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Building a portfolio like Blackrock

BlackRock strategists are preparing for more volatile market activity, and warn the full damage is not yet priced into markets. Here’s how they’re positioning their portfolio.

Co-Author | Sarah Dowling

Mentioned: iShares Core Cash ETF (BILL), Global X Management (AUS) Ltd (USTB), iShares Core Global Corp Bd AUDH ETF (IHCB)

After four decades of stable – if not lagging – activity and inflation, strategists at Blackrock are preparing their portfolio for a ‘new regime’ shaped by higher inflation and greater volatility.  

But markets aren’t yet pricing this in, said Blackrock Investment Institute’s chief investment strategist for APAC, Ben Powell, during an event in Sydney this week.  

That’s something investors should be preparing for in their portfolios, Powell says, noting equity earnings expectations and valuations don’t yet reflect the damage of persistently high inflation.

The latest outlook report by Blackrock’s research arm shows Blackrock is currently taking a defensive position, sitting on short-term government bonds and investment grade credit. As markets price in the ‘economic damage’ caused by sharply higher interest rates, Blackrock says it will turn positive on equities.  

“Yet we won’t see this as a prelude to another decade-long bull market in stocks and bonds,” the 2023 outlook report says.  

Here’s how Blackrock is positioning its portfolio for this new regime of persistently high inflation and greater volatility.  

The outlook for equities: opportunities in emerging markets in the shorter-term 

Blackrock’s ‘investment playbook’ lays out its strategic (long-term) and tactical (6-12 months) views across asset classes, and how it aims to capture upside during heightened volatility.  

Likening the current state of markets to the period between “the lightning and the thunder”, Powell says when the thunder does hit, developed market equities will be hit the hardest.  

“Monetary policy works with long and variable lags, so the thunder is coming. We just don't know exactly when, but it is coming,” he says. 

“As the impact of the pre-existing monetary policy tightening flows through, that's going to create downdraft, which will be inconvenient for developed market equities across a couple of dimensions.” 

“We think the damage is underpriced in the West, and if you like, overpriced in the East and the broader emerging market complex.” 

Powell says the growth outlook in emerging markets looks ‘rather encouraging’, and inflation is much less of a problem as well.  

How Blackrock is positioning in equities 

In the short term, Blackrock is neutral to overweight on Emerging Market equities, but notes slowing global growth presents a headwind. 

Within the asset classes, Blackrock leans toward commodity exporters over importers. 

“In China and other parts of the emerging market, it really is a different situation where growth is strong and the lack of any inflation constraints means that, if necessary, there's room for more policy support through the course of the year,” Powell says.  

Whilst underweight in Developed Market equities in the short-term, Blackrock estimates the overall return of stocks will be greater than fixed-income assets over the coming decade. 

“We are tactically underweight [in developed market] equities. We break this down as an underweight in the US, Europe and UK and a neutral on Japan,” the report says. 

“But we take it a step further via sectoral preferences that we think will be key in the new regime. We like energy, financials and healthcare over staples, utilities and consumer discretionary.” 

Longer term, it says developed market equity indexes provide opportunities to benefit from structural trends, such as the energy transition. 

Rethinking bonds 

After a decade of falling interest rates, the return of income has boosted the allure of certain bonds, especially short-term bonds. 

Powell says it’s important to be selective, stating BlackRock has a clear preference for “the relatively safer part of the market”, and opting for shorter-term government bonds over long-term. 

“Short-duration, developed-market government bonds we have as an overweight […] We're much more cautious on longer-term—say 10 years and beyond—develop market government bonds.“ 

“We think yields are going to go up over time, and given yields move inversely to price, we think prices are going to go down,” he says. 

Given Blackrock’s outlook for persistent inflation, long-term government bonds aren’t expected to play their traditional role as portfolio diversifiers. 

How Blackrock is positioning in bonds 

Katie Petering, multi-asset strategist for BlackRock Australasia, says late last year they shifted more towards defensive, short-duration Australian and global bonds in their portfolios.  

She added that for Australian portfolios the exposure to the US—AUD currency exchange was a factor in selection.    

“The portfolios have been positioned to have resilience and portfolio ballast with the additional more high-quality short duration bonds, notwithstanding that we are very aware of our exposure to the Australian—US dollar inversely, so generally we keep a higher exposure to the US dollar which gives us more ballast,” she says.  

Blackrock's shift to bonds supported by broader ETF flows 

Blackrock’s push towards government and investment-grade corporate bonds can also be seen in recent ASX ETF flow data. 

In the most recent February flows report, fixed-income exchanged-traded products outperformed other ETP segments in terms of growth year-on-year, with a 22.1% jump in assets to $19.47 billion.  

That trend is being reflected globally, according to Tamara Stats, iShares ETF and Index Investments Specialist at BlackRock Australasia. 

“Bond ETF flows dwarf equity flows year to date. Across all iShares products globally, we've seen inflows of close to US$18 billion into broad fixed income versus US$9 billion out of broad equity exposures.” 

However, Stats says investors are not flowing to fixed income uniformly. 

“The granularity of fixed income exposures is becoming important, and we think that it makes sense to be precise in your allocations and the flows are demonstrating that as well.” 

Stats says iShares Core Cash ETF (BILL) - which is a highly liquid cash-like ETF - garnered almost $90 million in inflows in February, compared to $46 million in inflows to its locally listed corporate bond ETF, IHCB.

The ASX report shows IHCB saw the largest inflows among ASX-listed global fixed-income ETFs in February, followed by Global X US Treasury Bond ETF (Currency Hedged) (USTB) with inflows of $27 million. 

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