Saxo Markets
Summary: With a recession potentially approaching, adopting a multi-asset trading strategy could be prudent - but not only to offset risk. Asset classes tend to perform differently in different phases along the business cycle, illustrating the upside of tactical asset allocation. Meanwhile, stock markets are statistically down 35-55% during a recession, where short-selling can be an efficient way to capitalise on falling markets.
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The state of the economy
The question of whether or not we are moving towards a recession is on the minds of traders and investors around the globe. While no expert can accurately predict future developments, most recession indicators are pointing towards a slowdown.
The inverted yield curve is one of the most reliable recession indicators, having correctly predicted the last nine recessions in the United States with a slowdown generally occurring about 22 months after the emergence of a yield curve inversion.
Two other major recession indicators are the prices of copper and gold. The former is regarded as a good indicator of the economic state given its use in the construction industry, with a high demand for copper usually suggesting a booming economy. However, copper was down 14% from April to August. Gold, regarded as a safe haven investment in times of economic uncertainty on the other hand, has meanwhile soared more than 20% since the US-China trade war heated up in May.
Tactical asset allocation in turning markets
The basis behind tactical asset allocation is the assumption that certain asset classes, sectors or geographies perform better during different stages of the macro-economic cycle. In contracting markets, for example, investors can benefit from rebalancing their portfolios towards securities that tend to outperform in these conditions. Our analysis suggests that the worst performing sectors during a recession include financials, energy, industrials and materials, while the best performing sectors include health care, communications services and information technology.
With recession signals starting to turn orange, investors need to consider tactical asset allocation as a viable tool to expand the relative performance of their portfolios. This applies especially to long-only investors who feel most comfortable with non-derivatives such as stocks, ETFs, bonds and mutual funds as part of their investment mix.
Short-selling in economic slowdowns
Traders and investors who are open to derivatives have another alternative to merely rebalancing their portfolios during changing business cycles. With equity markets statistically down 35-55% in a contracting economic environment, short-selling becomes an interesting strategy not only to hedge a long exposure, but also to earn potential returns in bearish markets.
A vast variety of derivatives can be used to short securities across industries and geographies. The most popular ones are futures and options. Both are very versatile instruments as they can be used to go long or short on a wide range of securities including stocks, indices, bonds, and commodities.
In light of the above strategies, it is important for traders and investors to select a broker that does not limit their opportunities during difficult market conditions. Tactical asset allocation relies on the availability of a wide range of cash products that is not limited to certain geographies or few large cap stocks from selected exchanges. Likewise, short-selling can only be a suitable strategy if the right instruments and scope of underlying securities are made available to the short-seller.
Saxo is one of few brokers that offer a true multi-asset product range encompassing more than 40,000 financial instruments. Saxo clients can access FX, stocks, commodities, futures, FX options, listed options, ETFs and bonds, all through a single margin account.
Our wide range of stocks, ETFs and bonds allow investors to diversify their portfolios across sectors and geographies, while futures and options provide an abundance of choice to traders who want to go short for hedging purposes or to engage in speculative trading.
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AI: The good, the bad, and the bubble
While a deep recession may not be iminent thanks to central bank policy, interest rates will have to stay high for longer, and this will be accompanied by volatility risk from the unwinding of bubbles, especially within AI.
Steen Jakobsen,
Chief Investment Officer
The emergence of advanced AI systems is by far the most surprising event this year, turning everything upside down, while risks and benefits are debated. AI will also become an arms race between the US and China.
Peter Garnry,
Head of Equity Strategy
As China navigates global fragmentation, its cycle of technology application, productivity enhancement, and growth is threatened by US breakthroughs in generative AI, limited computing power, and geopolitical tensions.
Redmond Wong,
Market Strategist
Japan’s expertise in semiconductors and robotic integration could be the foundation of AI dominance. Combining two of this year's themes, Japanese equities and artificial intelligence, brings a wave of opportunities.
Charu Chanana,
Market Strategist
The AI fever has turned the technology into a darling, pushing crypto further into no-man’s-land. There are striking similarities between AI and crypto, and if these are to come full circle, AI won't be spared for bubbles.
Mads Eberhardt,
Cryptocurrency Analyst
Stocks related to artificial intelligence (AI) have appeared on investors' radars. Expectations are high, but it may be necessary to consider how to get exposure to AI in a diversified way.
Hans Oudshoorn,
Trainer Academy
The USD is on its back foot as markets celebrate an eventual Fed rate peak and steady long US yields. The stakes are even higher for the Japanese yen if longer major sovereign yield curves have to price in economic acceleration.
John J. Hardy,
Head of FX Strategy
While commodities, broadly speaking, have faced some tough months, a partial reversal during June could signal that the asset class is getting back on its feet with energy holding up and precious metals with upside potential.
Ole S. Hansen,
Head of Commodity Strategy
As inflation remains high central banks face hard decisions about whether they should keep hiking interest rates or stop. Meanwhile, the rise of AI creates bubble-like conditions that only make the decision harder.
Althea Spinozzi,
Senior Fixed Income Strategist
