This is the first in a series of monthly updates on recommended asset allocations from OppenheimerFunds’ Global Multi-Asset Group (GMAG). The group combines analysis of macroeconomic regimes, market conditions and risk to dynamically manage the Global Allocation Fund through the market cycle. GMAG’s asset allocation recommendations are designed to help financial advisors better diversify their portfolios, control risk and manage them through time.

Asset Allocation Recommendations

Since early June, we have taken a conservative posture by underweighting equities and adding exposure to bonds. Given the high volatility and negative momentum in today’s markets, as well as a lackluster economic outlook, we believe it is prudent to maintain an underweight position in equities at present. For a typical 60/40 investor we recommend an underweight to equities of about -6%.

Key Observations

We develop our asset allocation recommendations through a combination of multiple, independent perspectives on the markets. Our investment framework integrates analysis of macroeconomic regimes, market conditions (valuation and momentum), and risk across asset classes. Many of our indicators have deteriorated since early June, and are flashing warning signals about the near term.

Currently, the risk environment has taken center stage as concerns over weak growth in emerging economies, falling commodity prices, and the direction of Federal Reserve policy drove recent market volatility to levels we have not seen since the debt ceiling crisis of 2011 (Exhibit 1). Our research tells us that investors are typically not well compensated for bearing this level of risk.

Exhibit 1

sp 500 historical volatility oppenheimerfunds

As volatility has spread, nearly all equity markets have suffered negative returns over the third quarter (Exhibit 2). Momentum is strongly negative across most equity markets. Despite a decline in valuations, many equity markets are still expensive relative to history and have not yet fallen to attractive levels.

Exhibit 2

q3 asset class returns oppenheimerfunds

Finally, our leading measures of economic activity indicate that most developed economies are decelerating from recent highs, and thus are moving from an “expansion” regime to an early phase of the “slowdown” regime within our macro regime framework. In this stage of the business cycle, assets typically deliver only average compensation for risk, with a higher degree of uncertainty relative to other regimes.

Looking forward, we are particularly focused on developments in corporate credit markets, both investment grade and high yield, as well as the direction of the U.S. dollar. Since mid-2014, credit spreads have widened above their long-term averages, while the dollar has strengthened significantly versus most major currencies. Together, these factors have tightened financial conditions in the U.S., which may further restrain economic growth in the coming months.