Volatility is the new normal, paving the way for active managers to outperform in a low-growth environment over the next decade, UBS’s Paul Winter says.
As central banks’ fiscal easing rolls over to tightening, active managers will generate better performance than they have in the last 30 years, said Winter, head of quantitative research, Asia-Pacific, for UBS Investment Bank.
“We’re expecting volatility as the [US Federal Reserve] starts to tighten…in the second half of this year,” Winter said. “We are going into a world of structurally very low growth driven off the back of the Baby Boomers retiring, taking with them their labour capital and productivity…We’re into a world where growth in the economy and the markets is likely to be lower than the long-run average.”
Increased volatility across markets was in line with the structural inverse behavioural relationship between earnings growth rates and volatility, he said.
Referring to a long-term valuation measure, the Schiller PE ratio index, Winter said equity earnings, now at 31 times, would generate an expected real rate of return of 3.1 per cent a year for the next decade, which could go lower in a low-growth cycle.
This indicated a world of structurally higher volatility and low growth.
The flipside to this story was technological disruption, which would “change the game” but might not necessarily impact global economic growth, Winter said.
“I think there’s a tech revolution coming but technological change tends to displace workers, which doesn’t mean a big impact on growth,” he explained. “It’s made us far more productive but you displace workers.”
Active management was the insurance premium against volatility and investors with such exposure would see their portfolios perform better in the next 10 years than they have in the last 30, he said.
While passive investing had distorted market efficiencies, which had, in itself, presented a “nice alpha opportunity”, actively traded stock tended to outperform on conditions of value, quality and momentum, the key focus for quantitative managers, Winter said.
How best to harvest and integrate quantitative processes depended on assets and horizons, he said.
Humans had the advantage on long-term investment horizons, while machines and high-frequency traders had shorter views, the latter having little effect on prices beyond intraday trades.
Fertile markets for active managers included Asia-Pacific emerging markets, Europe, Latin America and Australia, which he said was the most interesting developed market, possibly, because of franking credits. Asia-Pacific emerging markets offered idiosyncratic exposures and represented a growth region for quantitative managers, Winter said.
Quantitative funds, with short-term horizons, were picking up clients in hedge funds and fundamental investors interested in idiosyncratic exposures.
“Sizeable funds, (such as Australia’s TCorp and the Future Fund) are also turning to quant to create a long-term factor exposure that mimics a broad portfolio in active managers at a low cost,” Winter said.
Winter spoke on “Macro and idiosyncratic exposures: the evolution of active management” at Conexus Financial’s 2018 Fiduciary Investors Symposium, held in the Blue Mountains in May.