IS IT TIME TO TAKE OUR CHIPS OFF THE TABLE?

If you have been to a rock concert you will appreciate the huge difference in participating in a live event compared to listening to the same music on a DVD (or for free on YouTube which has turned the music industry upside down).

In the financial services industry the equivalent of a rock concert would be a live presentation by the leaders of top financial institutions as opposed to reading their regular reports in the press or on the Internet. The messages may be the same but when presented in person and in an interactive environment they carry a lot more weight and provide a better understanding of the processes that lead to the decisions they make with billions of dollars of investors’ money.

I have been to quite a few rock concerts in my time (Everly Brothers, Little Richard, Rolling Stones, Jet Harris, Scorpions and more) and they were a bit more exciting perhaps than the financial event I attended earlier this month in London, namely a Think Tank organised by Momentum Investment Managers. Nevertheless the messages that emerged from the conference are probably of greater relevance than a rock concert to the many expat readers who have savings plans, financial portfolios, pension schemes etc. that they are counting on to provide their future financial security. I would therefore like to share some of the thoughts that came from these ‘rock stars’ of the financial world such as Allianz, Morgan Stanley, and Goldman Sachs. Particularly since we are seeing a contradiction today of ever-rising stock markets against a background of almost unprecedented political instability.

How should we react to world events?

It is not easy to compress over 12 hours of detailed presentations into one column but I can select a few major points and some of the messages that came over. One common theme was whether we should be positioning ourselves for a big correction that could follow some nine years of mainly rising markets since the Global Financial Crisis of 2008.

The following are the some of the major points that emerged and which might help to address that question:

Headwinds that pose a threat to markets: Trump, North Korea, Iran, Syria, Brexit, slowing growth in China, globalisation, digitisation, high debt levels, changing demographics.

Despite the headwinds global stock markets have continued to rise this year, many to record levels. US markets, in spite of political chaos, have been particularly strong.
Although markets have risen steadily there are no obvious ‘bubbles’ emerging that might trigger the next ‘crash’.
Inflation in major economies is holding below 2% but there is no threat of deflation which could produce another recession. In fact a couple of speakers suggested we were in a ‘Goldilocks’ situation, not too hot, not too cold (referring to the porridge).
Whilst market conditions were ‘benign’ most investors were cautious.
Stock valuations are high but have not become excessive.
Rising populism in many countries could result in tax changes.
Interest rate rises are expected but they are likely to be very gradual.
With global growth steady there could be a few years left in the current bull market but steps should be taken to reduce risk given the many headwinds.
Infrastructure investing – a good hedge in harder times as it is more defensive than most equity investments.
While there has been a growing trend towards ‘passive’ investing through ‘ETFs’ – a means of buying into an index and reducing charges – one speaker defended the art of ‘value’ investing in the manner of the world’s most successful investor, Warren Buffet. His fund selects 33 of the most ‘undervalued’ stocks, subject to certain criteria and considerable analysis and holds them for as long as it takes to reach ‘fair value’ which can mean several years. In the majority of cases this has worked well and has produced returns that have put the fund’s performance into the top 1% of its peers in the same asset class. Economic, political and market forces have little relevance in this instance and chips are never taken off the table for those reasons.
The Goldman Sachs speaker took a positive view on emerging markets and commodities, two sectors that saw a sharp reversal while other asset classes were rising in recent years. He saw Brexit as being a lot of drama followed by a settlement although he was less positive should there be a change of government to Labour under Corbyn which he thought would cause the UK to resemble a ‘Cuba without the sun’! He felt that should there be a ‘technical correction’ in the markets it would be a fairly fast down and up again.
One speaker focused on ‘liquid alternatives’ as an asset class that can help diversify and soften the impact of any correction. These are not the notorious ‘illiquid alternatives’ that caused havoc following the 2008 financial crisis but funds that trade daily in global stock and bond markets. An example is a ‘long-short’ fund where the ‘short’ element can make a profit when stocks fall.
Property funds – We all know the benefits of owning property and also the potential downside, in particular its illiquid nature resulting in the inability to sell the asset for months or even years. But it is possible to have a safer holding in the market through listed funds that are daily traded. Such funds own construction company shares for example so can benefit from some of the expansion we are seeing around the world in housing estates, shopping malls and more recently in the field of logistics with the likes of Amazon who need more and more warehouse space for their distribution networks. Again

an opportunity to diversify without locking in capital.

So how are multi-asset funds using this advice?

Their job is to take into account the views of the economists and other experts and translate them into meaningful actions within their funds. In the case of the multi-asset, multi-manager fund that organised this particular event it means they will:

Basically stay on course with an emphasis on stocks despite current high values and the possibility of a correction.
But they will reduce stock holdings to a certain degree and further diversify their funds by allocating some of their resources to alternative assets, listed property shares and listed infrastructure shares.
Buy ‘put options’ that offer a measure of insurance against shocks to the market.
Be acutely aware of the need to be well-diversified.

Need for personal action?

If you have delegated the management of your assets to a multi-asset, multi-manager fund the job is being done for you, but if you haven’t done so the points covered above should provide a few ideas on how to cope with market uncertainties without missing opportunities.

As for ‘taking your chips off the table’ the message that came through at the financial ‘rock concert’ was to leave them on the table but make a few adjustments by moving some of the chips around. And it goes without saying that you should always hold adequate cash reserves so the only chips on the table should be those that can stay there for the longer term.

Colin Bloodworth, Chartered Member of the Chartered Institute for Securities and Investment (UK), has spent over 20 years in Indonesia. He is based in Jakarta but visits Bali regularly. If you have any questions on this article or related topics you can contact him at colin.bloodworth@ppi-advisory.com, colin.bloodworth@yahoo.co.uk or +62 21 2598 5087

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