Our portfolios provided reasonably good returns over the month in what was generally a weak month for markets, with the shorter duration portfolios being the exception with modest negative returns. All our longer duration and more diversified portfolios provided positive returns as we benefited from our diversification.
In recent months, inflationary concerns have risen, with supply chain issues persisting and wages pressures growing. Central bank policy now poses the major risk to markets should the FED be forced to react to inflationary risks as it appears to be “behind the curve”.
We remain concerned about the medium-term market and economic prospects, including the risk of stagflation, inflationary pressures persistently, deflation without further stimulus, geopolitical risks, ongoing challenges to real growth and sustainable profitability, and highly elevated market valuations, and are hence participating selectively in risk assets. The greatest medium-term challenge for all portfolios is achieving returns without suffering unduly in future market crises as the reality of our challenging economic circumstances becomes an issue again.
We are seeking to mitigate risks such as these and inflationary pressures in part by avoiding the worst of the market exuberance and with meaningful alternatives and selective commodities and resources allocations. We continue to see the need to have lower market risk, greater diversification and strong active management to produce acceptable risk/return trade-offs.
Our portfolios are designed to be diversified, but focus on investing where return prospects are assessed as capable of meeting the return objectives of the funds over their respective time horizons. This diversification provides useful mitigation against risk over the appropriate time period consistent with each portfolio’s objective, while our active assessment of risk and return can target capital to where it appears most prospectively and appropriately placed. In this way, we are much more forward-looking than a historical SAA approach which tends to be much more biased to what has happened (for example, by relying more upon past correlations and volatility - which may be markedly different from the future). We consider future scenarios actively, and if there is a major regime shift - such as towards inflationary positioning rather than disinflation - our approach and portfolio should be much more effective than the average. That said, the market outlook remains challenging for everyone currently, no matter what the approach.
Our Cash Plus portfolio is very defensively positioned, while our Short Term portfolio is relatively defensive, with both designed to be less volatile over shorter-term time periods than our longer duration portfolios.
Our more medium and longer-term orientated portfolios target returns and manage risk with longer-term time periods in mind.
Overall, we consider that extraordinary monetary and fiscal stimuli have been implemented by central banks and governments, creating distortions through market interference. The sheer size and extent of their actions are providing meaningful impacts on market returns and, in many cases, causing substantive dislocations from underlying company and economic fundamentals.
Over time, we expect these policies to be very supportive for certain portfolio positions and require dynamic management of others. For example, and in particular, we hold meaningful weightings to ‘hard assets’ in different guises, and continue to expect these to provide valuable return and risk contributions over time, even if they are occasionally volatile. We believe large and unsustainable debt burdens, poor government policies, and market interference continue to strangle real productivity growth for much of the economy, albeit nominal growth has markedly improved.
This potentially bodes relatively poorly for traditional risk assets and index investing, upon which most traditional investment strategies and super funds are heavily dependent. We think good active managers will better be able to differentiate themselves and add value over the next few years, in part by being more nimble and able to differentiate between assets based upon their prospects in different economic circumstances and very disparate valuations.
We continue to be concerned about asset prices. We believe growth outcomes, geopolitical tensions and other risks and shocks pose further (unanticipated) risk to markets, potentially just as coronavirus has continued to surprise. We hence think investors are best served by thinking outside the box in order to better protect and grow their capital, including potentially greater use of liquid value-adding alternatives (selectively chosen), discounted listed investment companies (selectively chosen and now more difficult to identify), along with precious metals exposures and greater weightings to real assets.
We aim to remain astute and flexible, and highly risk-aware, and are invested in liquid assets whose weightings we can adjust over time to respond to an ever-changing and potentially highly challenging investment climate.