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GAM global equities chief: don’t ditch bond proxy bets… yet

GAM global equities chief: don’t ditch bond proxy bets… yet

Investors are ditching defensive equities – known as ‘bond proxies’ – as they expect cyclical stocks to rally strongly in a growth environment, but GAM’s Carlo Capaul is holding fire.

Capaul, who is head of global and US equities at the Swiss firm, said in an investor note that stock buyers should not be hasty when it comes to rotating positioning.

‘Investors often interpret rising interest rates as the precursor of an economic recovery. This raises the question of whether it is an appropriate time to abandon defensive stocks, sometimes referred to as "bond proxies", in favour of those that are more sensitive to economic momentum.’

Focusing specifically on the industrials sector, Capaul said a rising rate environment, which is also symbolic of growth returning, does not produce substantial differing performance between defensive and cyclical stocks.

Capaul, who runs three funds at the Swiss group, said defensive companies also offer greater levels of profitability than their cyclical peers on average amid rate rises. He said it therefore only make sense to rotate from cyclical if the difference in profitability is extreme, which it currently is not.

‘So should investors now turn their back on defensives and switch to cyclical stocks? We would suggest that the answer is no, not just on the basis that historical return patterns have not always supported such a move, but also because of the timing issue.

‘The phases of the outperformance of cyclical companies are typically relatively short. We are now already almost eight months into the new rising rate cycle, which we believe will not last long,’ he said.

‘The prospective economic conditions in the coming years simply do not provide much room for sustainable interest rate increases, both in view of the high national debt levels seen in the US and large parts of Europe, and the relatively low real growth rates.’

Capaul said this view could be undone if cyclical stocks continue to rally strongly, especially under pro-growth President Trump. He said Trump is likely to have far-reaching implications for financials, consumer discretionary and healthcare stocks, which would need to be watched closely.

‘Nevertheless, on the basis of historical comparisons, the case for investing in cyclicals is, at best, a tactical and selective one. Indeed, it makes sense for income-oriented investors to remain largely positioned in defensive sectors. Long-term outperformance, as clearly demonstrated by our analysis, is primarily achieved through positioning in defensive stocks.’

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