1

For professional investors only, not suitable for retail investors.

TRUMPFLATION!

Issue #8

November 2016

Multi asset views from RLAM

Royal London Asset Management manages £101 billion in life insurance, pensions and third party funds*. In March we launched six risk-rated Global Multi Asset Portfolios (GMAPs) blending active and passive exposures with a tactical asset allocation overlay.

*As at 30/09/2016

This month’s contributors

Trevor Greetham

Head of Multi Asset

Hiroki Hashimoto

Senior Quantitative Analyst

The Investment Clock was already in

Overheat before Trump’s reflationary

policies are taken into account. Stocks

tend to beat bonds when global growth is picking up and we expect this trend to

continue.

The recent sharp rise in bond yields is consistent with the Overheat phase when

central banks usually tighten policy. While

Fed rate hikes have the potential to rattle

stocks in the short term, we don’t expect

aggressive tightening and continue to see a

positive outlook for the asset class.

The markets had another political surprise with the election of Donald

Trump as US President. There are major uncertainties but investors see

the glass as half full with reflationary fiscal policies expected to boost

the US economy. The Investment Clock was already picking up signs of

an acceleration in global growth on the back of low interest rates and

low energy prices. We prefer stocks to bonds, especially in Japan, but

with near term sentiment overbought we are not chasing the rally.

Investment Clock already in Overheat

The Investment Clock model that guides our asset allocation has spent the last six

months in the Overheat phase of the business cycle characterised by above trend

growth and rising inflation. Reflationary fiscal policies under Trump are likely to

keep us there by boosting US growth and raising inflation risks. Stocks tend to beat

bonds when global growth is picking up and we expect this trend to continue.

Unfazed by rising yields

The election of Trump marks a transition from monetary ease towards fiscal ease

and this has been taken badly by the bond market. Most of the rise in yields has

been driven by an increase in long term inflation expectations. This makes sense.

Mindful of downside risks presented by high levels of personal and government

debt we expect central banks to keep policy relatively loose and let inflation rise

from its current low level. This is a positive backdrop for stocks. We especially like

Japanese equities which tend to do well when the dollar is strong.

Seasonality positive but stocks are overbought

The summer doldrums are well and truly over and US equity markets are

making new highs, as often happens in the typical year-end rally. While we see

positive fundamentals there remain many important unknowns as to how a

Trump presidency will operate. With our investor sentiment indicator now at

euphoric levels, we are not chasing the rally.

Focus Chart: Stocks vs Bonds and Investment Clock Growth Score

Please visit www.investmentclock.co.uk for our blog and information about our

multi asset range. For product details, contact: multiassetsupport@rlam.co.uk

2 For professional investors only, not suitable for retail investors.

INVESTMENT CLOCK IN OVERHEAT BEFORE TRUMP

Chart 1: The Investment Clock is in Overheat

We tell the time on the Investment Clock model that

guides our asset allocation using global growth and

inflation indicators. We have been moving into the

Overheat phase for the last six months with the US

election result likely to reinforce this direction.

Global growth remains above its long run trend as

evidenced by the ongoing fall in unemployment rates

across the world. Our forward looking global growth

scorecard has also turned positive recently on the back

of low interest rates and low energy prices.

Meanwhile, inflation has started to pick up from a very

low base and our forward looking global inflation

scorecard is also in positive territory, helped in this

case by a rising trend in commodity prices.

Trump’s victory is likely to keep us in Overheat. On most measures there isn’t much spare capacity in the US economy.

Reflationary fiscal policies are likely to boost US growth and raise inflation risks. We expect the Fed to hike interest rates

gradually to offset some of the additional stimulus if and when it comes through but aggressive tightening is not in prospect.

The Fed will be watching to see if discouraged workers rejoin the workforce, keeping wages under control, and they will be

mindful of downside risks presented by high levels of personal and government debt.

Chart 2: Global growth trend positive Chart3: Inflation scorecard also positive

Source: RLAM, DataStream. Source: RLAM, DataStream. Tactical models like the Investment Clock are the start of our investment process not the end of it. Commodities are usually the best performing asset class in the Overheat phase but we choose instead to overweight stocks in the multi asset funds we manage. Stronger activity in China is positive but the US Federal Reserve will be a lone hiker among the big central banks in 2017 and dollar strength is a headwind for commodities. Meanwhile, stocks often continue to do well during the Overheat phase of the cycle as long as central banks are not aiming to engineer a slowdown. We think this is one such instance.

INFLATION RISES

INFLATION FALLS

GR

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TH

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OV

ES

B

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W T

RE

ND

GR

OW

TH

MO

VE

S A

BO

VE

T

RE

ND

Industrial Metals

Precious Metals

RECOVERY OVERHEAT

REFLATION STAGFLATION

STOCKS

BONDS CASH

Corporate

Bonds

High Yield

Bonds

Government

Bonds

Inflation-Linked

Bonds

Softs Energy

Source: RLAM. For illustrative purposes only.

