Investment - 2026 outlook - Episode 154

Hello and welcome to Hyman's Robotson on Investment, a podcast series for everyone and anyone interested in all things institutional investment. My name is Ross McLeod and I am a senior consultant at Hyman's Robotson. For this episode we have again swapped the Dullsit Northern Irish Tones of Ben Farmer with my not-so-dullsit East Coast of Scotland Tones. Nothing broke when they let me loose on the podcast for the first time last year so I'm back. Hello everyone and Ben if you're listening hope you're getting into the swing of Fathershood and many congratulations to you both. In this short series of podcasts we'll cut through the noise to discuss the investment topics that we think are the most useful for institutional investors. Please note as ever this podcast is for informational purposes only and it is not constitute any type of investment, actuarial or other advice. For more information and all of the usual disclaimers please see our website at hyman's.co.uk/insights. Well I'm excited to be joined today by David Walker, partner and chief investment officer here at the firm and Chris Arcarry also partner and head of capital markets here at Hyman's Robotson. And first of all any new years resolutions or should we stick to investment? I am happy sticking to investment of that so curious from relation to best. Okay, but that will move on then. So today what we'll be doing is taking a brief look back at 2025 which in many ways with actually quite remarkable across markets. However the bulk of the discussion will be forward looking so we'll be asking ourselves how might some of the key investment themes play out over 2026? Don't expect crystal balls or any of us to start swirling around the tea leaves. Do expect some thoughts on the state of the world as we see it for the major asset classes, some potential risks that could maybe derail economic growth or investments and given it's the start of the year perhaps we'll have a bit of fun throwing a couple of wildcard suggestions from the world of investment and beyond, perhaps some sport and geopolitics. I could see compliance winning as we speak so we'll see how we get on there. But first of all how about we start with a few reflections from 2025? So aside from a very brief tariff related temper tantrum back in March which feels like a distant memory now I'm going to declare 2025 as pretty much the everything everywhere all at once rally. Well that's what it felt like from start to finish. There were of course a few losers at broad asset class level, a few high profile credit. Defaults, Japanese fixed income down 5% traded $1.08. I guess oil was probably the most obvious loser of the year down around 20%. But boy were there some winners. Where do you mark equities in particular Latin America up 32% or so China up 30%. UK equities up 21% low it's worth noting that within the UK the tide did not rise for everyone. One of Futsi 100 company was down 60% over the year. Outch. Overall though very very strong year and that's after trundling along quite let's say unremarkably relative to peers for a good number of years. UK equities were the top performer, the top performer in major developed equity markets over 20 to 25. Now I can't remember the last time I said that so Chris perhaps just briefly why did UK equities perform so well despite what might be some headwinds and modest economic growth and a fair old dollop of negative sentiment. Any thoughts on that? I think it's multifastit I think that the valuations are part of the story you've seen investors looking beyond the US in 2025. So the UK is benefited from that to some extent. You've also got the sectoral mix in the US financials outperformed in 2025. That's a mixture of yield curves steepening but also a resurgence in deal making activity for the big banks on the back of global equity markets being very very strong. So that's something that's helped the UK. Oil's not been great but the metals and miners in the UK has been a strong story. You've got that AI data center build out and the raw materials of that succin. It's been pushing up the prices of copper tin, all the rare earths which has been bolstering those metals and miners and obviously we can get away from it. The gold rally as well as good for those metal miners as well. So Chris I know you've got plenty of views on the outlook. As you see it from here, walk us through your thinking and David will bring you in to get your take from a chief investment officer perspective. Perhaps picking up on the opportunities and some of the risks that you see out there. Chris the floor is yours. Yes, I think part of that, the zillions in markets that we saw was because global growth actually held up really well as well. In 2025 despite US trade tariffs and policy uncertainty emanating from the US, no growth forecast has been revised up since the lows they touched in the most tariff announcement period in the spring when we saw rapid downward revisions and the same as the growth forecast which of which have risen as well. There's a number of supports that we've seen for the market and remain so in some of them actually becoming even more supportive. The AI driven investment boom in the US is something that is lending support to the US and global economy. You've got healthy corporate finances and critically you've got positive fiscal support and you've also got rate cuts as well. So that actually feels like a pretty decent near term fundamental backdrop for the global economy and markets. So we might not see spectacular reacceleration in growth but you have got some really strong tailwinds there that support and resilient global growth. To touch into some of those specifics of the, before we make see some of that fiscal support, you've got the one big beautiful bill act as it's called. Believe it or not, that's going to extend tax cuts in the US. You've also got China starting to double