KKR’s Henry McVey says world markets in adult-swim-only mode

Amid changing global economic environment KKR & Co, the New York-based alternative assets management firm, has released a new outlook piece by Henry McVey, head of global macro asset allocation at the firm, outlining choppy waters and the uncertain global outlook that are expected to impact asset allocation in 2016. 

“Today’s market conditions are somewhat akin to swimming at the beach when there is a strong undertow that could pull a less experienced athlete out to sea. It might not happen, but the probability is certainly higher than under normal circumstances. As such, we think that the mantra ‘Adult Swim Only’ seems to be a prescient catch phrase for the current macro investing environment,” McVey says.

McVey, who joined the firm in 2011 from Morgan Stanley, retains his focus on India and Mexico saying investors must remain selective, favouring consumer-oriented markets like Mexico and India when these markets trade down to more reasonable valuation levels.

McVey highlights that while Mexico will be the star performer, elevated levels of absolute multiples or propped up valuations will keep India from outperforming other economies.

McVey also highlights the need for increasing cash component of the portfolio as he believes cash could offer a competitive return relative to other asset classes if the Fed hikes rates three times. He also increases the share of cash from 1 per cent to 7 per cent in asset allocation. Besides, he lays more stress on distressed assets as he points out that emerging economies like China’s ongoing slowdown in fixed investment can lead to new and exciting opportunities for distressed/special situations investors.

Key macroeconomic trends in 2016:

Falling global trade

The report highlights that it is not just China’s slowdown, it is global trade that has decelerated sharply which will impact global economy. He says that the current slowdown in both trade and cross-border flows will have significant implications for the global economy over the next three to five years as economies become more inward facing to drive growth which will be a challenge going forward.

Global growth to edge down

Emanating from trade risks, another big development that McVey points to is the slower GDP growth everywhere except Europe. He believes that it is the weak manufacturing sector which will keep a lid on global GDP growth.

Consumers to drive growth but patterns will change

Another trend that McVey highlights is that it will be global consumers who will drive countries ahead and not producers but trends of consumption will change.

“Investors should largely focus their attention towards companies that provide value-added experiences and/or can deliver differentiated value to the end-user consumer,” he says.

Nominal lending above nominal GDP

McVey also points to the threat coming from emerging economies where nominal lending has gone past nominal GDP. While the report highlights a fall in nominal GDP in countries despite real GDP growing at healthy rates, it also points to the disturbing trend of corporates reeling under debt.

He says while quantitative easing-driven low rates have allowed many countries, emerging market nations in particular, to borrow too much too quickly and too cheaply, which has in turn led to overcapacity and declining returns on capital, these economies will be forced to bring nominal lending back down below nominal GDP, which will lead to slower growth and rising credit defaults.

While McVey presents a gloomy outlook for the global economy, he believes that it doesn’t mean one should stay away from investing. He believes that there are still some opportunities that one can look forward to.

“The current macro backdrop does not mean that there are no good investment opportunities. Rather, one just needs to – as Thomas Jefferson said – remain cool and unruffled under all circumstances to take advantage of them,” he adds.

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