Medium-term investors should look to boost their growth assets as defensive assets like government bonds move into overvalued territory, according to a Mercer report.
In its quarterly market valuation and review, Mercer said global government bonds and global credit are overvalued. However, the report, which looked at a two-year investment horizon, rated Australian bonds as fair value.
"High quality global government bonds surged in the third quarter of 2010, driven by global investors who want more than the modest returns cash is offering but are wary of moving higher up the risk spectrum," Mercer's head of dynamic asset allocation in Australia and New Zealand David Stuart said.
"The yields are now lower than the level reached at the end of 2008, and it is real rates rather than inflation expectations that have fallen the most."
While in the past Mercer has suggested these global government bonds could provide insurance against adverse economic outcomes, Stuart said this is now no longer the case.
"The cost of this insurance is becoming prohibitive and we would suggest medium-term investors take a more underweight position," he said.
Mercer also moved its view on global credit to overvalued, due to yields falling by over half a per cent. However, it continues to see Australian credit as fair value.
"Global corporate bond yields are now at levels last seen in 2003, and are beginning to look a little expensive. Nonetheless, compared to government bonds, they still have a relatively attractive spread," Stuart said.
The Mercer review rated both overseas and Australian shares as fair value.
"Ultimately, we see the outlook for global equities as finely balanced - positive valuation signals, particularly the wide gap between equity and bond yields, are offset by macroeconomic risks," Stuart said.
"Given the relatively poor performance of defensive assets, however, we have come down on the side of growth and recommend going overweight in equities and other growth assets."
