The managers of captive money in mutual funds have been busy repositioning themselves since the start of the year but they are now facing redemptions, meaning that they have to liquidate assets rather than just shuffle the deckchairs. Risk assets are struggling to catch a bid and hedge funds, sensing a trend, are happy to jump on the bandwagon.
Last year, just like 2007, the majority of institutions allocated capital to alternative managers, who were consequently the marginal buyer of equities. These managers are often short-term, weak holders, especially when volatility increases. Then, as now, they are net sellers into rallies and happy to add to their shorts on any weakness. Concurrently, traditional equity managers are struggling for new ideas, even into these equity declines.
On any objective assessment, the last five years has hardly been a bull run. Re-rating dividend-paying companies is hardly a bullish statement of intent on the prospects for the real economy and leaves the majority of those companies on very fancy market multiples. The zero interest rate policies of recent times have forced many wary holders of risk assets into products they don’t understand – many of who will take fright at the thought of capital losses. That is why, at this stage, it is irrelevant to ask what the correct valuation of equities is – as always, it will be the price that someone is willing to pay.
The recent price action in equities and high yield bonds has been precipitous and markets are deeply oversold. The fact that they have been struggling to catch a bid implies that there is more selling to come. For those who are fleet of foot, we are due a bounce from deeply oversold levels and there is possibly money to be made (indeed, this is already happening in a classic, sawtooth, bear market pattern). However we expect more sellers to emerge post that run. Panic selling is yet to emerge and panic it will be…
Reasons to be cheerful
On a note of optimism, this cleansing process is something to relish. Playing the “guess what is coming out of central bankers’ mouths next” game and being forced to find funds that only invest in soup tins and ice cream is not exactly the excitement I was seeking in my investment career.
The pain this year is highly likely to mark the end of the bear market which has persisted at a headline level for 16 years. The emerging markets are experiencing a cyclical downturn which will end…. technology is, and remains an exciting area of innovation which will offer great opportunities for active stockpickers….the greying population needs someone to manage their money. These are all exciting areas for the future but for now, the asset bubble in all things linked to zero interest rates and QE must reprice. It will be painful, but a great opportunity.
Good fortune and remember to keep something back for the last waltz…