COMMODITIES

3 For professional investors only, not suitable for retail investors.

STOCKS RESILIENT TO RISING YIELDS

Chart 4: US bond yields and inflation expectation

Most of the recent rise in government bond

yields has been driven by an increase in long-

term inflation expectations rather than an

increase in real yields. This is a fundamental

difference when compared to the last big bond

sell-off, the so-called “Taper Tantrum” of 2013,

in which real yields rose on concerns then Fed chairman Ben Bernanke would reduce central

bank bond purchases as a precursor to raising

interest rates.

This distinction underlines our view that this is

a more equity-friendly bond sell-off. It’s no bad

thing for corporate earnings or for stock prices

if central banks are willing to let inflation run

higher from current low levels.

Chart 5: Stock returns are seasonal; Summer doldrums over

The summer doldrums are well and truly

over. US equity markets are making new

highs, as often happens in a year end rally.

Stock markets exhibit pronounced

seasonality with almost all of the gains in a

typical year coming in the October to April

period. This seasonality most likely reflects

the real economy and the upsurge in

consumer spending each year between

Thanksgiving (“Black Friday”) and

Christmas.

Source: RLAM., DataStream World USD Total Return, average calendar year profile since 1973

Chart 6: Investor Sentiment overly optimistic near term

While we see positive fundamentals and

positive seasonality for stocks, there

remain many important unknowns as to

how a Trump presidency will operate. We

expect to see periodic setbacks. With our

investor sentiment indicator now at

euphoric levels, we are minded to trim

exposure rather than chase the rally in the

near term.

4 For professional investors only, not suitable for retail investors.

TRUMP TO MAKE JAPAN GREAT AGAIN?

Chart 7: Japanese stocks and the dollar

Japan is our favourite equity market. Domestic

monetary and fiscal policy are working

together to create growth and there is an

explicit desire for inflation to overshoot for a

few years – good news for stocks. In addition,

the market tends to do well when global

growth is picking up and the dollar is strong.

Recent policy changes have reinforced this

behaviour. In September the Bank of Japan

pledged to keep 10-year bond yields close to

0%. Consequently, Japanese bonds don’t sell

off when US treasuries sell off, and the

widening interest rate differential weakens the

yen to the benefit of Japanese stocks.

Chart 8: Emerging Market stocks and the dollar (inverted)

A strong dollar is good for Japan but bad for

the emerging markets. Emerging markets as a

group export commodities, which tend to

struggle when the dollar is strong. A strong

dollar also raises the cost of capital for big

emerging markets like Brazil that are running

current account deficits.

On top of this Trump’s victory raises the

spectre of trade friction with the US. However,

we expect Trump to move towards bilateral agreements rather than resorting to a self-

defeating increase in tariffs – and there are

compensating factors. China will be more

cautious about tightening policy in 2017 with

Trump in the White House and this should

help intra-emerging market trade.

Chart 9: Europe vs. the World and the euro exchange rate

Euro weakness usually helps European stocks

to outperform but not when combined with

political risk. The rise of populism, as

evidenced by Brexit and Trump, raises political

risks ahead of a busy electoral period in

Europe, with the Italian referendum on

December 4 and important elections next year

in Holland, France and Germany. An increase

in influence for parties opposed to the single

currency could create market stress.

Our funds remain underweight European

stocks and the euro, though we wonder if

political risk is being overdone in the short

term with French elections not due until

April/May 2017.

5 For professional investors only, not suitable for retail investors.

WHERE WE STAND

Overweight stocks, especially Japan; underweight bonds and European stocks

-- - = + ++

Multi Asset

Stocks

Property

Commodities

Bonds

Cash/Absolute Return

-- - = + ++

Regional Equity

UK

US

Europe

Japan

Pacific ex. Japan

Emerging Market

Multi Asset: Overweight Equities; underweight bonds

We have been overweight equities since 2012 in funds managed using the Investment Clock approach on the back of a continued

global recovery with loose policy and muted inflation. With business confidence picking up in major economies we remain

moderately overweight and would be prepared to add more on weakness.

We are neutral to slightly overweight UK commercial property. While we expect some downside to capital values in the next few

months as uncertainty around Brexit negotiations hurts UK growth, a positive supply/demand backdrop and a large rental yield

cushion should make property resilient, especially when the additional policy ease we are expecting kicks in.

We are neutral commodities. Commodities are getting support from loose policy and better growth in China but excess supply

and US dollar strength are ongoing headwinds.

We are underweight bonds. Quantitative easing and pension fund buying has pushed yields to levels that make no sense in the

long run. With global growth picking up and inflation rising, we expect yields to rise.

Equity Regions: Overweight Japan; underweight Europe

Japan is our favourite equity market on the basis of reflationary fiscal and monetary policy and a tendency to do well when the

dollar is strong. We are overweight in our funds, with the yen hedged where possible.

With expectations of a December rate hike in America on the rise, we have been trimming our emerging market equity

overweight and we continued to do so in the light of Trump’s surprise victory.

