Our Insights

About personal finance, investments and markets.
September 29, 2015

What to buy, what to avoid

We normally try to concentrate on giving advice on HOW to invest. In the light of the current market turbulence, we also wanted to share our view on WHAT we find attractive and WHAT assets we try to avoid.

Putting the current market turmoil into perspective

When headline writers try to outdo themselves with scare stories (equities tumbling!, China crisis!…) to generate more page-views, most investors are left with a rising sense of uncertainty. What does it really mean when the US equity index S&P 500 dropped by nearly 20% this quarter? Do we face a replay of 2008? Should investors protect their assets and sell or should they see this as a buying opportunity? Since we cannot predict either where equity markets will be by year-end, we focus on valuation and fundamentals. In essence, under-valued assets tend to have a higher probility of delivering above average returns and vice versa.

We find European equities most attractive

Europe is in the early stages of a cyclical recovery with margins still close to historical lows and valuation slightly below their long-term average. The US equitiy market on the other hand already has outperfomancd strongly, resulting in above average valuation on top of very high margins. In our opinion, investors see the US as a safe heaven (with good reason) but they are also overpaying for the safety.

Emerging Markets are attractive again for long-term investors, but the risks are materially higher. Investors should not forget that most Emerging Markets are policy driven and thus visibility is much lower. Although we are still fundamentally bearish, it does not take much to imagine a ripping tradeable rally into year-end. EM are universally disliked by investors as can be seen by the large outflows YTD – but this overlooks signs of improvement (EM equities actually outperformed developed markets in September, the Brazilian Real started to bottom towards the end of September,…)

RegionIndexDividend yieldValuation 2016 P/E
EuropeEuroStoxx 6003.4%13x
USS&P 5002.1%16x
EMMSCI Emerging Markets2.8%12x

Corporate credit looking better but still no strong buy recommendation

We have written previously that credit spreads were too tight and did not compansate enough for the inherent risk. In the last few months, most investment grade and high yield credits have sold off and yields are now slightly more attractive.

RegionRatingYieldYield post fees and default risk
EuropeInvestment grade1.6%1.2%
Junk5.1%3.1%
USInvestment grade3.6%3.0%
Junk7.5%3.8%
EM6.3%3.7%

You should only buy credit, if it helps you to make your portfolio more efficient. However, if you already own government bonds and equities, adding credit to your portfolio does neither improve the risk nor the return profile. Over the last 20 years, a 50%/50& portfolio of equities (S&P 500) and treasuries (10y) would have delivered superior returns and lower volatility than corporate bonds.

In our opinion, the fixed income portion of your portfolio should be for safety and guaranteed returns. Credit does offer neither.

Commodities are for speculators, not for long-term investors

Since we recommended in November 2014 to avoid commodities, the Bloomberg commodity index has dropped by nearly 50%. We would still not recommend to include commodities in your asset allocation. Commodities offer no real return potential: they generate no income and only produce storage costs.

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