Positioning portfolios for a higher-rate, higher-inflation environment

Cadre Capital Partners held its monthly Investment Committee meeting to review the global macroeconomic backdrop, portfolio positioning, sector exposures and emerging investment themes.

The key message from the Committee was that the investment environment remains challenging, but not without opportunity. Inflation is proving more persistent than many expected, interest rates may remain elevated for longer, and traditional portfolio construction methods need to be reconsidered in a world where bonds may not provide the same level of protection they have historically.

The Committee’s view remains that portfolios should stay diversified, disciplined and valuation conscious, with a focus on real assets, infrastructure, energy, selected international opportunities and careful exposure to growth themes such as artificial intelligence.

Macro outlook: higher rates remain the central issue

The Committee began with a discussion on the global economic environment.

A central theme was that inflation pressures remain embedded across many major economies. While headline inflation has moderated from its peak, the Committee noted that structural forces such as geopolitical instability, supply chain disruption, energy security, defence spending, AI-related capital expenditure and the energy transition are likely to keep inflation above central bank targets for some time.

This has important implications for markets. If inflation remains persistent, central banks may be slower to cut rates than investors currently expect. The Committee noted that bond yields could continue to rise if inflation expectations remain elevated, which would place pressure on parts of the equity market, particularly long-duration growth assets.

In Australia, the Committee discussed the impact of higher interest rates, cost-of-living pressures and weakening consumer confidence. While the market continues to price in the possibility of rate cuts, the Committee’s view was that a meaningful easing cycle would likely require a clearer deterioration in employment or economic activity.

Regional market views

The Committee reviewed several key global regions.

In the United States, technology and AI-related investment remain powerful drivers of market performance. However, valuations in parts of the market, particularly among the largest technology companies, are elevated. The Committee discussed the need to avoid chasing momentum after large share price moves and to focus instead on whether earnings can continue to support current valuations.

Europe remains mixed. Germany was discussed as an area of potential interest, particularly given the structural increase in defence and infrastructure spending. However, broader European conditions remain challenged by weak growth, political uncertainty and rising bond yields in some countries.

Japan continues to be viewed constructively. The Committee noted that Japan’s recovery is gradual, but corporate reform, buybacks and the potential benefit to financials from higher rates remain supportive. Currency weakness and inflation pressures were identified as areas to monitor.

China remains in transition. The Committee discussed the country’s shift away from a property-led growth model towards technology, exports and consumer activity. While property weakness remains a drag, export strength and the move into AI-related technology are increasingly important to the outlook.

Rethinking the traditional 60/40 portfolio

A major discussion point was whether the traditional 60/40 portfolio remains fit for purpose in the current environment.

The Committee’s view was that if inflation remains structurally higher and bond yields remain under upward pressure, bonds may not provide the same defensive characteristics investors have relied on in the past. This does not mean fixed income should be avoided, but it does mean duration, credit quality and manager selection need to be carefully considered.

The Committee also discussed private credit, noting that the sector continues to attract scrutiny. The key issue is whether investors are being adequately compensated for the risk they are taking, particularly if spreads widen or asset valuations come under pressure. Cadre is continuing to undertake detailed work on the fixed income and private credit parts of portfolios.

Real assets remain a core portfolio theme

The Committee reaffirmed the importance of real assets in portfolios.

In an environment of persistent inflation and elevated capital expenditure, areas such as infrastructure, utilities, energy and selected commodities remain attractive. These assets can provide exposure to long-term structural demand and may offer more resilience than traditional growth assets during periods of inflationary pressure.

The Committee also discussed opportunities in resource-producing emerging markets, while acknowledging that some areas, such as lithium, have become more crowded.

Artificial intelligence: beyond the obvious winners

Artificial intelligence was a major focus of the meeting.

The Committee acknowledged that AI remains one of the most important investment themes globally. However, the discussion was focused less on the headline technology names and more on the second-order beneficiaries of the AI build-out.

The Committee considered the enormous infrastructure required to support AI, including data centres, electricity supply, grid connections, transformers, switching equipment, high-voltage cabling and cooling systems. This creates potential opportunities in infrastructure, utilities, electrical equipment, engineering services and commodities.

Copper was specifically discussed as a key potential beneficiary. Unlike some other materials, copper demand could be meaningfully affected by the scale of data centre investment and the broader need to upgrade ageing electricity grids in the US and Europe.

The Committee agreed that further work should be undertaken before the next meeting to assess how best to gain exposure to this theme. The focus will be on identifying whether the opportunity is best accessed through commodities, infrastructure, specialist managers, direct equities or listed engineering and services companies.

Growth exposure: discipline over momentum

The Committee discussed whether portfolios are underexposed to growth assets, particularly given the strong performance of technology and AI-related shares.

The view was balanced. On one hand, portfolios need to remain exposed to genuine long-term growth opportunities. On the other, the Committee was cautious about allocating heavily to areas that have already experienced significant price appreciation.

The largest technology companies have benefited from strong investor flows, but they are also spending heavily on infrastructure and capital expenditure. This means future returns will increasingly depend on earnings delivery, rather than simply valuation expansion or share buybacks.

The Committee discussed the potential for active managers to identify mid-cap or second-order AI beneficiaries that have not yet experienced the same level of market enthusiasm as the largest technology names. This may provide a more attractive way to participate in the AI theme without simply chasing the most expensive parts of the market.

Value and cyclicals back in focus

The Committee also discussed the recent outperformance of value-style investments.

If bond yields remain elevated and inflation remains persistent, value sectors may continue to perform better than long-duration growth sectors. The Committee considered whether adding or increasing exposure to a value manager could improve portfolio balance.

This discussion will continue as part of the broader review of portfolio exposures, particularly in the context of maintaining appropriate diversification between growth, value, income and real asset exposures.

Portfolio positioning

The Committee’s overall assessment was that portfolios remain broadly well positioned for the current environment.

The current approach continues to favour diversification, real assets, infrastructure, energy, selected international exposure and careful management of fixed income risk. The Committee did not see a need for a major shift in positioning, but identified several areas for further review.

These include:

Reviewing growth exposure and whether portfolios need additional exposure to AI-related beneficiaries.

Assessing the role of value managers if higher rates continue to support value-style investing.

Continuing due diligence on fixed income and private credit exposures.

Undertaking a deeper review of AI infrastructure, copper, grid equipment and related engineering services.

Assessing opportunities in Japan, Germany and selected real asset sectors.

Committee conclusion

The conclusion from the meeting was that the current environment rewards patience, discipline and active management.

Markets remain constructive in parts, but risks are elevated. Inflation may remain higher than central banks would like, interest rates may stay higher for longer, and investors need to be careful about paying too much for popular growth themes.

At the same time, structural opportunities are emerging. AI infrastructure, grid modernisation, copper, energy, utilities, Japan and selected value exposures all remain areas of interest.

Cadre’s approach is to remain invested, but selective. The objective is not to chase short-term market moves, but to construct portfolios that can participate in long-term opportunities while remaining resilient through changing market conditions.