Pendal’s head of multi-asset MICHAEL BLAYNEY takes investors on a whistle-stop tour of the major asset classes and where to find value right now

Listen to the podcast above or read the transcript below

Interviewer Sean Aylmer: I’m joined on The Point podcast by Michael Blayney, head of Pendal’s multi-asset investment team. Michael, essentially your job is to look across asset classes and identify opportunities globally?

Pendal Head of Multi-Asset, Michael Blayney: Yes exactly.

Interviewer: Michael, what’s the outlook for equities?

Michael Blayney: Equity markets have obviously had a very strong run. As a result, they have become somewhat expensive to varying degrees. Australian equities [are on] on the slightly expensive side, US equities on the much more expensive side.

Now the counter to that is that earnings have been very strong and we’ve seen earnings revised up strongly around the world, including in Australia.

The other element is that price momentum is still very strong in the market as well.

So when we put those things together, it makes us a little bit more cautious than we were. However at this stage we’re not at a point where we’d be recommending to underweight equities in portfolios.

Rather we’d be looking to take risk in areas that are relatively cheaper – to try and find those pockets of value around the world. So for example some selected emerging markets and UK equities would both be examples of that, as would real estate securities.

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Interviewer: I’m going topush on the emerging markets. So UK, but what emerging markets do you like at the moment

Michael Blayney: Specifically we quite like Mexico. It has been neglected by investors for a long time. It has started to rally a bit, but it’s still at very, very cheap levels. That would be the main one.

Other than that, there are obviously other markets in Asia, which were very cheap, but have rallied more strongly. So they’re less of an opportunity.

We’d be a bit more cautious on China at the minute, in spite of the fact that valuations there aren’t too bad. Obviously there’s a number of significant macro risks associated with China.

So we tend to prefer emerging markets outside of China at present.

Interviewer: Okay, what about credit?

Michael Blayney: Within credit, it’s fair to say that credit spreads – which are the extra yield you get paid to take on the credit risk of lending to someone who’s not a sovereign – they have come in a lot since their highs of March last year.

As a result of that, if you look at things like high-yield spreads in the US, you’re really not being paid very much. You’re barely being compensated for what an average default cycle could knock off in terms of your returns.

So at this stage, we’re relatively cautious on credit. We do think it still has somewhat of a role to play in investment portfolios, but we would tend to hold a little bit less credit than usual.

We would tend to favour investment grade simply because even though the spreads are tight, the default experience is seldom bad in investment grade. So you’re still getting some compensation for the risk that you’re taking, but we would certainly shy away from high yield at this point.

Interviewer: Okay, government bonds?

Michael Blayney: Government bonds are an interesting one. Obviously we’ve seen yields rise very strongly early in the year. They’ve had a bit of a retracement of that and come back and then they’ve come back again.

So it’s quite interesting now. We’ve obviously seen markets become more concerned with inflation and that has been reflected in higher bond yields.

Now, the reality is that bond yields in absolute terms are still at relatively low levels. And with the heightened inflation risks due to all of the fiscal stimulus and the re-opening of economies, while we still obviously have quite accommodative monetary policy, the risks of inflation spikes are certainly elevated relative to history.

So we’re a little bit cautious on government bonds. But equally they do still serve a defensive role in a portfolio. They’re liquid. In time when equity markets sell off, while they don’t always provide protection, they do provide protection more often than not.

So we believe investors should maintain some government bonds in portfolios, but should be underweight relative to a normal level of exposure at this point, given the heightened inflation risks.

Interviewer: Okay Michael, what’s the outlook for listed real assets, infrastructure and real estate?

Michael Blayney: That’s an area of the market that we quite like – selectively, of course. But real estate is an area which suffered a lot with Covid. (Here I’m talking about listed real estate rather than residential, where Covid obviously had the opposite effect).

Listed real estate is a beneficiary of that re-opening, if you think about people going back to the office, going back to shopping centres. Obviously there is a bit of diversification within listed real estate because you do have industrial exposure, which gives you still some exposure to e-commerce.

