Institutional investors are more aware than ever that the very nature of geopolitical risks makes shocks unpredictable. Planning for edge-case scenarios and finding new ways to ensure portfolio diversification is essential.

AMP Capital senior portfolio manager Darren Beesley has stressed the importance of being out in front of geopolitical risk with a planned course of action in cases where unlikely events arise.

During a panel at the Investment Management Consultants Association annual conference in Sydney on Wednesday, September 20, Beesley advised investors against trading reactively on the day of a geopolitical upset, such as the US election of President Donald Trump, because that is when mistakes can occur.

There was no trading in AMP Capital when Trump was elected. That’s because Beesley and his team had already decided to stay the course in the event of such a scenario.

Indeed, one of the key debates taking place among investors right now is whether to stay true to a long-term strategic outlook in the face of geopolitical risk or make asset allocation adjustments.

Divergence on short-term risk

Christian Super chief investment officer Tim Macready said that while his team has strategies in place to mitigate risk in the medium and long term, it hasn’t implemented any traditional downside protections across the portfolio to minimise short-term risk.

For Beesley, in contrast, opting to hedge tail risk isn’t a blanket decision, but depends on the end-client. The needs of those born in the 1990s differ from those of retirees and the respective portfolios should be managed accordingly. It isn’t worthwhile for young people to pay money to manage short-term tail risks because that could burn potential growth. On the other hand, it is worthwhile for retirees who have low tolerance for losses.

How do these insights translate into action in the current geopolitical environment? Despite an industry trend towards passive management, Beesley said AMP Capital is spending more on active management and hedging tail risk for older clients.

Christian Super also tries to stay disciplined about adhering to its long-term strategy. However, in the medium term, it has decreased exposure to listed equities across the board and reduced exposure to duration risk. At the same time, the fund has gone overweight in private markets – both equity and debt – in Australia, the developed world and emerging markets. It is also overweight in cash and credit in anticipation of some purchasing opportunities it sees on the horizon.

Uncorrelated risks

Another area of focus for Christian Super is gaining exposure to genuinely uncorrelated risks by taking into account the 17 United Nations Sustainable Development Goals. The goals were adopted by member countries in 2015 to end poverty, protect the planet, and ensure prosperity for all through specific actions in areas such as infrastructure development.

Macready has been looking at the demographic opportunities in emerging economies in sub-Saharan Africa, South-east Asia and parts of Latin America, and has allocated above target in listed and unlisted strategies in those markets.

“This gives us exposure to more idiosyncratic and uncorrelated risks,” he said. “It obviously reduces our broad market risk and it reduces our duration risk, [while] it increases our currency risk and it increases our range of idiosyncratic risk.”

Skeptics by nature, actuaries are generally reluctant to make guarantees.

Yet, one thing Whitehelm Capital principal adviser Debbie Saunders is comfortable guaranteeing in the current geopolitical environment is that her forecasts will be wrong.

“The question for me is: How do I actually turn what will be wrong risk-and-return forecasts into an appropriate asset allocation?” Saunders said.

She says the biggest thing Whitehelm Capital has been doing with its clients this year – since it lacks the ability to predict the content of Trump’s next tweet – is scenario analysis. That means working through each eventuality, from booms and recessions to real-world events; for example, underweighting Australian equity in favour of overseas shares to ensure the ability to capitalise on the US growth story should some of Trump’s pro-market policies get through.

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