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2019: Edition 3


Easy Does It

The continued economic expansion, the fluidity of global politics, and the shifting tectonics of monetary policy: All are reasons we think staying invested, but staying focused on alpha and on risk, is the appropriate path. Markets strike us as lacking extremes on either end of the valuation continuum, though they are subject to rising risks, including the potential for recession, flareups of volatility, and political shocks. Easy Does It, in our view, is the appropriate mindset in a climate that calls for a risk-aware adherence to strategic investment allocations.

We see current conditions as largely benign as long as investors understand that risk may no longer be linear. Political shocks and policy-related risks are the variables to watch, whereas we see recession risk as still moderate.

Investors who believe in risk assets but think they offer limited upside from this point forward may revisit strategies with the potential to offer equity-like returns, but with less equity-like beta. In our view this means examining a range of possibilities in income-oriented investing and alternatives. It may, in short, mean adopting an Easy Does It philosophy—seeking to optimize risk in the tenth year of an equity bull market.

Consequently we would emphasize:

  • Sticking to the plan, by maintaining strategic asset allocation weights
  • Alpha-oriented, bottoms-up strategies over pure equity beta
  • Income-oriented investing and alternatives as a response to moderating returns

Macro & Market Views

Uneven global deceleration…

The recent slowdown in activity and growth has had at least two remarkable features: 1) its protracted length, and 2) the manufacturing sector's weakness, whose signal should not be over-emphasized as its share of US GDP is only 10%. Other parts of the global economy—notably the services sector—have been much more resilient in the face of uncertainty over trade policy and the associated disruption to supply chains.

Source: Haver and GSAM.
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The Know
Muni magnetism.

The first half of 2019 saw especially high inflows into municipal bonds, which we expect to persist.

Sustained Flows

The first six months of 2019 saw municipal bond inflows of almost $21 billion, surpassing the average five-year same-period figure by 2.4x. We believe that this voracious demand will persist for the remainder of the year and likely beyond, as the impact of the Tax Cut and Jobs Act continues to drive demand for tax-free income.

Source: Simfund and GSAM.

The How
Look beyond the benchmark.

A diversified muni portfolio may match benchmark returns and may offer higher yield or lower duration.

Potential Benefits of Muni Diversification

While the municipal bond aggregate benchmark makes for a solid starting point, diversification is key in muni portfolios. An illustrative portfolio that matches the Muni Agg benchmark duration may yield nearly 100 basis points more, while one that matches the yield may offer lower interest rate risk. In an environment of low interest rates, broadening term structure and credit quality may provide additional yield or less rate risk.

Source: Bloomberg Barclays and GSAM.

The Know
Liquid tension.

Liquidity is an essential part of investment strategy, yet the opportunity for cash to work is often underappreciated.

Don't Let Your Cash Drag

Identifying goals for cash can enable investors to better align short-term investments with particular liquidity needs. We think that a differentiation between daily liquidity and on-demand liquidity is important. Both allow for preservation of capital, but strategic investments for on-demand liquidity may further unlock incremental return without sacrificing access to cash.

Source: GSAM.

The How
Get short.

Late-cycle flattening makes the front end of the curve attractive on an absolute and risk-adjusted basis.

Find Your Sweet Spot

The front end of the yield curve offers a sweet spot for investors from a yield and duration perspective, in our view. We see advantages for investors residing on both ends of the maturity spectrum. In light of a more accommodative central bank posture, portfolios with longer durations may find more attractive yield towards the shorter end of the curve. At the same time, the US average savings account rate of 1.2% may have daily liquidity investors leaving money on the table.

Source: Bloomberg and GSAM.

The Know
At what price?

Low rates and high equity valuations have presaged lower long-term returns.


Current equity valuations have historically corresponded to mid-single-digit returns in the subsequent decade. At the same time, the aging proportion of the population has steadily marched higher, and by 2020 we expect the number of people aged 65 and older to exceed those aged five and younger. Both developments suggest that in an environment of normalizing equity returns and lower interest rates, investors must look beyond traditional asset classes in pursuit of sustainable cash flow.

