Tactical asset allocation review: Marching on

  • Written by 

    Laura Kane, CFA, February 2015

  • 10/04/2015

Easy monetary policy around the globe pushed markets higher in March. European and Japanese equities, in particular, enjoyed the support of quantitative easing. Meanwhile, in the US, there was a continued dovish tone from the Fed that reversed bonds’ earlier rout. Emerging markets returns were volatile and uneven amid uncertainty around the timing of Fed rate increases.

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Developed Markets Equities

Policy divergence across the major developed markets influenced returns in March. In the US, where rates are expected to rise by the end of the year, large cap equity returns were close to flat.1 US equities gave back some of February’s gains early in the month, as strong labour data increased the probability of a Fed rate increase. Prices briefly rallied into the middle of the month, however, when Ms. Yellen reassured the markets the Fed would take a very gradual approach to rate increases. US economic data, namely durable goods orders and consumer spending, exhibited some softness during the month, as frigid temperatures suppressed business activity and kept US consumers indoors. Housing data managed to surprise to the upside despite the winter weather headwind.2

Meanwhile, European and Japanese equities experienced the tailwind of quantitative easing. Euro zone stocks gained almost 4.0% during the month, bringing year-to-date total returns to almost 19%.3 Gains in the month were supported by upward revisions for GDP and earnings estimates. Japanese equities kept pace with a 3.8% rise during March.4 Japanese economic data was mixed, with business and consumer sentiment rising, despite subdued consumer spending and factory output in February.5

We remain Overweight Developed Markets Equities. In the US, improving labour markets and lower oil prices should translate into increased consumption and growth, which should bode well for stocks, both large and smid cap. In Europe and Japan, accommodative monetary policy should create more liquid capital markets, helping to stimulate activity in the regions. Weakening of the euro and the yen versus the dollar should also increase demand for exports.

Emerging Markets Equities

Emerging Markets Equities trailed their developed peers by more than 100 basis points in March. Overall, Emerging Markets Equities were down 2% during the month.6 Emerging markets have come under pressure from the prospect of higher interest rates in the US as money continued to flow out of emerging market-themed funds, according to Emerging Portfolio Fund Research (EPFR).7

US Federal Reserve reports suggest that a Fed rates rise before the end of 2015 is likely.8 Emerging Markets Equities have typically underperformed during Fed tightening cycles,9 and we therefore trimmed our exposure from Neutral to Underweight earlier in March.

We remain either Underweight or Neutral fixed income assets

Fixed Income

US yields peaked in early March after the strong payroll report, but subsequently fell after Janet Yellen’s press conference in the middle of the month.10 Chair Yellen removed the word “patient” from the Fed’s guidance about when rates would increase; however, this language change was more than offset by a reduction in the Fed’s fed funds rate forecast for 2015. Bonds rallied on the news, as investors anticipated a very gradual upward path for interest rates. Treasury yields regained some ground toward the end of the month when a higher-than-expected inflation reading increased the probability of an earlier Fed rate hike.11

Meanwhile, in Europe, sovereign bond yields fell further as the European Central Bank (ECB) continued with its asset purchase program.12

We remain either Underweight or Neutral fixed income assets. In the US, rising rates will hurt fixed income investors, especially those with passive, long-duration exposure. Meanwhile, in Europe, yields do not have much further to fall, especially in light of some being in negative territory already.

High Yield and Emerging Markets Bonds

Emerging Markets Bonds were down 1.9% in March.13 With a stronger US dollar and a more volatile geopolitical landscape, yields do not seem to compensate for the additional risk. Increased leveraged in emerging markets since the crisis increases their vulnerability to the Fed’s eventual rate hike.

We are Underweight Emerging Markets Bonds due to an unfavourable risk-return profile in light of geopolitical concerns, the potential for continued currency volatility, and impending tightening in the US.

