In his latest market comment, Didier Saint-Georges (pictured), managing director and member of the investment committee at Carmignac, focused on risk management.
He said the recent market correction following the Brexit referendum pretty much illustrated the danger in binary wagers, especially when no value is added.
“With the risk of Brexit all but ruled out in the last opinion polls to be published, many investors gorged themselves on an apparently safe bet.
“In doing so, they broke two basic rules of risk management in one fell swoop: 1) always keep a free mind and have the courage to go against the flow, especially when it is one-way; 2) keep from highly asymmetric risks,” Saint-Georges commented.
Risk management also involves risk taking, assessed Carmignac’s investment committee member.
“This often means being too early, or making mistakes sometimes. More than a question of technical expertise, risk management is a matter of judgment and character,” he added.
Saint-Georges emphasised that the outcome of the Brexit referendum proved weaker global growth was already the main risk to the markets.
He believes the UK vote would not have been such a big deal if the global economy was not so fragile.
He recalled the markets’ regime shift that has been observed last year and said three “shocks” have occurred since then : the renminbi’s devaluation in August 2015, the oil price slump in January 2016, and now the Brexit vote.
Each one posing a new threat to global growth and fuelling market instability, Saint-Georges said.
He expressed his concerns regarding the lack of economic growth starting to impact politics worldwide, thus favouring populist and protectionist postures such as that of Donald Trump.
“A gloomy economic outlook in the European Union was a major factor in David Cameron’s inability to convince a majority of UK voters to put their fate in EU hands. Similar causes having similar effects, the lack of economic success in Europe could lead to further discontent. Protest votes will become more commonplace at forthcoming elections if Europe cannot rediscover the path to growth, and will summon the spirit of disintegration.”
“If it wants to avoid the dangers of increasing reflexivity between political tension and slower growth, Europe – Germany in particular – will have to get to grips with the risks inherent in maintaining the economic orthodoxy,” Saint-Georges argued.
What is next then for the markets? Saint-Georges assessed that time might soon come for the recognition of the economic ineffectiveness of quantitative easing and expectations of fiscal stimulus policies “hitherto considered “impossible” given the state of public finances”.
He also foresees it is likely that central bankers will confirm or even step up their short-term support.
Saint-Georges said market instability backed Carmignac’s decision to manage exposure levels very actively to cover transitional markets’ moves.
“Heightened risks of a global economic slowdown are encouraging us to leave the general composition of our portfolios unchanged.
“Their regional diversification and balance between high visibility stocks, European bank bonds, gold stocks, safe haven currencies and US Treasuries, which fully served their purpose when the markets slumped on 24 June, are likely be broadly maintained,” he argued.
Taking risks in order to deliver consistent long-term performance in the current fixed income environment will imply for fund managers to be daring and endeavouring to be right more often than wrong.
“Though it may seem obvious, this long-term objective is by no means trivial: independent analyses show that the best long-term fund managers make the right decisions around 60% of the time. But not all errors are created equal; for example, the five worst months for the S&P 500 index in the last 20 years wiped out 50% of its performance (which drops from +560% to +236%).
“Management without boldness does not perform, while management without discipline is reckless. Risk management means paying careful attention to asymmetric risks and being constantly aware of one’s responsibility to justify clients’ trust. Freedom of thought makes this possible.”