down on manufacturing stimulus to support export led growth there. You've also got the European major European economies starting to listen to the purse strings with regards government spending on infrastructure and defense and some of that's in response to more isolationist US that's wanting these NATO countries to stand on their own to feed to some extent. So with that in mind, you know, you've actually got this decent backdrop but set against that of good high valuations, you know, we're conscious of that near term fundamental support. But the valuations in the market are expensive. If you know equity markets are trading near near all time highs, although it'll be it's still below dot com bubble and you've got very, very thin credit spreads. So you know, we're conscious, you know, your focus for investors should remain on that long term strategic outlook and the assets that might, might best meet that. But you know, we've got real positive bond yields and high equity valuations in narrow credit spreads. So we would be quite, we'd be a little bit underweight risk at the current, the current time. So important to draw out, you know, it's something that's always true, but just now if you was really pertinent is to think about diversification, you know, tech with a famous economist, Harry Markovitz, no diversification is the only free lunch in finance. No, we recommend doing some scenario testing of portfolios against varied growth and inflation outcomes. And that's to identify vulnerabilities, but also opportunities to diversify. And I mentioned that some of the key risks that we might want to think about facing markets need, but the AI investment boom, you know, it's driving us and global growth. And that might still be in its early stages, you know, but any prolonged momentum there in the further equity valuations go up, it does heighten the risk of corrections if you do start to see any disappointments. And I could particularly be a consideration for the US, you know, households in the US, are holding a record amount of household wealth in the stock market. So there's a feedback look there. If you start to see disappointment in AI and you start to see stock market weakness, that could actually feed back into the economy. And you don't not just through a reduction in corporate cap X, but households could actually start to rein in spending because of wealth effects. So that's a kind of garden variety recession risk that's sitting out there, you know, we see a deflating of some of this optimism and disappointment around AI. At the same time, you've also got this heavy mix of fiscal stimulus alongside monetary easing, which we've seen this movie before. We know how it ended in 2022, you know, it, you can re-ignite those inflation pressures, particularly when you've got a kind of fragile geopolitical backdrop with the scope for supply side shocks out there as well. You know, that's what we saw in 2022. We saw an energy price shock because of the shutdown of Russian gas into Europe. So I suppose it's that fiscal stimulus alongside monetary easing and those geopolitical risks could have a volatile mix there. And in that world, you know, you would have risk assets would be suffering if rates had to start rising again, but nominal bonds and so on. sovereign bonds and some of your traditional havens would probably be struggling as well in that environment. So it's, you know, is thinking about these kind of scenarios and where you can maybe shelter from them. Thanks Chris. A couple of points touched upon, I'd like to probe a little bit more, I could. One on the monetary policy side of things. So do you think 2026 might be sort of peak monetary policy easing for most of the central major central banks? I think we've seen it, I think we're beyond it now. So in 2025, the Fed registrates 75 basis points. The Bank of England, it was so long ago, it doesn't feel quite believable with the Bank of England's reduced to the bank rate 100 basis points in 2025. I think I'm much more modest pace of cutting. No, we'll give modest disinflation coming through. Some recent good news on inflation, the downside surprises. But at the same time, inflation is still running above target in the US and the UK. And you've got some persistence in it. And I suppose we have got listening of the job market, UK unemployment is risen to 5.1%. It's still relatively low in a longer term, historical context. But it's going in the wrong direction for the economy, the right direction for a monetary policy maker, I suppose, in terms of your monetary policy setting. But I suppose it'd be cautious in how they, in how they do that. You know, we're still seeing the Bank of England expects wage settlements to be around 3.5%. In 2026, there will be our thinks of productivity growth is running around 1% at best. And so that would translate into 2.5% inflation coming from employment. So again, inflation pressures are moderating, and that's good news. But it still look a little bit sticky and inflation is probably going to sit above target over over the course of 2026 and 2227. Thanks Chris. So what I think of getting from that is a fairly positive short term environment, at least plenty of risks lurking perhaps slightly further out. David, perhaps could turn to you now. What tools do long term investors have to do something about these risks? And where do you see the direction going from here? As suppose I might steal a page from Chris's notebook there, and one of the big themes that I think is important for the year ahead is that of diversification. But importantly, thinking about diversification and applying it in a range of different ways. And I think one of the risks, as you said there, the short term might look relatively robust and positive, but there are still a lot of risks out there. I think you're going back in 2025, who I was fortunate enough to go in holiday the day before liberation day and missed some of the