A member of MUFG, a global financial group

Mitsubishi UFJ Asset Management (UK) Ltd. (Registered in England No 1842259)

Global Investment

Strategy

JULY 2020

ANDREW JENNER

HEAD OF INVESTMENT STRATEGY

MUFG ASSET MANAGEMENT

MUFG Asset Management

Investment Summary

2

The Covid-19 virus has created a major shock which is hitting global activity.

The initial shutdown of people movement and economic activity has stemmed the outbreak.

Consumer confidence is holding up but unemployment is high: which will win?

Where it can “lockdown” is being eased, but it is too early to ascertain the path of economic recovery.

The virus has not disappeared, nor a vaccine yet found, so taking care and staying safe remains the call.

Inflationary expectations have weakened as recession hits everywhere.

Inflation expectations will likely not be a problem for some time to come.

The oil price has bounced back to the high $30s but there is no confidence or clarity in its future price path.

Yield curves have steepened somewhat.

The short end of the interest rate curve remains at low levels and negative for several major countries.

The long end has begun to accept that economic recovery will occur, and has pushed yields a little higher.

Even so, ten year yields remain below inflation targets for the next ten years, hardly suggesting a boom.

This is a damning view of the future, no growth, as well as concern that central banks are now powerless.

Equity markets have recovered strongly, suggesting a quick return to normality.

Corporate earnings for the next 12 months are unknown, profit downgrades have slowed, but that is all.

Surprisingly sector trends are unchanged from bear market to bull market, not even a bouncing dead cat.

Equities do seem to have got ahead of themselves and a further down leg is to be expected.

MUFG Asset Management

MUFG Asset Management

Growth and Inflation

3

20

25

30

35

40

45

50

55

60

07/2017 01/2018 07/2018 01/2019 07/2019 01/2020

JPMorgan Global Manufacturing JPMorgan Global Services PMI S

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

07/2010 07/2012 07/2014 07/2016 07/2018

OECD Major 7 CPI Total Index Non-Food & Energy

Source: JP Morgan, Sentix, OECD, Bloomberg,

JP Morgan Global PMIs SENTIX Business Expectations Survey

OECD G7 Inflation Implied Inflation from Index Linked Bonds

-60

-50

-40

-30

-20

-10

0

10

20

30

40

03/2017 09/2017 03/2018 09/2018 03/2019 09/2019 03/2020

Sentix Confidence

USA Europe Japan

Lat Am East Europe Asia ex Jp

-0.5

0

0.5

1

1.5

2

2.5

3

3.5

4

02/2015 02/2016 02/2017 02/2018 02/2019 02/2020

%US Constant Maturity 10 Yr Bre Germany Breakeven 10 Year

UK Breakeven 10 Year Japan Breakeven 10 Year

MUFG Asset Management

Commentary

4

What are markets telling us?

At this moment in time it probably does not matter what market levels are as they only reflect the here and now.

In particular equity markets have no information to go on.

The rule of thumb is that share prices reflect where earnings will be, but that is not the case at present.

At the same time dividends are being cut in a bid to retain cash, rather than any view of the future.

But at this point no one knows when life returns to normal, and for once it may well be a “New Normal”.

Bond markets have stabilised: yields are at recession levels, with weak non-inflationary growth for many years.

The oil price has bounced but remains at historic low levels.

Yield curves have steepened with the long end selling off, but real interest rates are negative for years to come.

What are we thinking?

Markets have been spooked by the Covid-19 virus, and are trying to imagine what the future looks like.

History tells us that expectations can be very wrong both ways.

China appears to have contained the outbreak in less than 2 months, and other countries similarly.

Within 6 months the world may well look a lot better, or we could see a second wave of virus.

Central Banks have nothing left so Governments are boosting fiscal spending.

The problem is that negative rates are impacting the financial system; can economies grow without banks?

Negative or low real interest rates make bonds very poor value.

Equities need to look cheap to spur buying; share prices need to fall significantly to achieve this.

Fixed Income

MUFG Asset Management

Fixed Income Strategy (1)

6

DURATION

We are at neutral but long higher yielding markets.

Central banks were already struggling to meet inflation targets, the goal has moved further.

Memories of the Great Depression and policy mistakes will keep monetary and fiscal policy growth supportive.

The EU is a worry: will they overcome their constraints or fold?

We continue to favour markets with higher relative yields.

SPREAD PRODUCT

Spread product is attractive, but choose carefully.

We are still overweight spread product as policy support has reduced tail-risk events.

Economic activity going forward will see: slow but positive growth or,

A good rebound with low interest rates persisting for a very extended period.

It is important to focus on very solid companies and sectors that can withstand a slow return to normal.

Weak non-inflationary growth going forward is spread positive.

Financials are still attractive.

Financials entered into this period in far better shape than in the GFC.

Subordinated securities to outperform Senior debt.

