Mark LaMonica: Welcome to market minute. We are here live at the setup for the Morningstar Investment Conference, which we’re all very excited about. But first we’re going to check in on markets and what investors should worry about.

Mark: So Joel, thanks for joining us today.

Joel Grosvenor: Thanks for having me, Mark.

Mark: So let’s first do a little bit of an overview. What is going on in markets right now.

Joel: Sure. So equity markets have rallied pretty strongly quarter to date. The S&P 500 index has been very strong over the last few weeks. When you look at it on a more broad based approach, so looking at an equal weighted index, the returns have not been as good. So it’s really been concentrated in a small segment of that market.

We’ve also had inflation prints start to be released. And so we’re seeing some of the impact of rising prices on inflation. The US inflation rate reached year on year is 3.8% as of April, up from 3.3% the month prior. And so we’re really starting to see that impact on bond yields as well. So the US ten year government bond yield reached around 4.6%.

And the Australian government bond yield has also increased up to about 5.1%.

Mark: So let’s talk a little longer term. With inflation, we’re starting to hear that term transitory. We heard that a lot during Covid and it turned out to be anything but transitory. So how is the market looking at longer term inflation.

Joel: So longer term the break even inflation rate, which is a sort of market measure of what the expected inflation is going to be over the next ten years is still around 2.5%. So we haven’t seen a big pickup in expectations of inflation just yet. But as you mentioned, this is sort of the second transitory inflation event we’ve had in the last five years.

It certainly doesn’t feel very transitory when you look at prices, but that is sort of the risk that if it continues or we get another supply side shock, that inflation expectations start to rise. And that’s where we might see further increases in government bond yields and potentially a rerating of market valuations.

Mark: So we’re seeing a lot of different things happen. We’re seeing equity markets continue to perform strongly. We’re seeing bond yields go up. We’re seeing inflation. But then potentially inflation not lasting over the long term. So there’s a lot of mixed signals. How do you position a portfolio in this environment.

Joel: It’s a good question. I think investors are going to have to think a bit harder about how they’re actually getting diversification in their portfolio. We’re seeing this AI theme play out not just through equity markets, but also listed infrastructure, where earnings expectations have increased a lot and the valuation multiples are quite rich there. So whilst investors might gravitate towards those assets as an inflation protection, there is a real risk that although the earnings might keep up with inflation from a valuation perspective, that the protection doesn’t actually feed through.

So investors really need to think about how those risks are playing out throughout their portfolio. We also have a period where we might start to see more corporate bond issuance also being captured in that AI theme. So there’s a risk of thinking you’re more diversified than you actually are in this environment. We also like alternatives and hedge funds as a sort of diversify to bonds and equities.

And that’s played out quite well over the calendar year to date. And then lastly just thinking about currency. So not relying too heavily on all of the historical relationships in terms of the US dollar. So US dollar has historically provided some protection for Australian dollar investors historically. But across many developed market currencies it’s looking quite expensive. So it might not actually play out the way it has historically.

So really thinking about diversification and trying to build a robust portfolio across different asset classes.

Mark: Thanks very much for joining me, Joel.

Joel: Thanks for having me.