Market trends and perspectives for the year with Catherine Wajsman – April 2018Review | April 17 2018
I. In 2017 markets rallied in response to world growth. What about 2018? Should we fear a slowdown?
Certain indicators of world activity did, indeed, wane at the end of the quarter. We believe this decline is primarily a reaction to the fervour generated by American tax reforms. We’ll know whether this growth is sustainable in one month, when companies publish their results. We are optimistic.
II. In this case, what factors are a source of concern?
These are easy to identify:
- Concern that current inflation will increase in the U.S.
- Concern that interest rates will escalate, this naturally being related to that.
- What can be called a ‘trade war’ between the U.S. and China, and more generally the inopportune nature of reactions from the leader of the world’s most powerful nation.
- And lastly, the impression – valid or not – that stock prices are high. Overall, we believe that, as is often the case, the media has exacerbated a short-term approach.
Let’s address each of these concerns:
- For several decades now, experts have predicted either deflation or a rise in inflation. I can give you endless examples of this kind of analysis since the 1980s. In truth, reality is not stranger than fiction. In the U.S. and Europe alike (and unlike certain emerging countries), when inflation has in fact returned, it has been “timid” rather than “rampant”. It is no doubt excessive for Bloomberg analysts to still note “an absence of inflation”, despite wage increases.
- Concerning fears of a sharp interest rate hike, why would central bank experts suddenly decide to wildly boost rates when their experience has driven them to avoid financial market shake-ups at all cost? Any interest rate push will definitely be gradual.
Experts disagree as to whether there will be 3 or 4 rate increases in the U.S. this year. This quarrel strikes us as a bit ridiculous. More specifically, in the U.S., Jerome Powell will likely follow Yellen’s programme and gradually wind down the Fed’s balance sheet. Ten-year Treasury bills could end the year at 2.60 – 2.90 %.
In Europe, Mario Draghi continues quantitative easing and no radical changes are expected before 2019.
- In terms of the U.S.–China trade war, a distinction must be made between appearances and underlying truths. By applying a 25% surcharge on $50 billion worth of Chinese imports, the U.S. president is actually going after 3% of the country’s trade deficit with China – a sum of around $400 billion! Yes, this has caused a lot of noise. But is it really decisive?
III. What is your take on market trends in first quarter 2018 ?
In just a few sessions in late January and early February, stock markets in Europe saw all gains made in the first few weeks of the year wiped out. These losses were largely precipitated by the volatility-related unwinding of positions on a wide range of derivatives. It should be noted that Europe did not accelerate the downward trend seen in the U.S., unlike several previous cold snaps. Delayed returns on American equity indices and less generous European stock valuations no doubt served as a ‘shock absorber’.
IV. In that case, why are markets nervous?
The causes of rising and falling volatility are often difficult to pinpoint. It is highly difficult to obtain returns on financial instruments indexed on volatility, for example. The nearly continuous rise of markets since 2011 has created a ‘dizzying’ effect; managers harbour a fear of losing what they’ve gained.
Furthermore, volatility on commodities and currency markets – both of which appear to be stabilizing – tends to ‘agitate’ equity markets.
V. What management policy do you recommend to prevent market contractions?
Past experience has shown that you cannot fully avoid a tsunami coming at markets.
Our management practices are based on a few basic principles:
Depending on the manager, the majority of a portfolio is placed in either funds, or value investments (based on the Warren Buffett approach), or, most often, a combination of the two.
We manage based on conviction – here is an example: we have not invested our portfolios in bonds for several years now, based on a common-sense belief that the level of returns and the risk of rate hikes make this asset class uninteresting.
Similarly, when we believe in a manager’s talent, we are likely to subscribe as much as 10% of their fund. This is the case of H20 Multibonds – not a bond fund, despite its name – which has performed brilliantly over the years and, yet again, yielded around a
12% return so far this year!
Lastly, for several years now, we have included a majority of “mid” and “small” capitalisations in the funds we select. The reason is simple: strong-growth companies can be found at any time in history, in any country, despite shake-ups in the economy; innovative companies, companies on expanding markets. By selecting successful management teams or simply by investing on the Nasdaq, we benefit from this these discoveries.
VI. What is your opinion on passive, or index, management?
Passive management can serve as an add-on, particularly on markets we are less familiar with, but talented stock pickers will beat index funds. Here is a perfect example: French markets remained lifeless between 1975 and 1982, while during the same period, 30% of stocks doubled in value.
VII. Last but not least: what are your predictions for 2018 ?
I’m unable to say how markets will be positioned at year end, especially given that political events, albeit less influential on markets in the last 10 years, can still be a source of surprise…
That being said, method is interesting. What should we do in the context we described?
- We don’t expect disappointment, either in terms of macro-economic data, or company results.
- Every week we review the strategies and intuitions of our preferred managers.
- We are reducing the weight of shares in portfolios to adjust risk position to market volatility. Also worth noting is the spike observed in the VIX Volatility Index during this quarter – to a relatively rare level (37 compared to 11 at the end of last year).
- We keep our distance from bonds in the traditional sense.
- We keep a watchful eye on products which could be adversely affected by an unfavourable exchange rate.
- We look for alternative solutions to the non-share component, and
the financial services industry offers innovative, clever options that often perform well. Among these, long/short funds – which take long and short positions in securities – can attract investors by encouraging portfolio decorrelation. Similarly, emerging country debt continues to offer interesting opportunities. Some emerging nations may see a jump in economic growth, and benefit from investment flows. Lastly, certain real estate investments offering attractive returns are often a part of our allocation strategy.