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Forward Yield Curves

7

Source: Bloomberg,

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

1m 3m 6m 1y 2y 3y 5y 7y 10y 30y

DEM yield curve in 1y in 5y in 10y

USA GERMANY JAPAN

AUSTRALIA UK MEXICO

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

1m 3m 6m 1y 2y 3y 5y 7y 10y 30y

USD yield curve in 1y in 5y in 10y

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

3m 6m 1y 2y 3y 5y 7y 10y 30y

JPY yield curve in 1y in 5y in 10y

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

1m 3m 6m 1y 2y 3y 5y 7y 10y 30y

AUD yield curve in 1y in 5y in 10y

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

1m 3m 6m 1y 2y 3y 5y 7y 10y 30y

GBP yield curve in 1y in 5y in 10y

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

9.0

10.0

1m 3m 6m 1y 2y 3y 5y 10y 20y

MXN yield curve in 1y in 5y in 10y

MUFG Asset Management

Fixed Income Strategy (2)

8

COUNTRY ALLOCATION

We prefer markets where yields are higher.

We still prefer the higher yielding markets.

Note that German bonds have barely performed despite a collapse in growth expectations.

Central banks will keep rates low until inflation has reached target and inflation expectations are well anchored.

If you can pick up yield by moving out into intermediate bonds it would seem appropriate.

The fiscal and monetary actions are raising some concerns longer term. Worry about those later.

In Europe and Japan ten year yields are negative.

Banking sectors are struggling in the negative yield environment creating a vicious circle.

Japan oddly now looks normal rather than an outlier.

German yields are poor value. If yield downside is negligible why risk suffering the upside?

As we have just seen the world is a very unpredictable place.

CURRENCY

We have limited currency positions.

The USD is expensive on fundamental grounds but is fundamentally a more robust economy.

The Euro is cheap on fundamentals, but rates are not rising and politics is a negative.

Much depends on the shape of the recovery; we just don’t know.

Equity

MUFG Asset Management

Equity Strategy (1)

10

GLOBAL

The global profit cycle should be important to investors.

The 12 month forward global EPS is at the level seen at the end of 2016, and still falling.

The market was then at 1750, against 2200 today, some 20% higher, as are valuations.

Equity investors must believe that any profit downturn will be short lived, and that profits will soon hit new highs.

With little room for disappointment we would wait for a sell-off before buying equities.

Valuations are extended and still not the focus.

P/Es are related to future earnings growth which currently is flat for the next 12 months.

The forward P/E is 20x which is the highest its been, yet there is no growth forecast.

The current historic P/E of 21x is also expensive.

Dividends are under pressure and the current yield is low when one would expect it to be high.

Indeed the last time yields were this low was 2007, just before the financial crisis.

Profit momentum favours no one at present.

While earnings forecasts are being downgraded it is difficult to get bullish.

However markets that discount weak profits i.e. Asia are becoming better positioned for upside potential.

MUFG Asset Management

MSCI Equity Indices and Earnings (right hand axis)

11

Source: MSCI, Bloomberg,

0

20

40

60

80

100

120

140

160

0

500

1000

1500

2000

2500

3000

3500

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

MSCI USA 12m Trail EPS Shiller (10yE)PS

0

20

40

60

80

100

120

140

160

180

0

20

40

60

80

100

120

140

160

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

MSCI EUROPE 12m Trail EPS Shiller (10yE)PS

-100

-50

0

50

100

150

200

250

300

0

200

400

600

800

1000

1200

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

MSCI JAPAN 12m Trail EPS Shiller (10yE)PS

0

10

20

30

40

50

60

70

80

90

100

0

200

400

600

800

1000

1200

1400

1600

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

MSCI EM 12m Trail EPS Shiller (10yE)PS

WORLD

ASIA ex JAPAN GLOBAL EMERGINGJAPAN

USA EUROPE

0

5

10

15

20

25

30

35

40

45

0

100

200

300

400

500

600

700

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

MSCI AC ASIA PACIFIC ex JP 12m Trail EPS Shiller (10yE)PS

0

20

40

60

80

100

120

140

0

500

1000

1500

2000

2500

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

MSCI WORLD 12m Trail EPS Shiller (10yE)PS

MUFG Asset Management

Equity Strategy (2)

12

SECTORS

Limited information from sector trends as earnings remain uncertain.

Technology, Consumer Discretionary and Health Care remain at relative highs.

Energy, Financials, and Industrials are stuck at relative lows.

Materials are being supported by an oil price at $40 and rising business confidence.

Telecoms continue to run but Utilities have paused for breath, dividends are equally uncertain.

Consumer Staples have also settled back at recent lows showing signs of improving valuation.

FACTORS

Tentative signs of change, but still Momentum, Growth and Quality for now.

Value is out of favour, little chance of rising interest rate support, and Dividends under question.

Minimum Vol has lost ground, suggestive of a change in leadership.

With rising economic confidence it makes sense for Quality to lose ground, but this has not happened.

Just as with Dividends, Profitability is uncertain, and struggling to make headway.

Size is equally no guide to the future, with mixed signals, but we would tilt to Small Cap.

Mitsubishi UFJ Asset Management (UK) Ltd.

24 Lombard Street

EC3V 9AJ London

United Kingdom

www.uk.am.mufg.jp

info.muamuk@uk.am.mufg.jp

13

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Disclaimer

14

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