The recent Brexit vote – the decision by voters in the United Kingdom to leave the European Union – could be seen as one of the strongest indications yet of a worldwide political and economic trend towards deglobalization.
Deglobalization, or diminished trade and investment between countries, has the potential to make asset allocation more challenging going forward for advisors and their clients. Asset allocation has traditionally been determined by client risk tolerance and modern portfolio theory,1 which relies on historical relationships between regions, asset classes, sectors, etc. Deglobalization could change those relationships, making them more regionalized and potentially less predictable.
How might deglobalization affect advisors and their clients?
The current period of deglobalization can be traced to the global financial crisis of 2008. In the years following the crisis, the US economy and economies in Europe and Asia recovered at varying speeds, which has resulted in diverging economic and monetary policies. This divergence has the potential to make it more difficult for advisors to develop a sound approach to asset allocation for their clients.
Deglobalization is characterized by slowing trade growth and more protectionist trade measures, or government policies that favor the domestic economy over more reciprocal trade arrangements with other countries. Decreased cross-border investments and increased banking and financial sector regulation are also emblematic of a deglobalizing economy.
In response to low GDP growth, high unemployment rates, severe austerity measures and climbing income inequality, citizens in many developed countries have become disenfranchised with traditional political parties. In addition to the recent Brexit, this phenomenon has been evidenced by the widespread appeal of populist presidential candidates Donald Trump and Bernie Sanders. Public outcries for domestic job creation and better wages have resulted in a fourfold increase in protectionist measures in G20 economies2 over the past five years.
Adapting portfolios to today's markets
An increasingly deglobalizing economy may continue to have an impact on market conditions in the near future. There is an opportunity for advisors and their clients to utilize various asset allocation strategies in addition to all other components of the client's broader strategic asset allocation – potentially providing increased opportunities for growth and enhanced portfolio diversification. How each strategy does this will vary, depending on their approach to asset allocation and risk.
While no one can be certain how long deglobalizing trends may continue to effect the global economy, any change of course is likely to be gradual. In the meantime, investors and advisors have a range of asset allocation strategies at their disposal as they work to achieve long-term financial goals in an increasingly dynamic investment landscape. In our next article, we'll cover some of these strategies in more detail. Additional information on current market trends is available at durableportfolios.com.
1 Modern portfolio theory (MPT) is a theory on how risk-averse investors can construct portfolios to optimize expected returns, emphasizing that higher risk is an inherent part of higher reward.
2 The G20 or Group of Twenty, is an international forum comprised officials and central bank governors from 20 major global economies.
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