Preparing your portfolio for change

It's a cliche to say that markets dislike uncertainty. Uncertainty and change are constants in both life and markets. That said, investors can be forgiven for feeling unusually tentative about what the future might hold for markets right now.

The crisis in Ukraine has led many commentators to argue that the era of globalisation and international co-operation that followed the collapse of the Berlin Wall and the Iron Curtain is now firmly at an end (BlackRock chief Larry Fink says Ukraine war marks end of globalisation, FT, 24/3/22). The sanctioning of Russia and Russian assets has abruptly reminded international investors that the security of property rights is a vital consideration for any investment, and one that has perhaps been taken for granted for too long.

An unwelcome return

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Perhaps of even more significance is the unwelcome resurgence of inflation. Consumer prices are now rising at rates not seen since the early 1990s (UK: ONS, 23/3/22 and US: BLS, 10/3/22). Until late last year, central banks had been describing this inflation as "transitory" (Jerome Powell Ditches ‘Transitory’ Tag, Bloomberg, 30/11/21), implying – rightly or wrongly – that inflation had been driven mostly by the global economy rebounding from the unprecedented circumstances surrounding the Covid-19 pandemic and the resulting lockdown.

Yet while central bankers may still hope that inflation will ebb over time, they have been forced to "retire" the term and are now talking more aggressively about tackling rising prices. Interest rates have already started to rise in both the UK and the US. Meanwhile global bond yields, which have spent many years declining, are now moving steadily higher. A clear indicator of this shift is that one of the strangest financial phenomena of recent years – the negative-yielding sovereign bond – is vanishing fast (End of an era in sight as euro area borrowing costs sweep above 0%, Reuters, 1/4/22).

This presents a macroeconomic backdrop which is very different to the one against which most of today's investors – both institutions and individuals – have worked and saved during their lifetimes. It's always dangerous to use the words "it's different this time". But it is very clear that the investment backdrop poses challenges and risks which are very different to those that faced investors in the wake of the 2008 global financial crisis, for example.

Times like these

What can investors do to shield their portfolios from the challenges of this new era, one in which past certainties can no longer be relied upon? Diversification remains vital, perhaps even more so now than before. The post-2008 era has been marked by the outperformance of US markets (US and International Markets have Moved in Cycles, Hartford Funds, Jan 2022), so taking a global view of markets is vital for investors who hope to find pockets of opportunity.

But there's more to diversification than simply geography. Diversifying by investment style matters too. For example, in recent years "growth" stocks have hugely outperformed "value" stocks. In a more inflationary world, that may reverse. But any shift is likely to throw up opportunities in both rapid-growing companies which fall out of favour, and overlooked stocks which are better-placed to cope with inflation than markets give them credit for.

Resilience matters too. Regardless of the backdrop, reacting to every new headline or unnerving inflation statistic is never going to be a good investment strategy. Investors still need to be able to rise above the market noise and to think long term – to consider the merits of each individual investment on its own terms, to hunt out the best ideas on a global basis, and to act with conviction when a solid prospect has been uncovered.

Finally, as inflation starts to focus investors' minds on real returns – on maintaining the purchasing power of their savings – they may well start to focus once again on the importance of dividends as a key component of long-term returns. As the most recent annual Barclays Equity Gilt Study shows (Barclays Equity Gilt Study 2021), £100 invested in UK equities at the end of 1899 would have been worth just £167 (in inflation-adjusted terms) in 2020, whereas reinvestment of dividends would have increased that sum to £32,025.

For investors keen to find funds that might help them to weather this uncertainty, Alliance Trust investment trust offers all three of these features – geographic diversification, an alliance of expertise and a 55-year track record of dividend increases.

To find more about Alliance Trust visit alliancetrust.co.uk/riseabove

When investing, your capital is at risk. The value of your investment may rise or fall as a result of market fluctuations and you might get back less than you invested. TWIM is the authorised Alternative Investment Fund Manager of Alliance Trust PLC. TWIM is authorised and regulated by the Financial Conduct Authority. Alliance Trust PLC is listed on the London Stock Exchange and is registered in Scotland No SC1731. Registered office: River Court, 5 West Victoria Dock Road, Dundee DD1 3JT. Alliance Trust PLC is not authorised and regulated by the Financial Conduct Authority and gives no financial or investment advice.