But overall that listed real estate sector, particularly globally, is looking relatively cheap. We think it’s an area that is potentially attractive.

Also given that while the sector itself is interest rate sensitive in terms of the valuations that the market puts on it, the underlying cash flows tend to have a degree of inflation protection over time.

So we do think it’s attractive from that perspective as well.

In respect to listed infrastructure, we like to be quite selective there rather than just buy broad, listed infrastructure indexes.

We do think there’s some attractive opportunities, particularly in Europe, to get exposure to listed renewables which generally provide you with a decent yield – be thinking 4% to 6% yield. A little bit of growth as a nice way to get some stability in portfolios because they tend to have quite a low sensitivity to what’s happening in the broader market and a reasonable degree of income in a world where income is still very hard to find.

Interviewer: So where is the relative value when we look at equities, credit, government bonds and listed real assets?

Michael Blayney: At present we’d still prefer equities to bonds.

Bonds do provide that diversification in sell-offs and equities are getting a bit expensive. But the reality is that earnings growth is still strong. Economic growth, while it’s coming off a bit, it’s still strong.

In that type of environment, we would still prefer equities to bonds.

We would prefer listed real estate to broad equities. That would be primarily on the basis of valuations.

Credit’s an interesting one. From investment grade you don’t get huge amounts of return, but we would just see some exposure to investment grade as being a way to get a little bit more yield in your defensive assets. But it’s something that we wouldn’t have a huge allocation to at this point.

Interviewer: Michael, thank you for talking to The Point.

Michael Blayney: Thank you very much, Sean.

Interviewer: That was Michael Blayney, head of the multi-asset investment team at Pendal. Thank you for listening to The Point podcast. I’m Sean Aylmer, have a great day.

About Pendal’s multi-asset capabilities

Pendal’s diversified funds provide investors with a variety of traditional and alternative asset classes and strategies.

These include Australian and international shares, property securities, fixed interest, cash investments and alternatives.

In March 2024, Perpetual Group brought together the Pendal and Perpetual multi-asset teams under the leadership of Michael O’Dea.

The newly expanded nine-strong team will manage more than $6 billion in AUM and create a platform with the scale and resources to deliver leading multi-asset solutions for clients.  

Michael is a highly experienced investor with more than 23 years industry experience, including almost a decade leading the team at Perpetual.

Find out more about Pendal’s multi asset funds

Contact a Pendal account manager here

Re-opening 2.0 is perfectly timed for retail property, but the office market is also surprisingly robust, says Pendal’s Julia Forrest in this fast podcast

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Interviewer Sean Aylmer: We’re talking about property and particularly retail and office real estate. New South Wales and the ACT are emerging from lockdowns. Victoria is about to. From an investor’s point of view, what does it mean for retail property?

Pendal Portfolio Manager Julia Forrest: Well, it’s exciting times and what a time to open – leading into summer and Christmas. They couldn’t have got their timing better. We have been in lockdown here in Sydney for 102 days. So we’re re-emerging.

The first point of call will probably be services. We’ll see all of the services at all of the shopping centres fully occupied, probably from 8am in the morning to 8pm at night. Everybody’s raring to get out and get their hair done, maybe update their clothes and their jewelry because of course we are leading into party season.

So I am expecting a very buoyant time in terms of retail and shopping centres. Partly it’s timing, partly it’s that we’ve been locked down over two lots of school holidays.

People have money to spend. I don’t know about you, but I didn’t have a lot of confidence booking holidays for December. I have two teenage daughters and looking forward to spending some money on them.

So in terms of timing, it couldn’t have been better for shopping centres to be opening.

I think what will differentiate this reopening versus the previous reopening last year is that we’re coming out into a period of surging asset prices.

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So when we emerged last year in May-June, people were still uncertain. We have seen house prices up 20% to 25% since then, and also stock prices up a long way.

People have cash in their banks and they’re feeling wealthy. So I’m expecting a pretty buoyant time for retail.

