Skittish investors may be ready for more risk

NEW YORK: The investment landscape won’t be much different in 2013 than it has been last year, but the investors might be.
After spending most of 2012 in a defensive crouch, cowed by past crises and on guard against any future ones, more investors seem willing to take risks in 2013 in hopes of a greater reward, money managers say.
“Managing money with one eye on the rear-view mirror is no fun,” said Alan Wilde, head of fixed income and currency strategy at Baring Asset Management, which oversees $ 50 billion.
With investors a bit less skittish but still starved for yield, Wilde said he expects a “small increase in optimism” to encourage investors to chase higher returns.
Doing so will require creativity as conditions around the world — advanced economies in particular — are not conducive to rapid growth. With debt levels and jobless rates high and inflation subdued, most major central banks are committed to holding interest rates near zero for years to come.
Cash may not be an option either. Savings accounts yield virtually nothing and money markets only marginally more. Returns on both are well below the rate of inflation, which when stripped of volatile food and energy costs stood just shy of 2 percent in the year to November.
That panorama, investment managers say, should enhance the appeal of assets such as stocks, high-yielding “junk” bonds, floating-rate loans and mortgage-backed securities.
Of course, the uncertainty in Washington has had a paralyzing effect.
As of late December, talks between the White House and Congress had yet to yield a plan to avert a looming US budget crisis. The Senate moved the US economy back from the edge of a "fiscal cliff" on Tuesday, voting to avoid imminent tax hikes and spending cuts in a bipartisan deal that could still face stiff challenges in the House of Representatives.
Economists earlier feared failure to prevent some $ 600 billion of automatic spending cuts and tax increases from taking effect as planned in January could thrust the economy back into recession.
While stock markets have wobbled in recent days, investors still seem reasonably confident a deal will eventually get done.
That’s quite different from the doomsday thinking that dominated markets in 2012, when at times it seemed the euro would collapse, the bottom would fall out of China’s economy and the US would lurch back into a recession.
“Those kinds of distractions have hounded investors all year, this idea that there was always a disaster just around the corner,” said Steven Englander, head of global G10 currency strategy at Citigroup.
As a result, many anxious investors sought shelter in low-yielding bond funds, which took in $ 297.3 billion this year, according to Lipper data. Stock funds attracted just $ 13.56 billion in new cash despite double-digit gains for the S&P 500.
But those who did take risks in 2012 did remarkably well, noted Jim McDonald, chief investment strategist at Northern Trust, which oversees more than $ 700 billion.
The total return, including dividends, of the benchmark S&P 500 through Dec. 27 was 15.3 percent, while financial stocks rose 29 percent after tumbling 24 percent in 2011.
European shares returned nearly 13 percent, while the Barclays Global High Yield Bond Index was up 19.6 percent year-to-date.
Even Greek government bonds rallied once it became clear the country would not be leaving the euro zone, with the 10-year yield falling from around 40 percent in March to 12 percent at year end. Returns were much more modest on benchmark German bund; yields fell from 2 percent to 1.3 percent in that time period.
Northern Trust said it would enter 2013 with “a tactical overweight to risk,” though McDonald warned that the slight increase in investor optimism will make returns more modest.
Next year looks like it could be another solid one for equities. Even with 2012’s gains, Northern Trust says earnings yields still look attractive, and continued central bank stimulus should provide fuel for further gains.
David Darst, chief investment strategist at Morgan Stanley Smith Barney, favors what he calls the “global gorillas” — large companies with a global footprint that have exposure to emerging markets, which should grow more swiftly than developed ones.
Dividend-paying stocks from Taiwan, Mexico, Brazil and elsewhere also present a good opportunity to pick up yield, said Michael Fredericks, lead manager of the BlackRock Multi-Asset Income Fund, especially if US dividend taxes rise next year as a result of a deficit reduction deal.
Fredericks said the most promising stocks tend to be those of companies that rely on domestic demand rather than the big exporters that dominate many emerging market mutual funds.
“If you really want to get at the local, organic growth taking place in emerging markets, you have to get more direct exposure to that growth than you would by buying a big exporter whose business depends on US and European consumers,” he said.
Of course, investing this year will not be risk-free. Europe’s debt crisis could worsen again, the US economy could tumble into recession, continued turmoil in the Middle East could trigger a spike in oil prices and a global slump.
“It’s still a market where you have to be nimble,” Darst said. “You still have to drive with both hands on the wheel.”
That’s especially true in fixed income, where strategists warn against pouring too much money into bond funds with interest rates at record lows.
Even a modest rise in bond yields could do immense damage to bond portfolios, said Rick Rieder, BlackRock’s chief investment officer for fundamental fixed income. BlackRock expects 10-year US Treasury yields to rise to 2.25 percent next year from around 1.70 percent currently.
That, he said, means bond investors will have to “take a little bit of credit quality risk” in 2013 and to consider taking on some higher-yielding but less liquid securities.
“We still like high yield, US municipal bonds, bridge loans and structured collateralized loan obligations (CLOs), which give you income without a lot of duration,” he said.
Average yields on high-yield corporate bonds, also known as “junk” bonds, were hovering above 6 percent, well above the 1.7 percent available from 10-year Treasuries.
Mortgage-related securities were also likely to be in high demand thanks to the US Federal Reserve, which has committed to buying $40 billion of mortgage bonds each month to lower long-term interest rates, boost housing and help the broader economy.
DoubleLine Capital, which oversees more than $50 billion in assets and has favored residential non-agency mortgage-backed bonds this year, was now looking at commercial mortgage-backed securities to help raise returns in 2013, senior portfolio manager Bonnie Baha said at the Reuters Global Investment Outlook Summit in November.
Rieder agreed: “We like owning assets with structural tailwinds to them, such as real estate-related assets. Commercial mortgage-backed securities are one of our favorites.”