Brexit and Donald Trump – even if disaster hasn’t struck, there is no question that the conditions for investors have radically changed. Will next year be as eventful, asks Vontobel's Christophe Bernard

By Christophe Bernard, he joined Vontobel 2012 as Chief Strategist. He is also the Chairman of the company’s investment committee.

The two events represent a seismic shift in the prevailing political and economic environment. Given America’s economic weight, our outlook for 2017 is to a large extent dependent on developments there.

Generally, it is important to note that some of the incoming president’s ideas have merits. We are therefore considering two corner scenarios: on the one hand, a «reflation» scenario would see the positive aspects of the Trump agenda such as tax cuts and infrastructure investments implemented while, at the same time, the negative aspects such as import tariffs and restrictive immigration policies would only be confined to symbolic action.

This would result in a pick-up in growth and rising inflation. On the other hand, a «stagflation» scenario with strict anti-trade and anti-immigration measures would hinder growth while stoking inflation.

Favourable Aspects of Trump Agenda May Prevail

Given America’s economic weight, our outlook for 2017 is to a large extent dependent on developments there. Generally, it is important to note that some of the incoming president’s ideas have merits. We are therefore considering two corner scenarios: on the one hand, a «reflation» scenario would see the positive aspects of the Trump agenda such as tax cuts and infrastructure investments implemented while, at the same time, the negative aspects such as import tariffs and restrictive immigration policies would only be confined to symbolic action.

This would result in a pick-up in growth and rising inflation. On the other hand, a «stagflation» scenario with strict anti-trade and anti-immigration measures would hinder growth while stoking inflation.

Reflation Scenario With Higher Probability

As the year progresses, things probably won’t turn out to be entirely black or white, but reflect a combination of both corner scenarios. This will provide a framework for us to gauge the impact of forthcoming measures on financial markets.

At this juncture and ahead of Donald Trump’s inauguration on 20 January 2017, we give the «reflation» scenario a higher probability than the «stagflation» one. The reason for our confidence is simple: it is easier to garner support for tax cuts and infrastructure spending than to confront a powerful lobby of U.S. multinational corporations that would clearly lose out in the event of a trade war between the U.S. and China or Mexico.

In both scenarios, we expect rising inflation and tighter monetary policy to exert upward pressure on government-bond yields and provide support to the dollar. However, this could create a headwind for emerging-market assets. Generally, the «reflation» scenario supports equities, at least the sectors that benefit from rising interest rates and accelerating economic growth. Conversely, the «stagflation» scenario is negative for both fixed-income and equity markets.

Cash Is King

As a result, we have cut our positions in emerging-market debt, raised our exposure to the dollar and reduced our gold holdings to neutral. We stick to our substantial underweight to «safe» government bonds and a neutral equity stance. Crucially, we have raised cash balances in a very significant fashion.

All in all, investors have hardly ever faced a more uncertain environment. The current investment landscape requires a healthy dose of humility, flexibility and no hesitation to resort to cash as an active component of portfolio allocation.