A Q&A with Mike Brooks, Head of Diversified Multi-Asset at Aberdeen Standard Investments, September 2018.
Given the likelihood that uncertainty and volatility will remain a feature of global markets in the near future, what, in your view, are the main risks for investors?
The past few months have shown the difficulties investors have in pricing in future growth in a fast-changing environment. Against the backdrop of solid global growth, economic forecasts for the world economy are being raised for 2018 and 2019, which helps explain the extent of the rise in share prices and the continued low levels of corporate bond spreads.
Looking to the medium-term, however, we are coming closer to the point at which US, and by association, global economic growth begins to plateau and then decline. This is a natural effect of closing output gaps, rising financial imbalances in some sectors and economies, as well as the likelihood that the world’s major central banks will eventually transition from accommodative to tight monetary policy. The last of these presents a key question for investors – how to generate returns as stimulus schemes end and interest rates are raised? The other key risks for investors are continued political uncertainty and further escalation of the trade dispute between the US and China.
What do you think will be the main drivers of returns in the near future?
While the macroeconomic background remains positive (at least in the short term), traditional asset classes look expensive. Several major equity markets, among them the US and the UK, are at, or near, all-time highs. Yet stocks, particularly those trading in the US, are overpriced relative to their earnings prospects, offering little value for investors. Meanwhile, yields on government bonds in developed markets are still hovering close to record lows, making them look unattractive given the prospects of higher inflation and interest rates to come.
Recent turbulence in markets has thrown up major differences in performance within the multi-asset universe. Funds that appeared to be investing in similar things have shown a wide dispersion in returns.
Essentially, there are three ways that a manager can offer an absolute return multi-asset portfolio: the two most common are alpha strategies and market timing, both of which rely heavily on a manager’s skill, and markets rewarding that skill over time.
While we take an active approach to asset allocation, we do so in the knowledge we won’t get it right all the time. Hence we design our portfolios with genuine diversification at the core of our philosophy. We consider a very broad range of asset classes for our diversified assets strategies which reduce volatility, downside risk, and reliance on equities to generate growth.
In your opinion, what are the benefits of multi-asset investing?
In the past, a simple blend of equities and bonds worked well, but both asset classes now face headwinds. Investors are trying to find other ways to generate growth in their portfolios, but every new investment they make, or new manager they select, adds complexity. Multi-asset funds are an attractive way of building diversification into a portfolio while keeping things simple for the investor.
What have been your best investment ideas in recent years?
With valuations high, we started 2018 with less than 20% in equities – favouring real assets, higher yielding fixed income and special opportunities. We haven’t held low yielding government bonds or investment grade credit since early 2017.
As multi-asset investors, we are always trying to diversify our clients’ portfolios beyond the mainstream. So, as the mainstream broadens, we think that investors should pay greater attention to more esoteric asset classes that offer different return streams to both traditional asset classes and the better-known ‘alternatives’. These ‘alternative alternatives’ are areas in which we have been investing for some time.
Listed alternatives have strong diversification benefits. Over the long term, the performance of any investment trust is driven by the underlying cashflows generated by its investments – regardless of whether those investments are properties, wind farms or specialist credit funds. Some of these asset classes are naturally more economically sensitive than others. Indeed, a key advantage of litigation finance, for example, is the lack of correlation between their returns and the returns produced by other financial markets. Given that the outcomes of legal cases should be almost entirely independent of factors such as the economic and financial market background and interest rate cycles, litigation finance providers can be an excellent source of diversification.
The more specialist funds available – both those covering niche alternatives and even those focused on niche real estate (such as social housing) – also have an added advantage that they are typically too small to feature in global equity market indices. As such, they are less likely to be caught in indiscriminate market sell-offs.
The value of investments, and the income from them, can go down as well as up and investors may get back less than the amount invested.
©2018 funds europe