I Can See Clearly Now
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I can see clearly now the rain is gone
I can see all obstacles in my way
Gone are the dark clouds that had me blind
It's gonna be a bright (bright)
Bright (bright) sunshiny day
It's gonna be a bright (bright)
Bright (bright) sunshiny day…
(From “I Can See Clearly Now” by Johnny Nash, 1972)
Investment Themes for 2021
This blog post represents the last in our series on the alignment between WisdomTree’s Model Portfolios and our primary investment themes for 2021.
Previously, we’ve posted about disruptive growth, reflation, cyclical rotation, and quality and income. In this blog post we will tackle the last (but not least) of our themes—emerging markets (EM).
The Case for Emerging Markets
As we’ve argued previously, emerging markets historically tend to outperform as the U.S. comes out of recession (indicated by the gray bars), and that outperformance can last for an extended period:
If we blow up recent performance, we see a nice run by EM since the beginning of Q3 2020 (though it has faded a bit in the past few weeks as U.S. interest rates have spiked).
Another of the foundations for our positive EM outlook is that we believe there will be continued weakness in the U.S. dollar (which provides a tailwind to non-U.S. risk asset performance in U.S.-dollar terms)—a weakness that began roughly at the nadir of the Covid-19 pandemic last year.
Note the recent bump up in the dollar over the past one to two months, a reflection of the increase in U.S. interest rates and a recovering U.S. economy. The “short dollar” trade (i.e., betting on a weakening dollar) was very crowded heading into 2021, so another possible explanation of the recent bump is simply profit-taking. Regardless, we view the longer-term path for the dollar as downward (weaker).
A final argument for our EM investment thesis is a recovering global economy, in which non-U.S. economies and earnings are expected to grow faster than the U.S.1
A corollary to this is that, if the economic forecasts are correct, it should lead to rising commodity prices as global demand picks up. We’ve already seen this trend taking place since the beginning of Q3 2020 (excluding precious metals), and if it continues it will benefit the many commodity-exporting EM countries:
Model Portfolio Implications
At a strategic level, the WisdomTree Core Equity Model Portfolio (which is the building block to many of our multi-asset models) is overweight the U.S. and EM, and underweight developed international (EAFE) versus our MSCI ACWI benchmark. At the security level, our core EM position in the WisdomTree Emerging Markets ex-State-Owned Enterprises Fund (XSOE) has been particularly helpful:
For standardized performance of XSOE, please click here.
In addition, at our December Model Portfolio Investment Committee meeting, we agreed to make a small allocation to our WisdomTree Emerging Markets Local Debt Fund (ELD), in our Core Fixed Income Model Portfolio. We made this reallocation in an attempt to improve the overall diversification of our fixed income Model Portfolio and add in an additional potential return driver.
Finally, for those advisors seeking to access an explicit EM exposure while potentially improving the factor diversification of their clients’ overall portfolios, we manage an EM Multifactor Model Portfolio, which can be used AS a stand-alone portfolio or, more frequently, as a complementary sleeve in a broader overall portfolio.
This EM Multifactor Model Portfolio builds from the core holding in XSOE, as does our Core Equity Model Portfolio, but it complements that core with diversifying strategies that take factor tilts toward small-cap dividend payers, quality growth, deeper value and diversified multifactors.
We believe the EM investment theme still has room to run, and our Model Portfolios are positioned accordingly. We believe “we can see clearly now” into an extended period of solid performance in our explicit EM Model Portfolio and in the EM allocations within our broader equity and fixed income Model Portfolios. We invite advisors who agree with our thesis to take a closer look as we attempt to help them deliver a differentiated end client investment experience.
For definitions of indexes in the blog, please visit our glossary.
1Note that this forecast was prepared prior to the recent passage in the U.S. of a $1.9 trillion fiscal stimulus package, which may result in higher U.S. growth rates than projected here.
Important Risks Related to this Article
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