Atul Lele (left), Amanda White, Leanne Taylor and Alicia Gregory

Holding steadfast to a traditional strategic asset allocation could prove “dangerous” in the coming years, experts say, as investors search for new ways to build resilient portfolios amidst the coalescence of war, deglobalisation, inflation and rising interest rates.

Speaking in a panel discussion at the Investment Magazine Fiduciary Investors Symposium held at Healesville last month, Atul Lele, portfolio strategist at Bridgewater Associates, said huge secular pressures on multiple fronts have created a new investment paradigm.

The last decade has been “the best decade of performance ever” for traditional institutional portfolios, supported by a confluence of tailwinds creating a “pro-corporate, pro-liquidity disinflationary environment, one that is unlikely to last,” Lele said.

The fusion of monetary and fiscal policy has seen a swing from reflation to stagflation, which is “something that we haven’t seen for the better part of 40 to 50 years,” he said.

Move to regionalisation

Policy coordination across the globe has shifted to policy divergence, and globalisation has shifted to regionalisation, he said.

In past decades, outsourcing shared the benefits of globalisation in the form of low goods inflation, which has contributed to “a disinflationary-type environment for the better part of the last 40 years” but this has now changed, Lele said.

“Of course technology remains a disinflationary driver, but there’s even questions around the degree to which it will remain disinflationary when we’re seeing a world that’s becoming increasingly regionalised and export controls are being put up on the IP behind technology,” Lele said.

Portfolios built to benefit from this paradigm will suffer in an inflationary environment or an environment of weaker growth, he said, and also face a much worse ratio of return to risk.

Market participants will also not be able to rely on the negative correlation between equities and bonds, he said. “From a strategic perspective, diversification has never been more important but never been more difficult to achieve.”

Build resilient portfolios

With climate transition risk compounding the factors Lele outlined, Leanne Taylor, head of portfolio strategy and asset allocation at Victorian Funds Management Corporation (VFMC), said it is critical to build resilience in portfolios to account for a wider distribution of potential outcomes.

Inflation ballast is important, and VFMC has a “reasonable allocation to unlisted and real assets in the portfolio”, but there is a limit these can be utilised due to liquidity management and the fund’s liquidity needs.

So is stress testing for different alternative environments, and “not just inflation resilience, but that’s also resilience to other shocks that we may see whether it’s a real rate shock or a supply side shock”, she said.

Also on the panel was Alicia Gregory, deputy chief investment officer, private markets at the Future Fund. Gregory described how, about a year ago, the Future Fund took a high conviction position on inflation being a longer-term investment theme.

Some examples of measures to protect the portfolio against inflation involved taking a stake in Telstra’s mobile tower business, in part due to the telco’s inflation-linked contracts over long periods of time and seeking out “the number ones in everything you went for”.

“That dispersion between the number one and the number two, three or four in any industry… wasn’t that wide,” Gregory said. “We do think number one in an industry will have some protection in an inflationary environment [but] it depends on the structure of the industry.”

Investors can build a strong portfolio if it were possible to know inflation would run at three to four per cent for a few years, but the challenge will come with volatility in inflation numbers, she said.

“What do you do with that dynamic asset allocation becomes really, really important,” Gregory said. “Just having a strategic asset allocation, sticking to that and running a portfolio within asset classes could be pretty dangerous, we think, in this type of environment.”


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