EM equities go red on 2019-nCoV, Italian election result lifts sentiment

Our tactical asset allocation model Stronghold, which clients can invest into through SaxoSelect on the platform, had increased its exposure to emerging market equities in the last couple of weeks as the expected returns had improved with improving conditions in Chinese equities. But today’s reaction in emerging market equities is causing the portfolio’s risk measures to flash red and as a result the portfolio will half the exposure to emerging market equities. It is during times of elevated volatility that our tactical asset allocation should react better to risk and outperform more static asset allocation models.

Adding to risk-off sentiment we observe the VIX Index is close to 18, the highest level since October, which means that the equity market is shifting in a different state with lower expected returns and higher volatility. Remember as we have said many times in the past that the 22 level is the magical level where equity markets downside dynamics become very ugly. So stay alert and pay attention to news out of China and watch the VIX.

Investors were nervous about Italy going into the regional elections in Italy this weekend with consensus fearing Salvini winning in the long-standing leftwing region Emilia-Romagna. But Salvini’s rightwing coalition failed in the election and investors are heaving a sigh of relief with Italian equities being the best performing equity market in Europe this morning only down 0.9%. With this political risk lower for now Italian equities should perform well on a relative basis. The equity risk premium remains very attractive compared to many other equity markets driven by long-term profit growth rate of 4.9% and a fat dividend yield of 4.5%.