Replacing Equity Beta with High-Carry Credit
With U.S. equity valuations elevated and fixed income yields attractive, investors may be better served replacing portions of broad equity exposure with high-carry credit over the next three to five years.
A Secular Change in Portfolio Construction
Attractive opportunities for tactical asset allocation tend to emerge three to four times a year. Constant evolutions in economic momentum, policy stances and/or geopolitical tensions often catch market positioning offside, creating a window for tradable swings in rates, FX or risk assets that can make or break active performance for the year.
But we believe the need for holistic, secular changes in asset allocation may only arise once a decade.
Today, we are seeing conditions build toward a major rethink of portfolio construction for the years ahead, specifically the potential for high-carry credit to outperform generic equity beta over the next three to five years, especially on a risk-adjusted basis.
The Last 15 Years Have Been Goldilocks for Equities
Portfolio managers are always looking to optimize carry versus total return potential, and the last 15 years have been a near-perfect environment for equity total returns. For most of this period, interest rates were well below the Fed’s long-run neutral rate, the Fed expanded its balance sheet by several trillion dollars, corporate tax rates were lowered from 35% to 21% and companies leveraged cheap debt to finance trillions in stock buybacks.
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