Interviewer: If you go to some of those shopping centres today — and particularly the ones in Sydney – there are still some boarded-up shops. Do you think many retailers won’t come back?

Julia Forrest: Unfortunately, that is a likelihood. We’re probably opening up into a period of less supply, whether it’s cafes or apparel. Retailers have used this time to close their bottom 5% to 10% of stores – particularly if they are in hold-over (ie there wasn’t an active lease on the premises).

So we probably are opening up into a period where they will be less supply. One of the issues for retailers is whether they actually have had the confidence to order enough inventory ahead of reopening.

So that will be an issue, as well as whether they have sufficient staff. So that complicates things a little as well.

Interviewer: Let’s move on to office. People presumably will return to work in coming months. Though perhaps not at the same levels as they have been pre-pandemic. What do you think about the outlook for the office market?

Julia Forrest: I’m actually sitting in the office at the moment. There are very few people here, but I suspect that most people will be back in December for Christmas parties and lunches.

Because everybody has been locked down for a long time and they’re probably missing their colleagues.

So I guess the big returning time, in earnest, will probably be sometime in January where you’ll see this continuity of people back in the office.

But I think the cycle of “work-from-home” is quite well established. I suspect we’re only going to see people in the office probably three days a week from here on, which will obviously impact demand for office property. Probably more in the reconfiguration of space.

I think that employers really need to get people back in the office to work together, to collaborate. But I think they probably need to “earn the commute”, to quote Lend-Lease. They need to make the office vibrant and compelling for people to really want to come back into the office.

Interviewer: So for investors, the big question is: what’s the medium and long-term outlook for retail and office?

Julia Forrest: For retail, we have seen a number of transactions announced in the last two weeks. We do expect a couple more, which really put a floor under prices.

Prices have been marked down in the last year and a half. They’re probably off somewhere between 7% and 20%, depending on the quality and the dominance of the centre.

I think we’re book values are now we’re seeing quite a lot of support. So for retail things will improve from here. You have seen rents marked down and I think they’re probably more at sustainable levels now.

The surprising thing has really been office.

The demand for office assets has been robust. Book values have held and that’s despite what we can see is probably going to be slower demand, but also continued supply.

The reason why supply is continuing, is that office values have held their values.

It makes sense for developers to continue developing, because they can continue selling assets at book value, even though the underlying demand may not be there.

So we’re pretty optimistic on retail, in terms of net operating income and in terms of values.

The office book values are holding, but we can see rents continuing to be under pressure for the next two-to-three years.

Stagflation is a buzzword in global markets at the moment. Is it really back to the 1970s? And what would that mean for investors? Pendal portfolio manager Amy Xie Patrick explains in this fast podcast

Listen to the podcast above or read the transcript below

Interviewer Sean Aylmer: Stagflation. It’s a word we hadn’t heard for a long time, but in the last few weeks or months, suddenly it’s getting an airing again. What’s behind that?

Amy Xie Patrick, portfolio manager, Pendal Income and Fixed Interest team:

Absolutely. I think the last time we heard about the word stagflation, and when it really was a theme, was when we thought about the oil shock crisis that happened in the ‘70s.

I think what’s happened again this time round is that commodity prices, and these energy shortage stories — all the way from Europe, throughout China and hitting a lot of emerging markets as well — is making people think we’re going through the same set of circumstances again, which could trigger stagflation this time round.

But I do think that for stagflation you need really growth to stall – not just slow – and you need inflation to be skyrocketing.

I think stagflation as a word to characterise what we’re going through right now is a bit of an exaggeration.

Interviewer: Okay, so they’re overplaying the slowdown in growth and they’re overplaying the rise in prices – and that’s why we’re hearing stagflation?

Amy Xie Patrick Exactly. I think what’s behind the rising prices is several fold.

Obviously because of the Covid pandemic and the crisis that ensued, there was a massive drop-off in demand.

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Whenever there’s such a massive drop-off in demand, the capacity always adjusts. The same goes for commodity capacity. The same goes for energy and fuel capacity.

