We have a long-term, strategic asset allocation that stands at 3% cash, 57% bonds and 40% equities. Our current allocation differs only slightly from this long-term view, containing 43% equities, 56% bonds and 1% cash.
The fourth quarter of 2001 was marked not only by the aftershock of the 11 September attack, but also by an increasing economic optimism. The equity markets began to anticipate a turnaround in the economy, which led to a marked outperformance in cyclical stocks. Technology issues especially seem to have regained at least a portion of their former lustre. They are again seen as beneficiaries of an economic upturn, and there is at least sporadic evidence (such as in DRAM prices) that conditions are bottoming out.
The key question is now this: will corporate earnings show enough of an improvement to justify the gains already made and possibly support further advances, or will investors find that actual economic conditions do not quite live up to the lofty expectations (again) reflected in stock prices?
We are by and large constructive on stock markets, but still harbour some doubts as to the speed with which equities have advanced from their late-September lows. We are therefore only slightly overweight in equities (43% vs a neutral position of 40%). The benchmark against which we calculate our equity allocation is the MSCI World Index. We are neutrally weighted in the US (57% vs 56.3% benchmark) and the UK (10% vs 10.3% benchmark), and we have an overweight position in Euroland (19% vs 15% benchmark). We continue to believe in Euroland equities, but also acknowledge that the US portion has been rising (and will continue to do so) in the MSCI portfolios. We have therefore assigned an even weight to US equities. As for the UK market, it has not participated in full in the recovery during the fourth quarter, which is why we have raised our weighting there to neutral. Non-euro-Europe, for us mainly Switzerland and Sweden, is assigned a weighting of 3% (vs 4.6% benchmark). We are still doubtful as to the economic fundamentals in Japan and therefore continue to hold a slight underweight there (8% vs 8.8% benchmark). We are also underweight in the emerging markets, which are currently assigned 3% (vs 4.9% benchmark). We believe that certain risks remain, which is why we favour the developed over the emerging markets.
In terms of sectors, for the current quarter we favour a two-pronged strategy in order to approach this still difficult market. On the one hand, cyclicals other than tech should benefit from the hoped-for economic recovery. Tech itself, being highly cyclical in nature, seems to have made significant advances from the September lows, which is why we prefer other cyclical areas. But on the other hand, investors should not be totally unprepared in case the economy disappoints. We therefore would not altogether overlook defensive issues, such as health care, even though they were somewhat out of favour during the market‘s recovery in the fourth quarter.
Our bond allocation is heavily weighted towards the Euro-zone. This is not only based on our constructive outlook on the single currency, but also on the fact that we consider the bond portion of the portfolio as a more conservative investment vehicle. We are therefore heavily weighted towards our home currency, the euro. As for the benchmark of the bond portfolio, we have defined a synthetic one, consisting of 50% JP Morgan Government Bond Index and of 50% Euroland Effas Bond Index. Through this approach we have boosted the Euroland portion in the benchmark to gear the allocation more towards our home currency.
Euro bonds account for 83% of the bond portion (67.8% benchmark), followed by US dollar bonds, which make up 10% (13.9% benchmark). We maintain our positive stance towards the euro, especially in light of the fact that evidence for a major turaround in the American economy remains elusive.
Therein lies one main reason for our overweight position in Euroland bonds. In UK bonds we have a 2% weighting, which is just about even with the benchmark (2.6%). In non-euro-European bonds our exposure stands at 5%, vs a 1% weighting in the benchmark.
Monika Rosen is head of research in Asset Management at Bank Austria in Vienna

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