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Embrace the ‘boring’: Equities vulnerable to ‘investor complacency’

By Charbel Kadib
3 minute read

The asset class has re-entered the “expensive zone” amid significant market uncertainty, making them more vulnerable to a shock, according to global asset manager State Street.

Global equities markets recovered over the first quarter of 2023 following a weak 2022 as a result of aggressive monetary policy tightening aimed at quelling inflationary pressures.

Conditions have since deteriorated off the back of banking stress in the United States and Europe, and inflation “stickiness”, which has prolonged the monetary policy tightening cycle.

But according to Bruce Apted — head of portfolio management, Australia active quantitative equities, at State Street Global Advisors — the recent adjustment in equity valuations does not fully price in market volatility.


Mr Apted references the CBOE Volatility Index (VIX) — a measure of investors’ expectation of volatility based on the S&P 500 Index — which dropped to a low of 12.9 points in June, down 40 per cent from the start of 2023.

This “investor complacency”, he said, is heightening equity market risks, making the asset class vulnerable to a near-term shock to the global economy.

“The possible complacency has coincided with exuberant equity markets in 2023, which has taken valuations back into the expensive zone,” he observed.

“The price-to-earnings ratio for the MSCI World Index has moved from 14.9 to 16.9 in 2023.

“A move from the 50th percentile to the 85th percentile based on valuation levels of the last 20 years.”

This has coincided with a “subdued” earnings trend, up just 1 per cent, with markets expecting further weakness in the coming months as the impact of higher interest rates filters through to consumer spending.

Given this imbalance, Mr Apted backed minimum volatility investment strategies, which expose investors to “less sensitive” stocks.

“Mostly they will tilt towards companies that are less volatile (lower beta) and often less cyclical,” he noted.

These are exposure to “defensive sectors” like consumer staples, healthcare, and utilities.

“They are also often considered ‘boring’ due to their stability,” he added.

“Boring isn’t so boring when markets become more volatile.”

Mr Apted said he expects macroeconomic uncertainty to persist as governments and central banks endeavour to win the inflation battle without tipping the economy into recession.

“With continued economic uncertainty, and now investor complacency, the equity market is more vulnerable,” he said.

“Strategies that focus on reducing volatility have much to offer during negative equity periods and over the longer term.”

The Reserve Bank of Australia is forecasting GDP growth of just 1.25 per cent in 2023 and just 2 per cent over the 12 months to mid-2025.

Subdued economic growth is expected to lift the unemployment rate from its present low of 3.6 per cent to 4.5 per cent over the same period.

Markets expect the RBA to continue tightening monetary policy, with at least one additional hike projected over the coming months.

RBA governor Philip Lowe has said he does not expect the central bank to cut interest rates in 2023, with economists largely pricing in cuts in early 2024.

Embrace the ‘boring’: Equities vulnerable to ‘investor complacency’

The asset class has re-entered the “expensive zone” amid significant market uncertainty, making them more vulnerable to a shock, according to global asset manager State Street.

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