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For much of the seven years following the financial crisis, risk-adjusted returns across asset classes were exceptionally high in a long-term historical context. Accommodative monetary policies provided a permanent tailwind. However, the lowerfor-longer environment created global uncertainty, which we expect to sporadically, rather than permanently, cause higher market volatility going forward.
In general, we question the effectiveness of central bank action, as we also foresee a reduction in the potency of experimental monetary policy measures. Monetary policy is overburdened on a global scale. It is only a question of time until an off-loading is no longer just hypothetical but finally becomes a reality, meaning fiscal policy will then come to the fore.
We think this new phase – coupled with political uncertainties around the Trump administration in the US and the forthcoming elections in some key European countries, together with the many unresolved geopolitical conflicts, including the global migration crisis – will be characterized by sudden manifestations of tail risk and eruptions of higher volatility.
Rather than gradual shifts, we expect sporadic market disruptions due to fractures in the way central banks will respond and adapt to any upcoming challenges. Against this backdrop, after a protracted period during which beta (the market) has dominated returns, we see a shift towards portfolio manager skills (alpha) playing a much greater role in generating returns.
Investors who share our view should
- choose a defensive investment strategy reducing the exposure to possible market downturns (beta well below 1)
- redefine their optimal balance between alpha (portfolio manager skills) and beta (market) exposure.
Unconstrained and opportunistic active strategies managed by skilled specialists in their field can prove effective in navigating this evolving environment.