BoAML says it’s time to buy ‘real assets’ instead of stocks, bonds
Evidence is growing that global inflation is finally picking up, and Bank of America Merrill Lynch says investors need to “get real” and buy into tangible assets – such as diamonds and farms – while rotating out of expensive stocks and bonds.
The investment bank’s US-based chief investment strategist Michael Harnett said the relative price of real assets, which includes real estate and commodities against financial assets, namely stocks and bonds, is at its lowest since 1926.
“Unprecedented monetary easing since the global financial crisis has caused the prices of financial assets to soar, while real assets have lagged the appreciation,” Mr Hartnett said in a note to clients.
As a result, US stocks sit near their all-time highs relative to US house prices, while bond prices are at record highs relative to the price of diamonds.
Commodity returns sit at multi-decade lows, and earlier this year when commodity prices were at their worst the long run return for commodities fell 6.1 per cent, to the lowest return since 1933.
But the tide is turning. With the advice that investors should “buy humiliation and sell hubris”, now is the time to prepare for the effects of rising inflation, a pull back in central bank stimulus and infrastructure spending from a wave of fiscal stimulus.
“Today the humiliation is very clearly commodities, while the hubris resides in fixed-income markets,” Mr Hartnett said.
According to BoAML research, diamonds, US farmland and gold have the highest correlation of price rises and inflation since 1950, while stocks and bonds are the most negatively correlated.
“No surprise, therefore that the relative value of real assets is highly correlated with the US Fed Funds rate,” Mr Hartnett said, adding over the next 18 months, BoAML expects the Federal Reserve to hike interest rates three times.
Markets are pricing around a 70 per cent chance the Federal Reserve will raise interest rates at its meeting in December, and economic data is providing a robust argument for monetary policy tightening as the US shakes off the last of the effects of the global financial crisis.
The shift from ultra-easy monetary policy is also making way for fiscal stimulus, a product of what BoAML calls “the war on inequality”.
The next presidential term is likely to bring with it spending on infrastructure projects, a bipartisan issue, which are likely to benefit commodities and real estate. It’s a trend seen worldwide with fiscal measures announced in Japan, Europe, Canada and Korea.
“There is no doubt that infrastructure spending is set to rise in coming years. Many countries have ample room to spend. For example, current US debt-to-GDP of 73 per cent could rise to approximately 233 per cent before the debt became unsustainable,” he said.
There’s also the value proposition, with property and infrastructure yielding higher than stocks and bonds in the US. The proposition is now, and if pension funds are any guide, allocations into higher yielding assets are steadily rising, while allocations into stocks and bonds has been on the decline since 1996.
Of the $US33 trillion ($43 trillion) in pension funds globally, allocation to real estate and alternative investments hit 25 per cent in 2015, up from 19 per cent eight years ago.
There are myriad ways of accessing this changing tide, Mr Hartnett pointed out. Among them, buying securities that track the S&P Global Infrastructure Index or the MSCI World Transportation Infrastructure Index.
Buying into US energy stocks also taps into the trend for commodity price rises, he said.