NN IP: Investors face more complex and variable market environment

NN IP: Investors face more complex and variable market environment

Outlook
Technologie (06) AI artificial intelligence cloud

Elections, ‘strong state’ initiatives and inflation are likely to dominate markets in 2022, with a push towards sustainability. Investors face a more complex and variable market environment. In positioning for this environment, finding alternative sources of return and incorporating the transition towards a more sustainable economy into investment decision-making will be vital, according to NN Investment Partners (NN IP) in its 2022 Outlook.

After a year dominated by recovery across economies and financial markets, the outlook for 2022 is more complex and difficult to predict. For markets, three themes are likely to dominate: voters go to the polls in a number of key elections giving their verdict on incumbent governments; policymakers are scrambling to create a ‘strong state’ through strategic spending, taxation levels and tackling inequality; inflation will influence the direction of central banks and the strength of economic recovery.

Ewout van Schaick, Head of Multi Asset at NN Investment Partners, says: 'The headwinds for markets – including continuing supply disruptions, a potential energy crisis and Evergrande – are currently intensifying. Our base case ‘choppy waters’ scenario also anticipates a challenging environment for markets in 2022.'

However, the upside is that the global economy still has decent ground speed from this year and various strong state policies might add another impulse. 'Central banks have so far acted responsibly and have reasons to believe that inflation might be transitory. Investors might well find that 2022 turns out to be better than the current challenges seem to suggest.'

Market themes for 2022

Elections and policy decisions worldwide will have a crucial impact on the market outlook for 2022. The G3 regions will strive for progress in areas such as fighting inequality and the transition towards a more sustainable globe. Voters will give their verdict on the success of pandemic interventions in vital elections in France, Brazil and the US. Central Banks will redefine the rules for their monetary policy.

The concept of a ‘strong state’ could become more important, determining the level of public and private investments, the general expectations for inflation, the degree of freedom for businesses and the level of debt and taxes.

The Biden administration so far has focused on tackling inequality and infrastructure spending. The euro area has acted in the fields of climate change and fiscal integration. Meanwhile, China is pursuing three goals: rebalancing the economy from investment-driven to consumption-based; decreasing inequality; and reducing the dependency on foreign markets.

Inflation is also likely to be a key market driver for 2022. Readings are high, but the Federal Reserve and the ECB hold the view that it is a temporary phenomenon and, when measured by inflation swaps, the markets agree. The normalization might last well into 2022, but most importantly, inflation expectations should remain anchored.

In this crisis, central bankers and politicians have acted quickly and decisively to prevent the global economy from drifting into a depression. Chances are that the exit from the stimulus will be orderly and gradual. But the risk scenario is that either monetary or fiscal policy might turn too hawkish too early.

Valentijn van Nieuwenhuijzen, Chief Investment Officer at NN Investment Partners says: 'When the market outlook is clouded by many unknowns, alternative credit can be a solution as this asset class is largely decoupled from traditional markets. Tighter banking regulations mean traditional lenders have pulled back from some sectors, creating a financing gap that needs to be filled and new opportunities for investors.'

He continues: 'The sustainable finance regulations are providing investors with a range of powerful tools that will help them direct their capital to companies and projects working to solve our most urgent challenges. We expect that there will be a wider range of stocks that will align with the EU’s Taxonomy Regulation on what qualifies as green investments. Notably, companies will step up their issuance of green bonds.'

Search for alternative returns

In this environment, NN IP believes there are reasons to explore alternative assets that are largely decoupled from traditional markets. More and more opportunities are becoming available. NN IP also noticed this in the alternative credit space. The spectrum spans different credit risks and durations – from infrastructure or project finance, to commercial real estate or residential mortgages, to corporate loans or trade finance.

Alternative credit’s powerful diversification characteristics mean that portfolios that incorporate alternative credit are better protected from broader market movements. There are increasing opportunities for ESG integration, and although it requires lots of proprietary research, it provides risk-return benefits and allows investors to meet their sustainability goals.

Increased regulation, such as the EU Sustainable Finance Disclosure Regulation (SFDR), will bring more transparency and less green washing. This should stimulate the market.

Sustainability imperative

The investment opportunity in sustainable investment is still significant, in spite of the capital that has already moved in this direction. Asset managers have voiced their commitment to the net zero initiative, which is likely to involve phasing out assets that are highly emitting, setting clear targets to drive alignment and change, seeking out the best-performing companies and having an active dialogue with already invested companies to drive change.

The final area is impact: upscaling investments in specific projects, such as renewable energy projects, resource efficiency, clean transition and green buildings.

New regulations will increase transparency and should stimulate the movement of capital into greener solutions. NN IP expects that there will be a wider range of stocks that will align with the EU taxonomy, including wider issuance of green bonds and areas such as social bonds becoming an increasingly more mature asset class. All these developments make it easier to move towards net zero. Portfolios will need to reflect this shift.