US High Yield Bonds were down slightly this month after outperforming in February.14 While these bonds experienced a lift after the Fed lowered its expectations for the fed futures rate, gains were tempered by ongoing concern about exposure to the energy sector. We are Neutral on US High Yield Bonds. The higher coupons help to offset the duration risk associated with the expectation of rising rates.


REITs ended the month slightly up after peaking mid-month on the Fed’s dovish comments following the March Federal Open Market Committee (FOMC) meeting.15 We are Neutral on REITs. While the transition to a normalised interest rate environment could put downward pressure on prices, a stronger US consumer and lower oil price should bode well for many REITS sectors, such as retail and apartments.

Oil prices find some support


WTI oil prices traded sideways for most of March, ending the month lower at almost $49 per barrel. Iran and world powers worked toward a nuclear deal that may cause the OPEC members to increase crude exports. Nickel dropped to a six-year low on fears that demand for the commodity used in stainless-steel production will decrease in China, which is the world’s top consumer. Copper prices rebounded due to the expectation for stimulus in China and production disruptions in Chile. Meanwhile, precious metal prices declined, as the US dollar continued to strengthen and pressure mounted on the Fed to raise rates.16

We are Underweight Commodities, as a stronger dollar, slowing global demand, and excess supply, in some sectors, will continue to put pressure on prices.

Alternative Trading Strategies

Our Neutral weight to Alternative Trading Strategies is a hedge against anticipated variability in asset prices, as markets adjust to the decreased pace of US monetary stimulus and eventual rate increases. Global Macro funds and Managed Futures have benefitted from a pickup in volatility, particularly in the energy sector and currencies, since late 2014.17

Investing involves risk including loss of principal. International investing involves a greater degree of risk and increased volatility. These risks are magnified in emerging markets.

FIGURE 1: Tactical asset allocation (TAA) tilts and strategic asset allocation (SAA) benchmark (moderate risk profile) FIGURE 2: Total returns across key global asset classes

1 Source: Bloomberg, as of March 30, 2015. US Large Caps represented by Russell 1000 Total Return Index.
2 Source: Bloomberg, as of February 28, 2015.
3 Source: Bloomberg, as of March 30, 2015. European equities represented by Euro Stoxx 50 Index in local currency.
4 Source: Bloomberg, as of March 30, 2015. Japanese equities represented by Nikkei 225 Index in local currency.
5 Source: Bloomberg, as of February 28, 2015.
6 Source: Bloomberg, as of March 30, 2015. Emerging and Developed Market country equity returns represented by MSCI Indices.
Source: Reuters, as of March 27, 2015.
Source: Federal Reserve, as of March 4, 2015.
9 Source: Bloomberg, as of March 30, 2015. Emerging Markets Equities represented by MSCI Emerging Markets Index.
10 Source: Bloomberg, as of March 30, 2015.
11 Source: Bloomberg, as of March 30, 2015.
12 Source: Bloomberg, as of March 30, 2015.
13 Source: JPMorgan, as of March 30, 2015. Emerging Markets Bonds represented by JP Morgan GBI-EM Total Return Diversified.
14 Source: Source: Bloomberg, as of March 30, 2015. US Government Bonds represented by Barclays US Treasury Index. Investment Grade Bonds represented by Barclays US Aggregate Corporate Index; US HighYield Bonds represented by Barclays US Corporate High Yield Bond Index.
15 Source: Bloomberg, as of March 30, 2015. REITS represented by FTSE NAREIT US – ALL Equity REITs Index.
16 Source: Bloomberg, as of March 30, 2015. Commodities represented by Bloomberg Commodity Index. Sub-sectors represented by Dow Jones Indices.
17 Source: Bloomberg. Returns as of February 28, 2015 for: Event Driven Strategies, Relative Value Strategies, and Managed Futures. As of January 31, 2015 for Global Macro. Global Macro Strategies by Barclay Hedge Fund Global Macro Index; Relative Value Strategies by HFRI Relative Value Index; Event Driven Strategies by Dow Jones CS Event Driven Index.

Past performance does not guarantee future results. An investment cannot be made directly in a market index.