When that capacity falls, it takes a long time to come online again. Furnaces don’t just get switched back on. Miners don’t manage to suddenly turn on a lot of capacity very easily.

As a result, as you’ve seen demand recover from the depths of the pandemic, the supply hasn’t been able to really catch up.

So this is the first point that goes against this thesis of stagflation.

Demand is recovering. Vaccination rates are starting to really climb globally, even for those parts of the world that were really lagging at the beginning of the vaccination drive.

And as we see economies continue to open up, that demand recovery will continue to underpin some of the overall growth recovery that we’re seeing globally.

So by no means do I see a picture where growth is suddenly stalling or going backwards.

And then on the inflation side, it’s not just supply bottlenecks that are causing the fuel price rises and the commodity price rises. The demand side of the picture also seems pretty robust.

On the supply side, we have been told by a lot of policymakers in the central banks, not to worry about inflation because it is transitory. But some of them are starting to scratch their heads and think about how transitory.

I do think it probably leaves you with an inflation outlook that is slightly less comfortable than what we’ve been used to for at least the past five years.

Inflation – both headline and core – is likely to sit at or slightly above what central banks have as their targets.

Australia perhaps is one of the exceptions, because the RBA does target the middle of their ranges – 2.5 per cent as opposed to the rest of the world which largely targets 2 per cent.

But overall, just because inflation will sit at a slightly higher level than what we’ve been used to for the past five years, it doesn’t mean an inflation surge that suddenly becomes out of control.

Interviewer: So bringing that back to portfolio construction, if I’m hearing you right, we still have the same problem that we had six months ago. We may still have the same problem in six months time.

Amy Xie Patrick: Absolutely. You may not see yields go back to their all-time lows.

But by no means, are you going to see yields come back to the comfortable 4 per cent, 5 per cent or 6 per cent ranges where we can happily accrue a loss of income from our traditional fixed income portfolios.

Therein lies the problem for a lot of fixed income investors globally – and in fact portfolios as a whole.

If you’ve got still a lot of risk in your portfolio that is much more equity-beta driven, how then do you offset some of that risk with something that can be negatively correlated when those equity markets get into trouble – and in the meantime is still able to generate you sufficient income to offset some of those transitory or structural inflation concerns that are coming up?

I think that is the real challenge right now for fixed income portfolios.

For us at Pendal it really means thinking about using all the tools available to you in your toolkit.

Breaking down those traditional thinkings about the boundaries between asset classes and the boundaries between bonds and equities.

Thinking about where you can derive income from and where you can best use your levers to generate that alpha and those returns for still a very low-yielding world.

Interviewer: So how should we think about portfolio construction?

Amy Xie Patrick: Naturally it means you get pushed further out along the risk curve within fixed income.

You rely less on high-quality government bonds in the portfolio to provide you with that income, but you still leave enough of an allocation to those government bonds for safety.

For times, when you do get that sudden knee-jerk drop in equity market prices.

In the interim you search for income further along the risk curve in areas such as high-quality corporate bonds, but also diversifying into assets such as emerging market sovereign credit.

And that is ultimately the philosophy of how we make our income products.

The idea is to be able to generate steady enough income, that won’t be jeopardised by the quality and default risks within your income-generating engine of the portfolio. And still keep some of that protection going with an allocation to government bonds in the background in case you need it.

Sondal is an investment analyst with over 19 years’ experience covering the Retail, Telecom, Media and Transport sectors. He joined Westpac Investment Management in 1999 and has previously held roles with Commonwealth Bank and Bell Commodities. Sondal holds a Bachelor of Commerce (Finance) and a Bachelor of Science (Maths and Statistics).

 

The days of holding a set-and-forget 60:40 portfolio are over, says Pendal’s Vimal Gor. Investment managers need strategies and sub-strategies within a defensive portfolio. Here’s why

• 60:40 portfolio construction is no longer enough
• Investors need to look for more advanced defensive strategies
• ‘New way of thinking’: Vimal Gor

THE DAYS of set-and-forget portfolios are over and successful investing today requires actively managed defensive strategies, says Vimal Gor, who heads up Pendal’s Bond, Income and Defensive Strategies team.

