Curmi & Partners

Elevated risks warrant more diversification

 By David Curmi

The turmoil currently being witnessed in markets is a reflection of the multiple challenges that the world is faced with. Primarily these are the war in Ukraine together with the geopolitics around it, the significant inflationary pressures that are being felt, and the supply side shock that has contributed to both the shortage of goods and the inflationary pressures.

Whilst the first and the last issues will have the effect of slowing economic growth, it is inflation, and possibly stagflation that is the real fear. In this respect central banks are potentially behind the curve in reacting with interest rate rises. Markets are meanwhile having to deal with a change of monetary policy here. Over recent years, central bank policy has in many ways acted to calm nerves in the markets rather than act for the real economy. Perhaps central bankers were able to do this because inflation was low, perhaps too low. Today this is different and central banks are scrambling to scale back asset purchases and actually raise interest rates, potentially aggressively in some cases.

As investors we need to expect times of turmoil. This is part of the way markets move from time to time. And we need to use this turmoil to assess our strategies, taking stock of imbalances that have perhaps grown into our portfolios as a result of, for example, sticking with fashionable stocks over time. Technology stocks come to mind. The likes of Amazon, Apple, Google, Facebook etc have been on long term bull runs that have taken valuations to giddy heights in some cases. One must question whether it is still appropriate to hold such stocks, perhaps to the extent held, even in today’s environment, with interest rates on the rise. Or perhaps use the weakness in the markets as an opportunity to start getting exposure to some of the stronger more profitable tech stocks – especially those that have the ability to set their prices in the marketplace.

Similarly, after a 40-year bull market in bonds, do we continue to hold such investments given the way they have been performing of late. Perhaps crystallising a capital gain on those long held long term Malta Government Stocks may still be a good idea. And when considering what replacement bond to buy, it is important to be cognisant of the fact that we ought to be demanding a greater compensation in the form of higher rates from bond issuers, to compensate for the higher levels of inflation that we are seeing. As described in our monthly strategy note, issued only last week, we have taken the opportunity to reduce our exposures further to such long dated bonds, using both investment grade and high yield bonds. We have generally stayed away from government bonds as these are the most sensitive to higher interest rates. Instead, we have focused on maintaining a shorter maturity profile and picking bonds that have come down in price more than their underlying credit standing would generally warrant.

In equity markets, the divergence between the economic impact of the Ukrainian war on Europe and on the US economies is also leading us to believe that US markets should fare better than European ones at this point in time. Our main thesis remains that whilst uncertainty continues to hover at uncomfortably high levels, economies are still strong enough to withstand rising interest rates and what we believe are inflationary pressures that will begin to subside at the end of the year. Naturally if we are wrong here then we would need to reassess the extent to which prolonged high inflation will damage household incomes to the extent that consumption falls and the world enters a prolonged recession.

As an overarching principle though with risks at elevated levels it does not pay to take big risks in well structured, diversified portfolios. It does make sense however to continue using ongoing savings plans to drip feed money into the market. This is a long-term strategy that has proven its worth time and again.


The information presented in this commentary is solely provided for informational purposes and is not to be interpreted as investment advice, or to be used or considered as an offer or a solicitation to sell/buy or subscribe for any financial instruments, nor to constitute any advice or recommendation with respect to such financial instruments. Curmi & Partners Ltd. is a member of the Malta Stock Exchange, and is licensed by the MFSA to conduct investment services business.