Equities remain our preferred asset class - albeit with greater selectivity.

 

 

We retain a core exposure in cash and bonds, because they provide a good hedge in the event of economic contagion from the financial crisis - i.e. if our central scenario turns out to be too optimistic on the macro front. Although economic hedging would traditionally involve long duration government bonds, we recommend to shorten duration, in the light of the recent "flight-to-quality" rally and potential inflation concerns down the road.

Outside government bonds, while we do see some opportunities in credit following the significant widening of spreads, we prefer to focus our corporate exposure on equities allocation.

 

 

Our central scenario points to slowing - but not collapsing - earnings, with downward revision risk centered on the United States and on the financial sector. Equities’appeal rests rather with valuation: not only is it attractive vs. other asset classes but, barring a recession, monetary easing should fuel some expansion.

That said, market leadership is likely to narrow with visible growth stocks driving the indices, as earnings growth becomes scarcer. Key attributes to look for are large-cap, emerging market exposure and strong free cash flow generation.

Our regional preference continues to go to Asia, where liquidity should remain strong. Recognizing, however, that valuation is becoming a concern, particularly in China, we also look to Brazil as a cheaper emerging market and beneficiary of soft commodity trends.

We believe that style considerations, more than sector allocation, will drive performance, with visible growth companies to be found across sectors. That said, technology does fit the bill particularly well. As for financials, while remaining cautious overall, we believe it is important to distinguish among businesses - differently impacted by the financial crisis - and selectively look for opportunities.

 

 

We continue to view commodities as attractive thanks to their de-correlation vs. other financial assets, with our current preference going to soft commodities.

 

Real estate, on the other hand, is currently unattractive.

 

 

Global de-leveraging will imply continued carry-trade unwinding, thus improving performance of low-yielding currencies. As for the dollar, we see no reason to question its long-term downtrend at this point.