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Geopolitics doesn’t stop stocks, but in uncertainty it’s better to diversify

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Geopolitics doesn’t stop stocks, but in uncertainty it’s better to diversify

Geopolitics does not stop equities, but the climate of uncertainty rewards multi-assets

The first quarter of 2024 has passed, delivering another period of great satisfaction to equity investors. Equity has generally posted a solid performance, following a similar trend to 2023, while government bonds have given back some of their gains from late last year. US and Japanese stocks led the way, leaving emerging markets and Europe behind, a divergence partly due to slower-than-expected cooling of annual inflation, especially in the US. Rates, however, are expected to soon begin to decline providing a boost to global growth and equity valuations outside the US remain in line with their long-term averages, supporting yields.

Current fixed income yields support multi-asset strategies, while commodities, with their good performance despite geopolitical tensions, play an important role in balancing risk. The watchword therefore remains “diversification”, with an eye on the risk-return ratio and without ever losing sight of the human factor.

The scenery

A noteworthy fact in the first quarter of 2024 is that relating to the solidity of the US economy, which has grown steadily compared to Europe and the United Kingdom, where “zero growth” still represents a better result than the predictions of twelve or eighteen months ago .

It appears that for equity investors, the resilience of the United States, combined with the absence of a significant slowdown in Europe, constitutes a favorable environment. Company profitability remains very solid and, with its performance above expectations, can partly explain the phenomenon. Geopolitics, in fact, has had a surprisingly limited impact on stock markets, demonstrating that financial returns are not necessarily at the mercy of global politics, although the risk of turbulence remains treacherous.

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Government bond yields remain modest, at least in nominal terms, although they are not exactly in the same position as in 3Q 2023. Corporate bonds remain attractivebut the credit spread compared to government bonds falls, now lower than the long-term average.

Risk-return relationship and human factor

We have seen how the equity asset class was the best performing in the first quarter of the year, especially the US one, and how the bond field, however, offered less exciting returns, especially if we look at the government segment of the area EUR.

So why invest in bonds rather than equity instruments? When investing it is always good to consider the relationship between return and risk (volatility). If the equity asset class of developed countries, represented by the MSCI World index, was, in fact, positioned in first place in terms of returns (11.6%), it recorded third place in terms of volatility (13.2%) , while Government Bonds, represented by the Bloomberg Barclays Global Aggregate Government Treasuries index, are ninth (6.8%). If we look at the multi-asset portfolio, it ranks second for returns offered in the first quarter of 2024, third for 10-year returns (6.6%), sixth for volatility (8.5%) also over 10 years. Diversification, therefore, confirms its benefits in both the long and very short term.

When investing, however, there is also the human factor, with its strengths and imperfections. The first quarter of 2024 will go down in history as the period in which Daniel Kahneman, Professor Emeritus of Psychology at Princeton University, Nobel Prize winner in economics in 2002 and father of behavioral finance, passed away. Kahneman, in fact, found that human judgment diverges in a predictable way from the laws of probability, calling it the “law of small numbers”, i.e. the human inclination to draw general conclusions based on limited samples or a few observations, without adequately considering the natural variability of the phenomena or the size of the sample. According to his “prospect theory”, people fear losses more than they love gains, and this inevitably affects investments.

Investing by diversifying, with low-cost instruments and in line with your risk appetite, remaining faithful to your investment plans especially in terms of time horizon, is essential. In a context of uncertain markets, the only true constant is human behavior: knowing it and knowing how to manage it will help guide your savings over time, to the benefit of personal well-being.

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Article by Richard Flax, Chief Investment Officer at Moneyfarm*

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