aftermath of that. And Hilly, as you said, things have settled down a little bit more in terms of the financial markets. But I think it's important we don't get complacent. So I think firstly, in my role, I like to think about strategy for pension funds in particular and how they're setting that both now and for long term. And I think what we've seen with such strong returns over the last year or so, it's a good thing to reflect on your strategy and look at potential ways that your strategy might have evolved in terms of looking at overweight, so underweights driven by the strong relative performance of the different asset classes. And a really important discipline is think about rebalancing as a way to diversify risk. And as Chris has said, actually even think about maybe underweighting some of the areas where there's a bit more heat in the valuations and looking to capitalize on that. So diversifying through rebalancing, diversifying through potentially capitalizing on some of the gains that you've seen over the last year, I've been potentially top slicing some allegations to benefit from that. And for some, there might be opportunity to make more substantial de-risking steps on the back of such strong gains over the last year. I think beyond strategic asset allocations, the other area, and this is one that's been pretty highly publicized and something you talked about is the risk with an equity markets. So although we've had such strong gains over the last year, there still is that rise in the concentration risk related to the AI sector or technology of income company companies. And what this is driven in terms of regional sectoral and stock related biases and concentration risks. So I think again, I don't know how many times Chris and I have been asked in recent months of when is the AI bubble going to burst. And that's not something I'm going to try and answer on this podcast today. What about the question, are we in an AI bubble? Exactly. So again, that's something we'll come back to as well. But I think what that drives me to is thinking about again, about diversification with inequities. So how are you currently positioned in terms of investment style? Most investors that have been invested passively will be very happy with the returns that they've achieved over the last couple of years. Active managers may be a bit more mixed. It's been tough for some active managers to keep up with the pace and you'll take a real conviction of you on the magnificent seven stocks. So as a result, a lot of active managers will probably have underperformed in recent periods. So it's looking at the investment styles, the way that you're implementing equity allocations. Is it time for a reassessment of how you implement your equity allocation in terms of that mix of styles, sectors. And as Chris has said, potentially opportunity to re-weight certain regions. And you know, it's something that we were talking to clients about even 12 months ago. And as you've highlighted earlier, Ross, the UK outperformed the US over the last 12 months. So again, thinking about how your position is going to regionally, sectorally, and how you implement across different styles, I think it's going to be very important. I wouldn't stop there, though, on a diversification theme. I think within credit markets, there's also opportunities to think about diversification. Your spreads are very tight, particularly in the UK, but equally across the globe. But is there opportunities to diversify some of that credit risk by looking at your balance in the UK and overseas, looking at different credit solutions? So beyond investment grade credit. And again, thinking about having the right balance of risks across credit portfolios. So again, that's an increasing area of focus. I think even within private credit markets, it's an area that you will a lot of portfolios are dominated by corporate credit risk. And there's other areas that funds can or pension funds can seek to diversify in there, looking at other forms of lending, such as asset back lending, and again, something that we talked about a bit to clients over the last year or so. Final couple of areas I want to think about diversification reform is really the majority of private sector DB schemes still have some form of LDI solutions in place to manage their risks. And the first area in terms of leverage has probably been dominated by leverage guilt exposure. And again, there's opportunities, I think, to diversify where and how you take leverage. So think about a mix of leverage across whether it's in credit equity as well as in the guilt space to help portfolio efficiency and help the way that you can balance those risks out. And that kind of related to that another aspect of LDI portfolios is the sources of collateral that investors have within LDI portfolios and overall schemes, liquidity waterfalls. So again, more opportunities to think about how you can diversify within your collateral space liquidity waterfalls that you have. And again, you know, weism proving the efficiency that you have within LDI portfolios. And the very final area, I would highlight. And again, we're off the tech speak here, Ross is anti fragile assets or something that we still was going to do jargon and get you to define it. But I think you're already going to do it, Davis. I don't need to. So yeah, so assets as opposed to perform a relatively low correlation or perform but differently with other asset classes and can do well in times of stress. So again, thinking about potential options there, a methodally in hindsight, gold would have been a very nice anti fragile asset to hold at the start of last year, given the kind of 60% or so returns that we saw from the rising gold prices. Again, it's continued to think about where are the opportunities to find asset classes that might do well in times of stress and provide a more resilience to portfolios overall. So again, that's a