Investors should be defensively positioned in their portfolios and holding cash on the sidelines through the end of the year, according to Goldman Sachs. The firm is specifically overweight cash and commodities, neutral on credit and bonds and underweight equities for the next few months. “We see continued headwinds from higher real yields and a weak growth/inflation mix,” wrote analyst Christian Mueller-Glissmann in a Tuesday note. Not near the market bottom The view comes as global monetary policy continues to tighten in response to persistently high inflation. That, coupled with pressure on portfolios after the UK government’s fiscal easing, has pushed U.S. 10-year Treasury inflation-protected securities to new highs not seen since the great financial crisis in 2007-2008. “As a result, the drag on valuations across assets has continued and the Balanced Bear, i.e. 60/40 drawdown, has deepened,” wrote Mueller-Glissmann, adding that growth stocks have also deteriorated further amid high inflation. Recent market volatility probably isn’t a signal of the bottom of the bear market cycle, but does provide some opportunities for long-term investors to add stocks to their portfolios. “Lower valuations across assets are creating opportunities to add risk for long-run investors but more friendly momentum on the growth/inflation/policy mix or an investor capitulation will be needed for a genuine bear market trough,” he said. “We are looking for peaks in inflation, hawkishness, recession risk, risk premia and investor bearishness.” Some opportunities for long-term investors to buy Of course, Goldman does see opportunities with limited upside into year-end, even though they see elevated global recession risk and have downgraded their year-end S & P 500 target to 3,600. Rising real yields, low equity risk premia and negative earnings revisions provide headwinds for equity valuations, according to the note. After several years of following “TINA,” or “there is no alternative” to stocks, investors are now pushing up the yield curve and facing “TARA,” or, “there are reasonable alternatives.” Overall, it’s likely that volatility will stay high in the near-term. Reaching peak inflation will be a necessary condition for markets and valuations to reach a trough, according to Mueller-Glissman. Goldman economists expect inflation to peak next year, but take time to normalize. “To reduce portfolio risk we suggest a combination of up-in-quality trades in equity/credit/FX, allocations to (liquid) alternatives including trend-following, dynamic risk allocation, and option overlays in equities and across assets, like ‘safe haven’ FX calls,” he said. “With potentially more growth volatility, we believe equity option overlays become much more valuable – we like collaring.” — CNBC’s Michael Bloom contributed reporting.
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