The first day of TradeTech began today within a macro perspective on the changing world of capital markets as seen through the eyes of three key institutional investors.
Beginning the panel debate, Richard Lacaille, CIO, State Street Global Advisors noted positive developments in investor sentiment, particularly through the parent group’s custody arm. “Europe is deleveraging but it is a matter of how to get rewarded for the risk taken. Equities are now offering reasonable value and there is more investment. There is some evidence of inflows and risk taking but it is happening slowly. People are going into equity funds.”
Francois Bonnin, CEO, John Locke Investments said there is a need to harness data flow from one asset class to another. “Money is not going from bonds to stocks but from lazy to hard working asset managers. ‘Restaurant’ asset managers can invite as much interest as possible but everyone is under pressure and is looking at where the risks are.”
Alex Fleiss, chairman and CEO, Rebellion Research noted significant asset rotation. “There was decent flow towards equities in January, but that’s abated,” he said. “In the last week equities were way over bought but no one wants to sell their fixed income. 2008 stuck a dagger in the heart of all investors even for equities. The desire for risk post 2008 is less but it might be decades until they are comfortable.
“Equities will outperform fixed income in next 10 years but now the desire is to be away from market exposure. Endowments, for example, don’t want fixed income exposure. They want to be as close to zero beta strategies as possible, gold being the most interesting conversation topic in the last week.”
With so much talk about risk it is hard to make money, panelists observed. However, said Lacaille, there is still a passion for yield. “In the US there is a high default rate but spread in high yield is reasonable. People are evaluating risk and are looking at property, for example. But they should be careful with the low margin issue. The way SME’s are paying for credit is different now from when the CLO market was in favor. But we should not say all of those methods (such as CLOs) were bad, they just need to be prudently managed. We should not throw the baby out with the bath water but investors bitten once are twice shy. People need to better understand the correlation of risks, the real economic risks behind those correlations in order to understand how these instruments lubricated the market, particularly in Europe.”
Interest rates will stay low for a while, panelists observed. “This and the fact there has been little uptick in mortgage demand have caused the junk market to have a lower yield than the S&P 500 and global emerging sovereign debt is more appealing,” said Fleiss.
“Emerging market equities, on the other hand have not done well because risk appetite is still subdued by people haunted by 2008. The BNY Mellon ADR index was barely flat – it shows most of the exposure is in US funds so people are still scared of risk.”
Francois referred to the lowering of interest rates as a last resort by governments in order to address growth. “Interest rates where lowered in 2005 but that’s a last resort a government can think of,” he said. “Today people don’t want to hear about inflation but it gives hope and motivation to buy today because things will be cheaper tomorrow.”
When asked to square the S&P 500 with the fall in commodity prices, Lacaille said: “In the US equity market, earnings have not grown rapidly but you could argue there is some growth. Inflation won’t squeeze dramatically. But you have discount rates, which is where the change is taking place. The emerging markets have done well in the last five years, but investors are still nervous. The price to earnings ratio in emerging markets is 10 so even though they are becoming less risk averse they have not been rewarded. Investors are waiting for the inflow and returns to come in and they’re demanding a higher premium.”
The panel session concluded with panelists providing their views on top trades for the next year. Fleiss said that given the risks, emerging market sovereign debt is one to watch. Bonnin said it would be short gold but “it’s a long stock depending on liquidity.”
Eurozone equities were Lacaille’s top tip for the next year. “People are taken aback by this because Europeans are undergoing a recession and its difficult to see but there’s a relatively week euro currency and perhaps a stronger dollar,” he said. “For a stock picker there’s value.
“Buying a business in Portugal, for example, may have construction challenges but by investing in a Portuguese company in exports you can, for example, redomicile your ownership in Zlotys to offset any uncertainty, provided the Portuguese economy can function.”