This time it’s different … for Investment Managers.
For much of the 1980s and 1990s, declining interest rates were a powerful driver for stock, bond and real estate prices. Interest rates peaked during 1981-1982 but have since dropped to 60-year lows. They can’t decline much further. (They may not go up either but they can only drop to zero).
Without further interest rate declines, investors and investment managers will be hard pressed to find growth. And growth is expected to be at a lower (below trend) level. Many expect future growth below long-term trend (3%% at home, 6% overseas). Lower growth means stock markets that reflect the economy, will drift sideways … perhaps, for years … like the period 1966-1982.
In fact, markets look like they’ve been drifting sideways since 2000.
Sideways drift means scarce capital gains and the job of investing more challenging for many Investment Managers.
Many Investment Managers that developed their disciplines, methodologies and processes for money management during the 1980s and 1990s, may find those same disciplines, methodologies and processes don’t work as well in a sideways drift environment (of low and/or eventually rising interest rates). (In January Wilfred Hahn wrote: “… few of today’s generation of money managers and economists have requisitely-updated road maps.”)
Further, if macro factors (ie. interest rates) instead of company fundamentals (ie. earnings), continue to drive markets, then (by definition) correlations between stocks will continue to be high. All stocks will move in sync and Investment Managers won’t be able to differentiate between them. It will be more difficult to add value.
In a sideways drift, lower return, environment, some Investment Managers will struggle. Some active managers will face the risk of replacement with passive investments (Index or ETF replicating funds). (See ‘Vision 2010’, CFA magazine, July-August 2008,).
Surviving Investment Managers will add value with a specialty mandates (beyond simple indexing) that focuses on either risk mitigation or risk assumption. Two new(ish) Institutional product developments that Individual Investors can look forward to are 130/30 portfolios and Low Volatility portfolios.
130/30 and Low Volatility portfolios.
Doug Cronk CFA is Manager, Investments for a Canadian Pension Plan.