Major themes to redefine risk, opportunity in 2022

THE global investment space remains a challenging one to navigate as capital markets continue to adapt to the impact of the Covid-19 pandemic.

However, an investment strategy that focuses its attention on emerging trends may help investors better position themselves for gains and ride out the volatility.

As international fund manager, Franklin Templeton Investment Institute, sees it, while the global health crisis has brought about new risks to global capital markets, new opportunities are also emerging for investors to capitalise on.

According to Franklin Templeton chief market strategist Stephen Dover, the ramifications of the pandemic will continue to influence capital markets in 2022.

He reckons the three major themes that had played a large role in markets in 2021 will continue to drive markets this year; and these themes are: electric vehicle (EV) transformation; real estate – shifts in the where we live and work; and fixed income – the search for yield.

In the group’s 2022 Global Investment Outlook report, Dover points out EVs exemplify the roles innovation and technology are playing in equity markets.

“These ‘smartphones on wheels’ are disrupting the auto industry as EV pioneers capture the interest of growth managers. Our value managers are also finding opportunities in this dynamic market by focusing on how established players are transitioning to keep up with the changes in the industry,” he says.

On another note, the United States and China exemplify the starkly different supply and demand fundamentals across global real estate, Dover says.

“While the United States navigates housing shortages and rising prices, China is dealing with the meltdown of one of its largest developers along with housing oversupply,” he explains.

As for the search for yield, Dover says, investors are exploring an expanding universe of fixed income opportunities.

“Corporate credit has seen balance sheet improvement and a positive ratings trajectory during the pandemic. We still see opportunity for improvement in 2022, with real relative value opportunities in investment-grade credit,” he says.

“The US municipal bond space has seen stronger-than-expected tax revenues, which have trickled down into local governments and various municipal sectors. This bodes well for the asset class, particularly in an environment of strong demand and constrained supply,” he adds.

Meanwhile, emerging market fundamentals are generally in good shape.

“Fiscal balances have improved as revenues rebounded, and we have seen rebuilding of liquidity buffers. Local emerging market currencies look vulnerable, which we believe favours hard currency,” Dover points out.

EV transformation

Technology is playing a huge role in driving changes in the global economy and equity markets. The rapid emergence of EVs is the poster child in this area, with new entrants into the market and their soaring valuations disrupting the industry and impacting equity markets, Franklin Templeton notes.

On the heels of COP26, which highlighted the pressing need for global cooperation between industry and governments to cut greenhouse gas emissions, the global automobile industry is expected to invest another US$330bil (RM1.38 trillion) into EVs before 2025, it adds.

Franklin Equity Group portfolio manager Jonathan Curtis points out that by selling high-margin software subscriptions for things like autonomous driving and broadband access, there may be the potential to generate attractive gross margins and market share.

Franklin Mutual Series portfolio manager Tim Rankin, on the other hand, sees opportunity in focusing on incumbent automobile manufacturers – some of which have moved aggressively into battery technology, with scalable modular systems that can work in a wide variety of vehicle models.

“There’s no denying there’s huge opportunity across the EV and autonomous space. But, from a value manager’s perspective, the challenge is to stay true to one’s investment philosophy while still finding ways to access battery and autonomy innovation,” Rankin explains.

Real estate trends

On the real estate outlook for 2022, Clarion Partners head of research Tim Wang is positive based on the strong demand from the industrial warehouse sector, rental housing and the life sciences.

“In this inflationary environment, commercial real estate can act as a hedge against inflation since the landlord can increase rent with improving economic conditions,” he says.

“With the inflationary backdrop, institutional investors have shifted from allocating to the traditional 60% equity and 40% fixed income portfolio we see in the United States, to increasing their portfolio real estate allocation to over 11% for 2022,” he adds.

Wang says he also anticipates high-net-worth individual investors to increase their real estate allocation.

Search for yield

With sovereign debt in developed economies offering low or negative real yields, bond investors continue to reassess allocations to emerging market debt and frontier markets for better yields and overall value, Franklin Templeton says.

One high-profile risk coming into 2022 is a global slowdown, punctuated by China shifting its economy away from its debt-driven property sector, it notes.

Franklin Templeton fixed income portfolio manager Stephanie Ouwendijk predicts this slowdown will likely have a bigger impact on China’s neighbours in Asia, where trade ties with China remain strongest.

Even before China’s slowdown, the group’s overall exposure to Asia was the lowest out of all regions and remains so.

In its view, strong regional demand has pushed down Asian yields far enough that risks are no longer adequately compensated.

Outside of Asia, growth from the United States and Europe points to better risk-adjusted opportunities (higher yields, better spreads) in select frontier economies with strong fundamentals, including strong current account balances, it argues.

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