Desktop
iPad
Mobile

NEWS

29.06.2016

Giselle Roux: Low returns from equities and what you can do about it

A welcome rally recently still leaves most investors in the red over the past year, and the debate on how and whether to participate in equity markets is, if anything, gaining intensity. 

In many ways, the challenges of this fiscal year are a great testing ground for any investor to reflect on their attitude to their portfolio. The most obvious lesson is that after a few great years with equity prices rising more than earnings, valuations were above their historical average. In this case, the weak returns can be blamed on oil price volatility, China's problematic growth pattern or unease on interest rates.

On the other hand, you could argue that equities were attractively valued relative to other options and the favoured sectors of the market still had decent growth potential. The weak returns can be attributed to two predominant factors. Firstly, momentum faded where many had sought refuge: IT stocks, healthcare and consumer discretionary equities. Secondly, valuations were "toppy", especially in those sectors with reasonably secure growth. 

The second lesson was currency movements. Just when everyone was bearish on the Australian dollar, it staged a nice little rally. Of course that, in turn, exposed the "click and drag" forecast school who then rapidly recast their forecasts. That proved incorrect as the currency deflated again.

What we should remember is exposure to currency is not an afterthought and what to do when it requires action should be known before investing. Few investors should have had exposure to the US dollar only – the euro and yen behaved quite differently. Therefore each portfolio should have had a mostly unique experience depending on time of investment and currency mix. Both issues are turning some investors to other strategies. 

Investor style

These may be factor-based funds or they may be "smart" beta funds, a fancy way of saying that someone or a systematic approach can screen markets based on a given set of criteria and avoid some of the cyclical nature associated with the broad-based index.

Studies show certain styles persist or have attributes that can suit an investor, such as low volatility. The decision to include factor-based funds as a way to participate in global equities outside of traditional stock selection is very much a hot topic in investment circles. While the most dominant factors are said to be momentum and value, the question remains why such trends don't get swamped by the number of participants and lose their capacity to add any outperformance. 

Then there is the question of how to judge whether the fund manager of a factor strategy is doing a good job. Given most have their own way of establishing what is value, momentum, quality or volatility, there is no ready way to assess their performance. 

Other investment options include private equity. The attraction is the apparently high returns from a sense of direct participation in a business, rather than as a minority shareholder subject to the whims of the market.

For the majority of individual portfolios, these make no sense, with major challenges in decisions on which assets to support, idiosyncratic liquidity and high costs. The lesson is that different pricing mechanisms from those of listed equity markets don't necessarily make better investments. 

Then there are hedge funds. The concept is sound. The capacity to sell a stock, sector or index if it is overvalued or structurally challenged is the other side of the coin that has investors buying stocks believed to be of good value. Notwithstanding that some of the highest-profile global investors are in this game, the investment sector is having a loud debate on its ability. 

On average, hedge funds have done poorly. Even those with good records can be prone to disastrous decisions. Weak returns inevitably send investors looking for new solutions. 

While other fund or investment styles may have merit, they should not detract from the simple participation in "long-only" equities, which can be judged on their performance relative to their index, have lower or low costs and full liquidity.

LOGIN