The Writing Is On the Wall

Eran Peleg, CIO

The Berlin Wall came down in 1989. Since then, we have enjoyed a relatively stable geo-political environment. We have had wars from time to time. However, these tended to be regional in nature and did not involve or result in significant tensions between the leading global powers. In reality, there was really only one global power – the United States of America.

Things may be changing. China and Russia are increasingly challenging the position of the US. A few days ago, at an international conference, Mr. Lavrov, Russia's foreign minister, called for "a post-West world order" which would be more just (from Russia's perspective). US President Trump wants to put up new walls between nations, rather than continue taking them down. For the first time since 1989, geo-politics may be going in a different direction.

How does one protect his or her investment portfolio in this new environment? The old-fashioned way was to include 'risk-free'/low-risk government bonds in the portfolio. In the past, US Treasuries or German government bonds attracted safe-haven flows and rallied as financial or political tensions escalated. The positive returns they generated offset losses suffered in other parts of the portfolio.

The problem today is that high-quality government bond yields are very low (and hence their prices, inversely-related to yields, are high) – which leaves limited room for further appreciation. The five-year US Treasury and German Bund are yielding 1.9% and (-0.5%), respectively. How much further can this go? In addition, if interest rates rise (as they are now rising in the US), upside pressure on yields could cause losses in the short to medium term.

We therefore need to look at other portfolio solutions.

Beware -- the writing is on the wall.