We have been underweight Europe since the Brexit vote on the basis that political risk would rise. Europe has been a big

underperformer lately and Italian government bond spreads over Germany have blown out, suggesting some bad news is now

in the price.

We are broadly neutral UK equities. While there is downside pressure on the domestic economy, loose policy and a weak pound

are positives for stock prices.

6 For professional investors only, not suitable for retail investors.

MARKET RETURNS: BOND YIELD RISES ON TRUMP

Note: Standard indices sourced from DataStream and Bloomberg. (*) Property Returns as of October 2016.

For professional clients only. Past performance is no guide to the future. The value of investments and the income from them is not guaranteed and may go

down as well as up and investors may not get back the amount originally invested. Issued by Royal London Asset Management November 2016. Information correct at that date unless otherwise stated. The views expressed are the author’s own and do not constitute investment advice. Royal London Asset

Management Limited, registered in England and Wales number 2244297; Royal London Unit Trust Managers Limited, registered in England and Wales

number 2372439. RLUM Limited, registered in England and Wales number 2369965. All of these companies are authorised and regulated by the Financial Conduct Authority. All of these companies are subsidiaries of The Royal London Mutual Insurance Society Limited, registered in England and Wales number

99064. Registered Office: 55 Gracechurch Street, London, EC3V 0RL. The marketing brand also includes Royal London Asset Management Bond Funds Plc,

an umbrella company with segregated liability between sub-funds, authorised and regulated by the Central Bank of Ireland, registered in Ireland number 364259, and subject to limited regulation by the Financial Conduct Authority. Details about the extent of our regulation by the Financial Conduct Authority

are available from us on request. Registered office: 70 Sir John Rogerson’s Quay, Dublin 2, Ireland. Our ref: N RLAM W 0004

Multi Asset %1M %12M %1M %12M

UK Stocks -1.9 11.2 -1.9 11.2

Global ex UK Stocks 2.0 4.5 -2.1 27.3

Gilts -3.1 7.4 -3.1 7.4

UK Cash 0.0 0.5 0.0 0.5

UK Property* 0.5 2.7 0.5 2.7

Commodities -1.1 3.7 -3.7 25.5

Equity Regions %1M %12M %1M %12M

UK -1.9 11.2 -1.9 11.2

North America 3.5 8.5 0.8 31.2

Europe ex UK -1.3 -5.8 -6.1 13.7

Japan 6.6 -6.8 -3.8 22.7

Pacific ex Japan -1.0 9.2 -5.8 32.6

Emerging Markets -3.8 7.9 -9.1 29.3

Global

Equity Sectors %1M %12M %1M %12M

Consumer Discretionary 2.8 0.2 -1.3 21.3

Industrials 5.1 8.9 0.6 31.8

FX Financials 7.5 7.5 3.3 29.2

USD 1.24 -1.7 21.3 Consumer Staples -3.8 2.1 -7.3 21.1

EUR 1.17 -5.1 21.5 Utilities -3.9 4.9 -7.3 25.7

CHF 1.26 -4.3 22.7 Healthcare -0.7 -5.6 -3.9 13.7

JPY 139.3 -8.4 32.9 Energy 1.7 12.8 -1.4 33.3

AUD 1.66 -3.3 25.4 Materials 4.2 18.8 -0.3 42.5

CAD 1.66 -2.0 20.6 Telecoms -0.7 2.0 -5.0 21.8

Technology -0.6 9.6 -3.9 33.1

CB rates Bonds %1M %12M %1M %12M

Fed 0.50 0.00 0.25 Conventional Gilts -3.1 7.4 -3.1 7.4

BoE 0.25 0.00 -0.25 Index Linked Gilts -6.4 18.9 -6.4 18.9

ECB -0.40 0.00 -0.20 GBP Credit -2.4 7.9 -2.4 7.9

BoJ -0.05 -0.01 -0.13 Global High Yield -1.7 10.3 -1.7 10.1

Bond Yield Commodities %1M %12M %1M %12M

US 10 Year 2.32 48 10 Energy -7.1 -13.5 -9.5 4.8

UK 10 Year 1.38 12 -44 Agriculture -1.3 4.8 -3.8 26.8

EU 10 Year 0.20 3 -27 Industrial Metals 16.8 33.0 13.8 61.0

JP 10 Year 0.02 6 -29 Precious Metals -7.5 11.1 -9.9 34.4

Local GBP

Local GBP

GBPLocal

Local GBP

Local GBP

chg 1M

(bps)

chg 12M

(bps)

1 GBP

buys

chg 1M (%)chg 12M

(%)

%1M

(vs GBP)

%12M

(vs GBP)

Rate (%)

Yield (%)

US treasury bond yields rose sharply over the month.

Japanese stocks outperformed over the month in local terms, helped by yen weakness, while emerging markets lagged.

The US dollar strengthened vs. the euro and yen. Sterling experienced a relief rally as political news around Brexit slowed down.

Commodities were lower on the month as gains in industrial metals were more than offset by losses in energy.