Drawdown control in risk -managed equity strategies
1. Equity markets experienced some turbulence at the start of the February, breaking a period of calm for investors.
2. We have been concerned with the excessively low levels of risk priced by the market and these were at odds with the potential headwinds we had identified.
3. Given our more defensive and risk managed approach to equity investment management, we were able to provide our investors with a level of outperformance.
Perspectives paper written by Maria Musiela, Investment specialist, Equities, and Alexandre Marquis, Head of Investment Specialists, Equities
What happens when the music stops?
Following the better-than-expected US employment report last week and the consequent jump in expected inflation, equity markets experienced some turbulence, breaking an extended period of calm for investors. The chart below illustrates the surge in the US and European equity market volatility.
Source: Bloomberg, as at 31st December 2018
For a while now, we have been concerned with the excessively low levels of risk priced by the market. These low levels were at odds with the potential headwinds for equity markets we had identified and had been controlling for within our portfolios, namely:
- The risk of an inflationary surprise, spurred on by higher wage pressures in tight labour markets of the developed economies, especially in the US, but not limited to.
- Tightening of monetary policy across central banks, with the European Central Bank (ECB) and Bank of Japan (BoJ) both now signalling towards tapering.
- Excessive equity market valuations, particularly exacerbated within the US market
- A significant debt problem still hanging over China
The recent market correction has taken some of the steam out, however there is still more room to go in our opinion. Valuations have not corrected sufficiently, and interest rate risk may put further pressure on equities in the months ahead.
Given our more defensive and risk managed approach to equity investment management, we were able to provide our investors with a level of outperformance, protecting on the downside during this period of market stress, even though the lack of dispersion between sectors limited the opportunities where to hide.
The following chart illustrates the performance of our flagship strategies during the downturn period:
Past performance is no guide to the future, the value of investments can fall as well as rise, there is no guarantee that your initial investment will be returned.
Source: Unigestion, Bloomberg. Performance net of fees in base currency of the Uni-Global (UG) portfolios across different regions. Indices used: UG World – MSCI ACWI Net Total Return USD Index, UG US – MSCI USA Net Total Return USD Index, UG Europe – Stoxx Europe 600, UG Japan – MSCI Japan Net Total Return Local Index and UG Emerging Markets – MSCI Emerging Net Total Return USD Index. Depending on the region, downturn starts on January 23rd or 26th, and ends between February 8th and 9th.
The chart below shows the strong correlation between sectors in the US, and the greater level of dispersion in Emerging Markets relative to the US, illustrating why it was hard to protect more on the downside within the US portfolio.
Source: Bloomberg. Calculated performance between 26.01.2018 to 08.02.2018 in USD, net of fees. Past performance is no guide to the future, the value of investments can fall as well as rise, there is no guarantee that your initial investment will be returned.
The dispersion is even more pronounced within Emerging Markets if you consider country level returns, providing further diversification opportunities.
Going forward, if the market downturn continues, we expect much more dispersion which should help the behaviour of the portfolio, and may allow us to deliver solid downside protection across the full range of our strategies.
Past performance is no guide to the future, the value of investments can fall as well as rise, there is no guarantee that your initial investment will be returned. This document has been prepared for your information only and must not be distributed, published, reproduced or disclosed by recipients to any other person. This is a promotional statement of our investment philosophy and services only in relation to the subject matter of this presentation. It constitutes neither investment advice nor recommendation. This document represents no offer, solicitation or suggestion of suitability to subscribe in the investment vehicles it refers to. Please contact you professional adviser/consultant before making an investment decision. Where possible we aim to disclose the material risks pertinent to this document, and as such these should be noted on the individual document pages. A complete list of all the applicable risks can be found in the Fund prospectus. Some of the investment strategies described or alluded to herein may be construed as high risk and not readily realisable investments, which may experience substantial and sudden losses including total loss of investment. These are not suitable for all types of investors.. To the extent that this report contains statements about the future, such statements are forward-looking and subject to a number of risks and uncertainties, including, but not limited to, the impact of competitive products, market acceptance risks and other risks. As such, forward looking statements should not be relied upon for future returns. Data and graphical information herein are for information only and may have been derived from third party sources. Unigestion takes reasonable steps to verify, but does not guarantee, the accuracy and completeness of this information. As a result, no representation or warranty, expressed or implied, is or will be made by Unigestion in this respect and no responsibility or liability is or will be accepted. All information provided here is subject to change without notice. It should only be considered current as of the date of publication without regard to the date on which you may access the information. Rates of exchange may cause the value of investments to go up or down. An investment with Unigestion, like all investments, contains risks, including total loss for the investor.