Traditional investment wisdom says investors can run a portfolio with 60 per cent equities and 40 per cent bonds and get exposure to rising markets while enjoying protection when things turn down.

But policymaker action to keep interest rates low means bonds no longer play the role they once did in a portfolio of providing income alongside downside protection, Gor says.

“People know their fixed income defensive portfolio is broken — they just don’t know what to do with it,” says Gor, speaking at Investment Magazine’s recent Absolute Returns Conference.

“They are navigating this period where the 60:40 portfolio is no longer as relevant as it was in the past.”

Gor recommends investors take a whole portfolio approach and build strategies and sub-strategies within the portfolio that perform at certain times.

“The key thing for clients is that you want to have confidence in the defensive part of the portfolio to perform when you need it.”

The idea is to avoid an asset-class approach and recognise that defensive strategies can be found across the markets, he says.

“It’s like a new way of thinking about it. You’re not so much trying to put together types of asset classes and then getting an outcome, it’s really a focus on the outcome first.

“If the equity markets are all down, what do I need my defensive book to do? And do I have confidence that it will actually work or not?”

Volatility as a strategy

That approach has led Gor to use volatility as a trading strategy, adding equity volatility in recent years and even using cryptocurrency to provide defensive protection.

“It’s really about making sure we’re thinking about the whole portfolio as opposed to saying here’s a fixed income fund.”

Relying on bonds and traditional portfolio construction strategies is effectively equivalent to using old technology, he says.

“We’ve got to this point where there’s complete death for the 60:40 portfolio and if we get bond yields rallying further well then risk parity is largely dead as well.

“But then how do you think about building that defensive path?

“If you don’t use volatility and you don’t use equity vol and you don’t use strategies like intra-day momentum – these kinds of things which are proven to be defensive – well then just relying on an old product set isn’t going to get you to where you want to be.”

Significant Features: The Pendal Active Moderate Fund is an actively managed diversified portfolio that invests in Australian and international shares, Australian and international listed property securities, Australian and international fixed interest, cash and alternative investments.

Fund Objective: The Fund aims to provide a return (before fees, costs and taxes) that exceeds the Fund’s benchmark over the medium to long term.

With a background in cash and dealing, Steve brings over 20 years’ financial markets experience to our Institutional Managed Cash portfolio. During his time at Pendal Group, Steve has managed numerous New Zealand cash portfolios and has been active in portfolio positioning while executing domestic and international credit and bond funds. Steve previously worked at Tullett and Tokyo as a corporate bond broker, and holds a Bachelor’s degree in Commerce from the Australian National University.

What impact will China’s economic slowdown have on Emerging Markets investors? And what are the alternatives? Here’s a quick overview from Pendal’s James Syme and Paul Wimborne

THERE has been substantial media and analyst commentary around the changing political and regulatory environment in China.

Important as this is, we think it is at risk of overshadowing what economic data releases in July and August have shown about the Chinese economy: genuine economic weakness across the board.

Almost every Chinese economic release in those months was weaker than the previous data point, and below expectations.

A selection of this month’s data would include:

• Retail sales (July): +8.5% year-on-year compared with consensus expectations of +10.9% and a previous print of +12.1%)
• Industrial production (July): +6.4% year-on-year compared to consensus expectations of +7.9% and a previous print of +8.3%)
• Property investment sales (year to July): +12.7% year-on-year compared with consensus expectations of +12.9% and a previous print of +15%
• Caixin Manufacturing PMI survey (August): Down to 49.2 compared with 50.1 expected and 50.3 in July.

More ominously, the datapoints that we believe lead the real economy were also soft.

M2 money supply growth in July declined to 8.3% year-on-year and growth in claims on the financial system declined to 7.4%.

These together reflect monetary policy as tight as that in the 2018/2019 period.

