Balancing long- and short-term views

Éric Morin focuses on two things when analyzing investments: fundamentals and cyclical or short-term factors.

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The senior analyst at CIBC Asset Management says fundamentals are assessed based on “pure macroeconomic and empirical research.” The fundamental forces that inform his long-term view include demographics, monetary policy and productivity.

In a white paper Morin co-authored earlier this year, he wrote that assets are most promising over the long term in emerging markets, where economic growth is relatively stronger and the starting yields are higher.

While developed markets will eventually need to raise interest rates “to cope with potential future economic downturns and prevent a build-up in the financial imbalances associated with ‘too-low for too-long’ interest rates,” the paper said, the need for policy renormalization in emerging markets is much lower.

Looking at the fundamentals isn’t enough, however. It’s also important to have “a clear understanding of key cyclical forces,” Morin said in an early-April interview.

“The most important cyclical factor to keep in mind is the risk environment—more precisely the assessment regarding if risks are balanced or skewed to the downside. If the balance of risk is skewed to the downside, financial markets will move in a defensive mode and fail to behave [as] predicted by fundamental forces.”

The “deterioration” of the economic landscape in the past 12 months shows why it’s important to monitor the risk environment and where the cycle is heading, Morin said.

“In the current environment, government bond yields have declined below their long-term targets and emerging equities have become more undervalued based on our long-term matrix.”

Since reaching a high of 3.23% in October, the yield on the 10-year U.S. Treasury has been in the 2.5%-range in April. The yield on the Government of Canada 10-year bond was in the 1.7%-range in April after its October peak of 2.6%.

Meanwhile, emerging market shares have been rising this year after the volatile end to 2018. MSCI’s emerging market index increased 9.9% in the first three months of 2019, after ending last year down 14.6%.

To navigate challenging cyclical environments, investors and advisors should focus on economic data and market expectations, Morin said. Forward-looking survey data such as the U.S. purchasing managers index (PMI) and inflation provide key information.

The U.S. inflation rate increased from 1.5% to 1.9% in March, while April PMI, often used as a predictor of GDP growth, held at 52.4 in April.

“The better the cyclical environment expectations an investor has, the more faith he can put on long-term fundamentals,” Morin said.

On the other hand, “the more concerned an investor is about the future risk environment, the more weight he should put on more defensive, or prudent strategies.”

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