positions, benign inflationary and default trends, low volatility due to strong home-biased demand – as well as low correlation with other asset classes for diversification benefits and additional factors like improving commodity prices and brisk international trade,” Mui adds.
The main risk for bonds will be if central banks raise interest rates faster than the markets expect, which could cause bond values to fall, and shift the balance of the global economy to lower long-term levels.