Bond yields are also suggesting a slowdown. Chinese government 10-year yields are lower by 0.3% year-to-date. This is during a period when most countries’ sovereign bond yields have risen.

Despite this, commodity prices have not reacted as might have been expected.

Copper has remained around US$9400/t, having started the year at about US$7700/t.

Iron ore has come back to US$145/t from its US$235/t peak in May, but is only slightly lower than its US$156/t start of 2020.

From an equity investor’s viewpoint, MSCI EM Materials has performed well year-to-date and in the past two months.

We cannot see this lasting and we remain zero-weight industrial metals producers in the portfolio.

Brazil and South Africa upcycle

We continue to hold overweight positions in Brazil and South Africa, both of which are major commodity producers.

Why are we less concerned about these markets, given our view on the direction of the Chinese economy?

Emerging economies can generally be thought of as having a trend rate of economic (or earnings) growth, and then a business cycle around that trend.

Even if the medium-term trend is less attractive, markets undergoing a strong business up-cycle can offer compelling opportunities for investors.

This is what we believe is the situation in Brazil and South Africa.

In the eight years that followed the 2002-2011 commodity boom, Brazilian GDP growth averaged just 0.5% year-on-year. Unemployment climbed from 5.2% to 11.3%.

This period saw a significant slowdown in credit growth and a strong increase in the trade balance (reflecting weak domestic demand).

Domestic demand had begun to recover towards the end of this period (for example, car sales bottomed in 2016 and unemployment bottomed in 2017). But the impact of Covid delayed the recovery.

Risks remain, including the timing of the peak in inflation and interest rates and political risk from the October 2022 election.

But we continue to see Brazil as an economy with the economic and financial conditions to stage a near-term recovery in domestic demand — towards what we fully recognise is a mediocre trend rate of growth.

A slowdown in China, with lower commodity prices, may further reduce that trend growth rate. But it will not, we believe, prevent the recovery.

South Africa finds itself in a similar position.

In the 2012-19 period, South Africa experienced average GDP growth of 1.4% with weak credit growth and a deleveraging of the private sector and rising unemployment.

South Africa had not even begun to recover before Covid hit — yet the improvement in the trade balance was much stronger than in Brazil.

We feel South Africa will also stage a recovery back towards trend growth levels in the quarters ahead. We expect opportunities in domestic demand, while recognising urban unrest and new Covid variants are risks that must be monitored.

We do not see a 2021 slowdown in China preventing that recovery.

Some emerging markets are commodity exporters. But neither the economies of those countries nor their equity markets have mechanical linkages to commodity prices — and there will be periods of opportunity in the face of softening export prices.

We believe the second half of 2021 will be such an opportunity.

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About Pendal Global Emerging Markets Opportunities Fund

James Syme and Paul Wimborne are senior portfolio managers and co-managers of Pendal’s Global Emerging Markets Opportunities Fund.

The fund aims to add value through a combination of country allocation and individual stock selection.

The country allocation process is based on analysis of a country’s economic growth, monetary policy, market liquidity, currency, governance/politics and equity market valuation.

The stock selection process focuses on buying quality growth stocks at attractive valuations.

Find out more about Pendal Global Emerging Markets Opportunities Fund here.
 
Pendal is an independent, global investment management business focused on delivering superior investment returns for our clients through active management.

Contact a Pendal key account manager here. 

Tim joined Pendal Group in February 2017 with responsibility for managing Australian Bond portfolios. Tim has extensive experience in banking, financial markets and funding.

Tim joined Pendal Group from NSW Treasury Corporation (TCorp), where he was General Manager, Funding and Balance Sheet, with responsibility for defining and executing TCorp’s funding programme and strategy. Tim’s prior experience includes senior positions in Westpac Treasury, Commonwealth Bank of Australia, Deutsche Bank, Bain & Co and Swiss Bank Corporation.

Tim holds a Masters of Economics of Development from the Australian National University and a Bachelor of Commerce from the University of New South Wales.