kind of big theme. So as a diversification as a theme, but thinking how you can apply that and a whole range of different ways across investment strategies. Thanks David, lots of useful suggestions there for investors to consider. And despite the there being risks lurking, I feel like there are things that we can certainly think about at the very least. Almost time to wrap this pod up, but before we do, let's have a bit of fun. Sticker next on the line purely for entertainment purposes. I'm after your wild cards. So something from investment and something from anything else that's of interest, you a prediction for 2026 if you could, because I'm badgering you for this. I'll go first. I'll stick my neck on the line. My investment wild card. Okay. UK commercial property. I think it could could surprise modestly to the upside sheer, particularly towards the end of 2026. Why do I think this? Well, base rate is fallen substantially, possibly a little bit more to come. That will work its way through to valuations eventually. And it's possibly, hopefully, the year that managers really get through grips with some of the redemption cues that's weighed on them for the last two to three years or so. And finally, there's a bit of a supply crunch in really, really prime office after years of, not very much building going on. So this is completely just a personal hunch. It's not any call to action and I could be very, very wrong. So as ever, stick advice before taking any decisions of your own and the same applies to all of the wild cards here. The second wild card, let's go for something a bit different world of sport. So commonwealth games coming up in Glasgow, the summer, really, really looking forward to that. I'm going to predict that Eilish McCoggan will retain her 10,000 meter title. I've got a vested interest in her doing so as I got my sister tickets for her birthday. I doubt she listens to the podcast. Hopefully, I'm not spoiling the surprise for a later in the month. Anyway, Eilish better blinking when because those tickets cost me an absolute fortune. So that's my prediction for the commonwealth games. David, over to you. So on the investment side, although we've found that they outperformed the US last year, I'll still go for UK equities. So I think we could continue growth and performance there. The sectoral mix is less exposed to the EIL boom and the EIL bus that may or may not come at some point. So yeah, I'm still pretty positive on that look for UK equities, valuations despite the strong returns over the last year still look pretty reasonable. So yeah, UK equities would be a mind investment win card. And as you see, personal view, not to be followed by investment recommendations. On the non-investment wild card, I'll also stick with a sporting one. And this is going to be a very contentious one where I'm based in Glasgow is that I would like to predict the end of the old firm dominance of the Scottish Premier League. And the wild card bit as I'm not going for harps who are currently top of the league, but I will go for my team mother well to make a surprise late run. I think we're about 10 points off the pace at the moment, but hopefully the quality of football that we're playing means that we can have a late run for the winning of the Scottish Premier Championship this year. Thanks David. I suspect you're going to get more in your inbox than my prediction over that one, but I'll leave that for you to manage Chris over to you. Yeah, and on the investment side, I'm not sure how wild it is for the wild as it gets. For me, I suppose a bull case for bonds that I could make is that I suppose there's this jobless expansion that we're seeing just now. And some people are concerned about the lack of jobs and some people are pointing to AI enhancing productivity gains, the evidence is patchy on the latter. But if we do see a big take up in AI, we could see a real collapse in wage growth. Collapse in inflation pressures. So that would be my wild card. It's not my base case, but that is a very strong bull case for bonds, particularly in the US if you see a devaporation of wage and inflation pressures. And believe it or not, the mother well winning the title was going to be one of my contenders for it to go. I think you're going towards hearts and then veer off towards mother well. I suppose that maybe it's not a wild card, some people may not think that I'll go with Scotland to go out for a grip at the one-on-cup and ask thank you, Gents. And as a reminder, that was purely for fun. So we'll maybe check in at the end of the year and see just how wrong or right we were. And with that, we have reached the end of today's episode fascinating insights from our investment titans. So thank you, Gents. A few key takeaways that I'm getting from today's discussion. First, the short-term investment outlook is in the words of Chris, whose words I will shamelessly steal. Pretty decent. Second of all, medium to longer term. Well, with risk premium way for thin, it's not going to take much of a softening in the macroeconomic environment to knock valuations down. The good news is this plenty you can do about it. And in a word, diversification was the key. To our listeners, if you have any questions on any of the topics covered today, please get in touch with your usual hymns consultant. Or if easier, feel free to drop any of today's presenters an email and we'd be delighted to help. As we usually do, we'll include links to useful research articles in the show notes accompanying this podcast, which can be found at hymns.co.uk/insights. If you've enjoyed today's podcast, don't forget to follow through your smartphone by Apple Podcasts, Spotify or Amazon to access any future episode and loads of other hymns reports and content. All that remains is for me to say a big thank you to our guests, Kristen David and of course to all of our listeners for joining today. Until next time, all the best folks.