2024 PruFund Strategic Asset Allocation review

Overview

• Core inflation, while on a lower downward trajectory remains elevated, with investors recalibrating central bank interest rate cut expectations throughout 2024.
• The changing economic regime is evident as global supply chains re-adjust, countries transition to renewable energy, amongst heightened geopolitical risk.
• Global business cycles diverging – large economies are at different stages of the economic cycle.

Contents

1. Strategic Asset Allocation review

2. UK, Europe & US inflation and interest rates

3. Key changes

4. Recategorisation of Asset Classes

5. Asset allocations

6. Outlook

Strategic Asset Allocation review

Markets are continuously evolving and we continue to react to this, reviewing our portfolio positions regularly to ensure holdings are best placed to capture valuation opportunities while managing risk levels. In an environment where economic cycles are becoming more divergent, there is likely to be benefit in maintaining diversification across the various regions.

UK, Europe & US inflation and interest rates

Market expectations for the interest rate outlook have shifted considerably over the course of the year to date. Having initially implied the pace of rate cuts of around 1.5% for this year, expectations  have since pared back significantly following the resilience of the labour market and sticky inflation. Central banks are still pointing towards data dependency, including the ECB which opted to remove the top layer of restriction through a 0.25% rate cut in June. More central banks may be in a position to ease interest rates in the second half of 2024 but employment activity and inflation data are pivotal to this.

Stronger than expected UK and US growth and inflation data has reduced the likelihood of rate cuts from the Bank of England and US Federal Reserve, with expectations of now just one reduction in 2024.

Key changes

We continually assess and review the asset allocation positions across our range of funds, as we evolve the funds and the level of diversification available to clients. Some of the key changes in the 2024 Strategic Asset Allocation (SAA) review include:

Fixed Income - Bond yields having initially priced in aggressive easing and have since returned to broadly the same levels seen in November 2023. Within Fixed Income we've increased exposure to US Government Bonds, UK Government Bonds and Asia Fixed Income. Developed market government bonds offer very healthy yields and a potential buffer against periods of volatility. Corporate Bond yields have also been at 15-year highs.

As such, we've rebalanced in to Fixed Income relative to Equities, in order to bring the portfolios back to similar allocation levels implemented in November 2023. A weighted increase of UK and US Government Bonds compared to Corporate Bonds. This is due to a combination of spread tightness and attractive absolute level of yields. These are also highly liquid assets, should further attractive investment opportunities present themselves in the next 12-18 months.

For US Investment Grade and Global High Yield Bonds, the credit spreads are particularly tight compared to history, especially for US credit. This suggests spreads are already reflecting a resilient economy, and the current environment may not offer the most attractive entry points. The percentage of US Fixed Income allocated to Treasuries has therefore increased from 18% to 24%.

Equities - Equities have rallied year to date although there has been a small reduction of Equites into Fixed Income, focused on the UK, Asia, Europe, Japan and Africa, while we've increased exposure to US Equities. The main factors influencing this were profit taking for regions that have performed particularly well and forward looking valuations. The addition of a new underlying building block - the RAFI Fundamental Index, using a fundamentally weighted index, rather than standard market cap weighting method is a factor for added exposure to the US. The RAFI index ranks the investment universe of companies by their Sales, Values and Dividends.

Recategorisation of Asset Classes

New 'Other strategies' category – this has been introduced to the SAA, which includes the Tactical Asset Allocation (TAA) mandate and new 'Other factors' category.

Other factors – currently includes a general allocation to hedge funds, but intended to evolve over time to gain exposure to a core set of additional factors that are diversifying to the wider portfolio.

Alternatives - The Alternatives asset class is now made up of three underlying alternative asset classes: Private Equity, Private High Yield and Infrastructure.

Property/Real Estate – Property allocations have been renamed to Real Estate to harmonise terminology with M&G Real Estate. Allocations to Real Assets remain broadly similar, with a continued focus on the quality of underlying assets and a longer term view to further geographically diversify.

Asset allocations

Expand the headings below to see the new allocations by asset class for PruFund Growth and PruFund Cautious from 01 June 2024.

Outlook

We continue to see value in pursuing a portfolio that is well diversified across different asses classes and regions, with positive exposure to factors such as an inflation risk and tilted toward the solutions to the problems of the coming decade. Unexpected inflation can negatively affect both equities and bonds increasing correlations, thus reducing diversification benefits. As a team we continually look to evolve portfolios and add or increase exposures that offer different return profiles. While we've been busy implementing these changes to portfolios the team continue to monitor closely what is happening in economies globally.