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Stephen Cohen, head of iShares EMEA investment strategy & insight

Four investment themes set to dominate a more uncertain Q2, says iShares’ Cohen

Asset class performance has been very mixed so far this year with currency volatility re-awakened and softening global economic data suggesting more difficult times ahead.

Stephen Cohen (pictured), head of iShares EMEA investment strategy & insight, gives four investment themes set to dominate a more uncertain Q2.
“Recent moves by the Bank of Japan have confirmed that central banks remain the fundamental drivers of today’s markets. This quarter, questions continue over the Fed’s ‘to exit or not to exit’ QE strategy, whilst the ECB’s OMT programme is still the psychological backstop for Europe. The divergence between the US and Europe remains stark and emerging markets have under-delivered on expectations so far this year. So what can investors do?”
1. Defensive equities and equity income
Broad equity valuations remain attractive but macro data has been worsening. Investors are searching for income: dividend income and minimum volatility strategies provide equity exposure with a defensive tilt.
2. Think developed markets for emerging markets
Emerging market equities continue to struggle and have underperformed their developed market counterparts by 10 per cent year-to-date. Investors could look at alternative ways to play the theme such as dividend strategies which may have better risk-reward characteristics. Certain developed market large cap companies and indices such as the DAX and the FTSE can also be attractive ways to access emerging markets indirectly.
3. Japanese equities, but currency-hedged
Japanese equities have already rallied more than 40 per cent since November last year on expectations that the BoJ actions will compress risk premiums. They are however the most potent example of the rise in currency volatility and its impact on returns, as the Yen has weakened aggressively versus all major currencies. Japanese equities should continue to outperform other markets given the significant easing coming into the system, but a currency hedged strategy remains opportune.
4. Mitigating risk in fixed income, and looking at local currency
Bond portfolios carry more risks than in the past and more risks than many investors realise. For example, rate volatility is near multi-year highs in Europe compared to equities, and credit spread volatility still down near pre-crisis lows. So far in 2013, rate movement has accounted for a high percentage of monthly investment grade index returns – both good and bad – in the US and Europe. This situation favours interest rate hedged corporates. Another area that continues to benefit from the search for yield is emerging market debt, where local currency debt currently offers better value than external debt, especially given the duration risk of USD debt.

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