By JPMorgan Chase & Co’s Marko Kolanovic is adopting a defensive stance in the current market climate, characterized by geopolitical risks and tight monetary policies. In his latest research note dated October 16th, Kolanovic, the Chief Global Market Strategist for JPMorgan, suggests that it is time to position oneself for the long duration trade in bonds.
Reversing last month’s decision, Kolanovic adds back 1% to the government bond allocation in the model portfolio due to geopolitical risk, attractive valuations, and less pronounced positioning. Although it remains uncertain whether bonds have reached their bottom, recent sharp reversals in bond yields are attributed to heightened geopolitical risks driving investors towards safer assets.
As attention turns to the ongoing Israel-Hamas conflict, Kolanovic marginally increases exposure to both bonds and gold, considering them as potential geopolitical hedges. Furthermore, he expects a retracement in real bond yields, which further bolsters the case for gold. Kolanovic cautions that despite rich equity valuations, increasing risks from high real rates and rising cost of capital could pose challenges. In addition, he believes earnings expectations for next year might be overly optimistic.
Interestingly, long-term Treasury bond yields experienced a significant surge on Tuesday following the release of stronger-than-expected US retail sales data. For instance, the yield on the 10-year Treasury note rose by 11 basis points to 4.82% in late morning trading. This trend is indicative of the market pricing in a prolonged higher interest rate policy by the Federal Reserve and the worsening demand-supply balance.
In summary, Kolanovic’s defensive approach aims to navigate through uncertain markets by adjusting bond allocations, increasing exposure to gold as a geopolitical hedge, and remaining cautious about rich equity valuations in light of rising interest rates and cost of capital.
The Impact of Bond Yields on Investor Sentiment
Investors have been experiencing losses on long-duration Treasurys due to the inverse relationship between bond prices and yields. The Vanguard Long-Term Treasury ETF, for instance, has seen a decline of about 1% on Tuesday morning. So far in 2023, the losses amount to approximately 11% on a total return basis, as per FactSet data. However, the fund’s recent trend of weekly declines was reversed last week when it gained 3%.
According to a JPMorgan note, the recent surge in bond yields is problematic for both investor sentiment and the economy. The sustainability of these levels is being questioned. The volatility in the bond market further adds to the uncertainty.
Strong Performances in Global Banking and Markets
Goldman Sachs Group revealed that its revenue in the global banking and markets business for the third quarter was primarily driven by impressive performances in fixed income, currency and commodities, as well as equities.
Steady Growth in the U.S. Stock Market
The U.S. stock market has mostly seen positive growth. By midday on Tuesday, the Dow Jones Industrial Average was up 0.3%, while the S&P 500 gained 0.2% and the Nasdaq Composite remained relatively flat, as reported by FactSet data. Since the beginning of the year, the S&P 500 has risen by roughly 14%.
A Cautious Outlook from JPMorgan
JPMorgan maintains a defensive allocation in its model portfolio, emphasizing an underweight position in equities and credit, while placing an overweight emphasis on cash and commodities. According to Kolanovic, the overhang of geopolitical risks, expensive valuations, and deeply restrictive interest rates contribute to their cautious outlook. Despite a longer lag in the impact of high rates this time around, JPMorgan believes that most of the negative effects are yet to come.
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