As 2023 unfolds, managers divulge top choices for investments

In light of market trends that are expected to continue in 2023 — high but declining inflation and market volatility — institutional investors' will have to "sift through the rubble" to find attractive investment opportunities in both equities and bonds, one investor says.

Given that, within equities, Scott Davies, London-based chief investment officer of CDAM (UK) Ltd., which has about $1.5 billion in AUM, said he is bullish on homebuilding stocks, which should benefit from easing inflation and a slower pace of rate hikes by the Fed. The firm has a 5% portfolio weight to the sector.

In terms of top performers, Mr. Davies pointed to LGI Homes Inc., a "high-quality company focused on entry-level homebuyers," which offers homes at "affordable prices in attractive locations. Going forward, the Texas-based home builder has two significant return drivers, he noted. "One, we believe the worst of the Fed tightening policy is behind us, and mortgage rates have peaked," he said. "In a stable interest-rate environment we would expect increased demand. Two, the company has been able to achieve high returns on its invested capital, generating a 31% average (return on equity) since 2013."

In 2022, the S&P Homebuilders Select Industry index dropped 28.67%.

Saira Malik, San Francisco-based chief investment officer at the $1.1 trillion Nuveen LLC, said she thinks stock markets will remain volatile, though perhaps they will stay within a tighter trading range than what was witnessed in 2022, while geopolitical worries (Ukraine war and now unrest in China over COVID-19 restrictions) will continue to weigh on market sentiment.

As such, within equities, Ms. Malik suggests that institutional investors look at "dividend growers" — stocks that can deliver steady earnings and cash flow growth, even during periods of high inflation and recessionary climates. "These companies have strong balance sheets and have historically provided a buffer during periods of market weakness." While dividend growers once typically meant companies in financial services and utilities, Ms. Malik noted such stocks can be found across a variety of industries.

Ms. Malik particularly likes German-based global chemicals firm Linde PLC, energy giant Chevron Corp. and biopharmaceutical company AbbVie Inc. Linde, she said, will see its next phase of growth from clean energy and carries a 1.4% dividend yield. Chevron's commitment to paying dividends is complemented by making large share buybacks, while AbbVie has a "resilient business model" and carries a 3.8% dividend yield with steady cash flows.

Within fixed income, Ms. Malik suggests that institutional investors focus on high-quality corporate bonds — but in order to generate equity-like returns, they can add moderate amounts of risk by adding to duration.

She added that many of her clients are "generally pessimistic" about the 2023 outlook, with some investors worried that the traditional inverse correlation between stocks and bonds performance may be slow to return, making asset allocation a difficult task.

Ms. Malik said she also likes recession-resilient alternative asset classes such as infrastructure, farmland and private credit in 2023.

Anders Persson, Charlotte, N.C.-based chief investment officer for global fixed income at Nuveen, said by email that institutional investors should consider moving into bonds in 2023. He noted that with most of the Fed tightening behind investors, and markets already discounting additional rate hikes over the coming months, the historic weakness for fixed income in 2022 is unlikely to be repeated in 2023.

"Starting yields are much more attractive, and the vast majority of fixed-income returns are via income, not capital appreciation," he said. "This dynamic is true across the fixed-income universe and this sets up core fixed income for strong returns in 2023 and beyond."

And given that long-term Treasury yields are unlikely to sustain levels above 4% in the face of recession, long-duration bonds should have a "positive expected return," said Jason Vaillancourt, Boston-based global macro strategist for Putnam Investments.

Putnam has approximately $170 billion in AUM.

In addition to housing, Mr. Davies of CDAM also likes high-yield bonds, which are now yielding nearly 9%, more than double from the beginning of 2022.