Source: Bloomberg, Robert Shiller, and GSAM.

The How
Explore beyond the core.

Cash flow enhancers may help generate income.

Go with the Flow

In today's environment, we believe income generation will be an increasingly important consideration in portfolio construction. With US equities yielding just under 2%, investors may need to look outside of traditional core assets to achieve a 4% or greater annual distribution. Additionally, incorporating cash flow enhancers may help investors capture the majority of equity returns through income rather than relying upon capital appreciation, which is more risky in nature.

Source: Bloomberg Barclays, Morningstar, and GSAM.

The Know
Less macro.

Idiosyncratic factors have grown in importance as drivers of European equity returns.

Fading Factors

European equity returns have dislocated from traditional growth drivers; political uncertainty and weak corporate profitability explain virtually all of Europe's underperformance. Europe's highly cyclical and mature sector composition amplifies these issues. While we expect episodic outperformance during periods of growth acceleration, rising rates, higher US inflation, aggressive US tech regulation, and/or favorable political momentum, we believe the best opportunities in Europe are micro, not macro.

Source: Bloomberg, Goldman Sachs Global Investment Research, Haver, and GSAM.

The How
More micro.

High-performing European firms have seen higher returns.

Bigger Needles in Smaller Haystacks

Since 2009, European companies with outperforming stocks have exhibited significantly greater earnings growth, profit margins, and annual returns than those with weak share-price returns. These fundamental differences are particularly large relative to the US, which is why we see a strong case for active management in European equities. While European beta may have diminished macro momentum, we see alpha opportunities as plentiful—and may be best captured through bottoms-up analysis and more concentrated positioning.

Source: Bloomberg and GSAM.

The Know
At the cutting edge.

Investment managers' information advantages are hard to sustain as data analysis is constantly evolving.

The Competitive Value of Data

The value of data-derived insight varies according to the amount and quality of information. In the initial stage (Zone 1), not enough data is available and the incremental value of data-derived insight remains small. Once sufficient data is available (Zone 2), managers with interpretive processing capabilities have an edge, which may provide an opportunity for alpha generation. However, as data becomes broadly accessible to the public (Zone 3), there is declining incremental value in acquiring “more.” On the whole, managers must consistently evolve and adapt to maintain their information advantage.

Source: Goldman Sachs Global Markets Institute (GMI) and GSAM.

The How
Human and machine.

Artificial intelligence may help innovative managers stay ahead of the pack.

Continuous Evolution of Artificial Intelligence

Artificial intelligence can be defined as a set of computer algorithms performing tasks once perceived to require human intelligence, but which can now be done rapidly, independent of human intervention. Machines can now consistently learn and improve their knowledge and performance at a speed well beyond human cognition, potentially empowering investors with informational advantages.

Source: GSAM.

The Know
Did you know...

Transportation is poised to change more in the next decade than any time since the invention of the automobile.

The Future of Mobility

The next 10 years of mobility will revolutionize the way people and products move. Emergent technologies such as ride-hailing, autonomous vehicles, micro-mobility, and even eVTOL (electric vertical takeoff and landing, a.k.a. flying cars), stand to disrupt a $7 trillion global mobility market, impacting more than $700 billion of profits in the space. The new mobility market will create opportunities for investments as new businesses are established, existing transportation concepts disrupted, and cities transformed.

Source: Goldman Sachs Global Investment Research and GSAM.

The How

The global mobility market is about to change as pay-as-you-go models disentangle usage and ownership.

Should You Ride or Own?

The evolution of ride-hailing stands to spawn broader technological and social transformation. Cloud mobility is utilizing data to alter how cities move, through transportation services including smart shuttle buses and various types of car-sharing. This pay-as-you-go mobility market could potentially expand four-fold to $409 billion by 2030. In the US, we expect vehicles per licensed driver to begin declining in 2028, while in Japan, cars in operation are expected to begin declining as early as 2024.

Source: AAA, EPA, Experian, FHWA, Goldman Sachs Global Investment Research, and GSAM.


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