Idanna Appio adds gold to portfolios, citing risks with US Treasuries due to inflation and ageing
Idanna Appio, after 15 years at the US Federal Reserve Bank of New York analyzing sovereign debt crises, has concluded that US Treasury bonds are too risky to hold, as reported by The Financial Post.
Now a fund manager at the US$138bn First Eagle Investment Management LLC, she ties this decision to a new era of faster inflation, higher government health spending, and bigger deficits due to an aging global population.
Rather than investing in US Treasury bonds, Appio is adding gold to balance her equity and credit holdings. She believes yields on long-dated Treasuries do not offer enough compensation, given the surge in US government borrowing that many fear could lead to a debt crisis.
Her strategy avoids longer-dated bonds, which could suffer most if age-related state spending worsens public debt. Other big money managers, including BlackRock Inc., Royal London Asset Management Ltd., and Germany’s DWS Group GmbH, are also seeking ways to protect clients' money in this environment.
The impact of these demographic changes will be felt across asset classes and geographies, necessitating a variety of strategies. Many reflect inflationary concerns, opting for fewer bonds and more stocks and commodities.
Erik Weisman, a portfolio manager at the US$607bn MFS Investment Management in Boston, noted, “We think of demographics as a slow-moving train and it’s not. It’s a train that’s barrelling toward us and if you don’t get off the tracks, you’re going to get run over.”
Weisman and others see an aging population and falling birth rates leading to increased competition for workers and higher wages. This scenario suggests higher interest rates and bond yields than currently expected.
Current trends support this urgency, with record low birth rates in South Korea and declines in Italy and Germany. BlackRock CEO Larry Fink and investor Stanley Druckenmiller have warned of a looming retirement crisis. Fitch cited the costs of an aging population when downgrading the US last year.
Appio argues that the US is facing very high debt levels and aging-related challenges that are unfunded, with long-dated Treasury yields not compensating for long-term risk. Inflation concerns arise from the idea that more old people spending and fewer young people producing could drive prices up.
Royal London Asset Management is favouring equities and commodities over debt, with Trevor Greetham, head of multi-asset, noting, “We absolutely think about the inflationary consequences of demographics in our strategic asset allocation.”
Inflation tends to erode the value of bonds over time, making fixed coupon income worth less each year. Japan’s experience of slow growth and deflation, despite its aging population, is seen as unique, influenced by cheap Chinese goods.
With trade tensions and a shrinking population, those disinflationary forces from China are waning.
The United Nations predicts one in six people will be 65 or older by 2050, posing particular concerns for pension funds managing about US$50tn globally.
DWS, managing US$1tn, has shifted pension money from fixed income to equities and is buying inflation swaps and investing in infrastructure projects linked to future inflation.
Vera Fehling, Western Europe chief investment officer at DWS, said, “In an environment where we have long-term inflation expectations at a higher level than previously, pension portfolios will want more exposure to assets that might help mitigate that effect.”
Typically, as people approach retirement, pension managers favour bonds to protect against equity-market swings. Nathan Thooft, chief investment officer of multi-asset solutions at Manulife Investment Management, advocates for clients to hold 50 percent or more in equities even at retirement.
Governments also need to prepare, like Japan’s 2014 decision to take more equity risk in its Government Pension Investment Fund (GPIF). Stephen Jen of Eurizon SLJ Capital Ltd. suggests the US and Europe should adopt a 70/30 equity/bond split, like Norway’s model.
Fund managers face challenges navigating these changes, given shorter investment horizons and variables like immigration flows, technology advances, and productivity gains.
However, BlackRock is increasing allocations to European and US health-care stocks, predicting future demand is not fully accounted for. Jean Boivin, head of the BlackRock Investment Institute, noted that markets can be slow to price in predictable demographic shifts.
BlackRock favours countries with growing working-age populations, like India, Indonesia, Mexico, and Saudi Arabia, anticipating stronger economic performance and higher returns. Immigration impacts labour markets, influencing inflation and monetary policy.
Countries like China and South Korea, with low birth rates and immigration barriers, face less vibrant growth compared to the US.
Luke Templeman, a macro strategist at Deutsche Bank Research, pointed out that while fund managers are aware of the growing elderly cohort, the impact on assets and markets will be more pervasive than anticipated. “The maxim ‘buy health care and cruise stocks’ is way too simplistic,” he said.
