Three key themes stay centre stage

As oil and equity prices flip flop around, the logical conclusion is markets are confused as to whether they should be focussing on growth, fretting about the implications of interest rate rises or panicking about the threat of a deflationary, debt-sodden downturn.

Soft commodity price weakness and declines in emerging market equities, bonds and currencies all point to rising risk aversion, as do the dollar's march higher and plunging bond yields in the West. Yet feeble return on cash and the likelihood interest rates will remain at or near record lows for sometime leaves investors feeling that they are obliged to move further up the risk curve in search of their desired levels of capital return or income.

Moreover, central banks in the Eurozone, Canada, Denmark, Russia, Turkey, India, Peru, Singapore and Australia are all further loosening monetary policy or cutting interest rates, in a bid to stimulate their economies. Only Brazil has tightened policy this year, as it grapples with galloping inflation, a sliding currency and its first primary budget deficit for over a decade, while the US Federal Reserve and Bank of England continue to edge their way toward increasing borrowing costs.

Anyone who has faith in central banks' powers of intervention will again therefore be tempted by risk assets such as equities, commodities and high yield, or 'junk' bonds, but the feedback the authorities are getting on their efforts remains mixed for the moment.

As such this column's key themes for 2015 – dollars, dividends and debt (see 19 December 2014, here) – look to be on the money for now and our conclusions then remain worthy consideration as investors make their own portfolio picks for the months and years ahead.

•    The US dollar is the world’s haven currency and its strength points to America’s economic outperformance of its Western peers, the prospect of global central banks running a wider range of policies next year and investors’ nagging doubts about the durability of the long-running stock and bond bull runs, doubts that are being magnified by oil price falls

•    The reach for yield and a sustainable source of income from dividends and coupons will remain a priority for many clients, even if oil's slide means there is no room for complacency when it comes to the FTSE 100's 4% prospective yield for 2015

•    Yield will remain important as Western governments’ huge sovereign debt, and emerging markets' substantial corporate liabilities, mean the UK and US are unlikely to raise interest rates substantially, if at all, in 2015. Returns on cash will remain subdued and bonds could surprise again, despite the long-term dangers posed by the combination of record low yields and loose central bank policy.

Bang for the buck

In the end, it is the US Federal Reserve that really calling the shots and the American bond market appears to be pricing in the first quarter-point rate rise for the autumn. It is also instructive to look at how asset classes have performed since the Fed stopped adding to its Quantitative Easing (QE) programme last October:

• Sovereign bonds are outperforming equities
• Equities are doing best where monetary policy is being loosened the quickest – Europe and Japan – but some of these gains are being lost to currency devaluation
• Emerging market assets are underperforming as fears over growth and levels of indebtedness mount
• Commodities are weak across the board, barring perhaps gold
• The dollar is king

In local currency terms, some of the globe's most important asset classes have have performed as follows since 29 October (with dollars for the commodity segments and the FTSE All World equity index). Clients overweight bonds and heavily exposed to dollars have cleaned up, while even those with gold will have cause to smile.

Dollars and bonds have outperformed since the Fed turned off the taps

Source: Thomson Reuters Datastream, AJ Bell Research. Data to 31 January 2014

Such a picture speaks of some degree of risk aversion and rising fears of a downturn or even deflation. This is not to say equities have been a disaster but in local currency terms emerging markets have been shunned and the real winners have been Europe and Japan – in other words the money printers who have added to or launched QE schemes over the past three months.

Japanese and European equities lead the way in local currency terms ...

Source: Thomson Reuters Datastream, AJ Bell Research. Data to 31 January 2014

The next chart looks at the same returns in dollars and the graphic takes on a very different shape – Japan is less far ahead, the US is nearer the top and Europe and the UK actually fall into loss.

...while equity capital returns in dollar terms look a little different

Source: Thomson Reuters Datastream, AJ Bell Research.
Data to 31 January 2014

Fixed income flurry

Similar trends can be seen in the fixed income world. The gallop for yield has brought results that are far from universal, with a flight to quality evident in the outperformance of Western over emerging market and government over 'junk' corporate paper.

Bonds show evidence of a flight to quality

Source: Thomson Reuters Datastream, AJ Bell Research.
Data to 31 January 2014

The dollar's surge also means returns look different through the greenback-tinted lens, with the flight to quality looking all the clearer.

• while the dollar's rise bring a different perspective to returns here, too

Source: Thomson Reuters Datastream, AJ Bell Research.
Data to 31 January 2014

The wrong stuff

Commodities have offered little succour to anyone, unless an investor armed with a crystal ball and who accordingly picked out wheat and corn. Here the results are given in dollars.

• Commodity prices have generally been weak

Source: Thomson Reuters Datastream, AJ Bell Research.
Data to 31 January 2014

The eye-catcher here is perhaps gold, with a 4.1% positive return, a figure which swells to double-digits, in percentage terms, once it is measured in euros, sterling or yen.

The precious metal will not appeal to all investors by any means, not least because it does not offer a yield, but fans will argue it is a potential source of defence against currency debasement through electronic money printing.

• Gold has held up well and offered non-dollar holders solid returns

Source: Thomson Reuters Datastream, AJ Bell Research.
Data to 31 January 2014

There is no one-size-fits-all strategy when it comes to currency, whatever gold bugs might say. Some investors will like to take their chances on the currency angle and seek to benefit from possible currency movements. Others will prefer not get involved, given how volatile the forex markets are and let the underlying take care of itself.

It is possible to buy Exchange-Traded Funds (ETFs) which hedge out currency movements and provide local returns in sterling terms, so that is perhaps one angle to consider, if investors do not want to worry about forex movements or fear an overseas currency is about to take a dive. These instruments will cost a little more on a total expense ratio basis, but some investors may feel the few extra basis points represent money well spent if it locks in a strong performance from the underlying and irons out any marked decline in an overseas currency against the pound.

Russ Mould, AJ Bell Investment Director