Contrarians struggle to fight against the fund herd; Benchmark biases bring hope for allocators
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Moving parts
Harried equity investors have been given a bit of a breather since March. Indices have rebounded in fairly consistent fashion, and signs of a renewed slump – like that seen at the end of June – have come to nothing.
That relatively serene progress has led to much puzzlement over the disconnect between markets and economies. Whether this is par for the course, investors wilfully ignoring reality, or an accurate reflection of policymaker support is up for debate.
Whatever the answer, not all warning signs have stopped flashing. Gold yesterday moved above the $1,800 mark for the first time since 2011, and the Vix remains 50 per cent higher than its historic average. Needless to say, many investors are still trying to understand how the ‘new normal’ might play out.
Unfortunately for active managers, this heightened uncertainty doesn’t necessarily play to their strengths. Elevated volatility is usually a benefit – but complex scenarios aren’t always helpful. Analysing a problem from every different angle may seem like the smart thing to do. But where markets are concerned, the reaction is often rather more simple.
This year has been a prime example of how herding behaviour can override more complicated analyses: as more of consumers’ lives have shifted online, tech has continued to rally. As the latest annual Equity Gilt Study from Barclays puts it, investors’ best first guess in times of ambiguous risk is to “follow what everyone else is doing”. And contrarians, whatever the elegance of their thinking, might continue to have it tough until this herding manages to dampen volatility back to its pre-crisis levels.
From bad to worse
The same Equity Gilt Study also turns its attention to an increasingly neglected part of wealth managers’ asset allocations: emerging markets. Barclays analysts suggest there’s good reason for this: they predict the crisis will “exacerbate existing EM structural vulnerabilities, and create new ones”.
That bad news extends to almost every front: from fiscal and debt profiles to social cohesion and beyond. Underpinning most these issues is de-globalisation and a demand shock in developed markets. And this time, China’s own economic issues mean growth in the world’s second largest economy is unlikely to bail out EM as a whole.
Wealth firms may well agree with this analysis, given their own EM allocations have steadily fallen back over the past few years, and show little sign of recovery. Barclays also predicts the only group “unlikely to be penalised much” will be near-developed emerging markets, including the likes of Taiwan and South Korea, as well as those like China that have manageable public debt to GDP ratios.
That, too, would seem to play into DFMs’ increasing preference for Asia ex-Japan equity funds over generalist EM offerings. Yet Barclays also notes that EM equity indices tend to be skewed to this resilient group. So, despite all the risk factors they outline, they believe it's EM (local) debt rather than shares that will bear the brunt of the problems. All the same, allocators aren’t likely to pile into emerging market equities any time soon – but compositional effects might insulate them better than some suspect.
Finding value
Value managers are in particular need of their contrarian buyers at the moment – and today they received one notable vote of confidence in the shape of St James’s Place’s investment committee.
The company is shifting its equity income mandate to a multi-manager value strategy, in the process moving from the ex-Invesco team at Manulife to a trio of fellow US managers – Pzena IM, Sanders Capital, and Artisan. At a time when many committees are giving up the ghost on value altogether, SJP at least is still convinced of the long-term viability of such funds. And while its decision hardly mean global income strategies are done for, wealth firms struggling to find decent choices in this area might have some sympathy with that side of the decision, too.
