Did market difficulties during the last few years and subsequent bear sentiments come as surprise?
I don’t think I would call it a surprise as problems across the eurozone, grinding US economic activity and the slowdown in Chinese growth were significant enough for investors to seek refuge in “safe haven” assets. But the reaction and movement in equities markets has been better than most investors would have considered. Let’s not forget, the S&P 500 is up close to 20 percent from 2011 while gold is up 16 percent. I think I was surprised at some of the volatility we saw over the last few years.
European government bond yields would rocket up over miniscule headlines from Greece or Spain, while oil would drop $5 in a day. Many money managers had a hard time generating returns over the last few years precisely because of the lack in direction and sentiment. Now that we are starting to see some economic pick up – which probably means not fearing a further decline – in the US and China, we can start trading on more sound fundamentals.
But these comments are made in hindsight and looking back investors have underestimated the amount of money that central banks were prepared to commit to stabilising the economy and the effect this would have on equity prices.
You argue that last year’s problems are likely to continue for some time. What does this mean for traditional investment strategies?
I think traditional investment strategies won’t work the way they used to. An investor from the 80s or 90s would simply buy and hold equities, in today’s marketplace that strategy would require considerable alterations as volatility and tail end risk remain rampant.
Monetary policy across the developed world remaining very accommodative, the Fed has decided to tie its quantitative easing programme to the US unemployment rate, (as long as the unemployment rate remains above 6.5 percent the Fed will keep the funds target rate close to zero), while Europe will look to cut rates in Q2 2013 from the current rate of .75 percent. The Bank of Japan has finally sought to devalue its currency by increasing its buying of Japanese debt. Therefore we can expect higher than normal levels of inflation and the continued devaluation of currencies. This phenomenon will only continue for the foreseeable future and will benefit two asset classes most of all: commodities and emerging markets.
The asset class with the most risk is the bond market. Many investors will move out of bonds into the only other “easy to invest” asset class… Equities. We estimate that this shift from bonds into equities will continue into the second quarter of 2013.
What implications will the devaluation of money have in terms of real assets?
We believe and have been saying since early 2000 that the devaluation of money will continue as central banks seek to prop up global markets by printing money.
The Fed’s commitment in keeping QE alive as long as the unemployment rate is above 6.5 percent provides support for precious metals, energy, agriculture and base metals over the next few years. This means that gold and precious metals could be important. These asset classes won’t appreciate ten percent a year but could rise by between 4-6 percent annually over the course of a decade.
Where do you see growth in emerging markets?
Within the emerging markets we see growth stemming from the Next 11. Those countries with low levels of debt-to-GDP will outperform. In particular, Mexico, Turkey, Indonesia, the Philippines and South Korea.
What knock-on effects will this cause for developed economies?
Allocation of capital. We are already seeing an increase in investment flow divert away from developed markets and move into emerging markets. Domestic demand from emerging markets will also increase significantly. This will increase innovation and encourage competition across developed markets as their goods and services will now compete on a much wider global scale. Companies will invest more in emerging markets and derive more of their income from these countries.
How will higher taxes affect global markets?
High taxes will affect western economies more so than emerging economies. Austerity has become a household term over the past two years. We in the west look to cut spending and raise taxes in order to reduce the amount of debt that has accumulated over the past decade. This is a real advantage for investing in emerging economies as they are not burdened by this structural change taking place.
Western world countries have no choice but to increase taxes. The core problem is healthcare and social security spending. These are good things for the people but the government simply spends too much money on its aging population.
Other than high-yielding, stable partly-monopolistic, inelastic-demand stocks, what strategies might be pertinent as interest rates remain low?
The current interest rate environment has decreased the value of our money. The best hedge against this devaluation and higher inflation is to invest in metals and real assets such a commodities.
What are the main advantages of splitting traditional asset management funds from alternative asset management funds?
We believe that the idea of using hedge funds in a portfolio has not worked. Regulators have “attacked” these funds to such a degree that managers really don’t wish to take on the same risk levels. Conservatively, it is easier and more sensible for investors to buy more traditional long only investments today. They just have to select the right asset class. Gold use to be considered alternative but its been redefined as traditional.
What do you expect will be the main economic themes over the coming decade?
Lower returns from equities, poor returns from bond market funds, lower growth in the west, higher taxes, a slowdown in technological advances but continued progress in pharmaceuticals.