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Why I'm buying as markets tumble, but staying 'safe'
Former fund manager Rob Kyprianou placed the bulk of his Sipp and ISA in cash last year, but is now buying back into markets.
by Rob Kyprianou on Jan 22, 2016 at 08:00
‘Global stocks are 80% overvalued’, ‘one-fifth of global wealth already gone’, ‘the crash of 2016’ – these and many more headlines scream out almost hourly as global equity markets experience their worst start to a year in living memory. The media is quick to sensationalise bad news and there is no shortage of doomsayers that can be quoted for effect.
It is indeed a bad start to the year, but should we fear an equity market collapse and global recession or is this a buying opportunity? There are many commentators ready to give their view who are worth reading – after 40 years in markets I humbly offer my perspective.
In those 40 years I have witnessed a number of equity market collapses. Two in the 70s alone, both due to massive oil price hike shocks. I still remember where I was as a young bond trader on Black Monday that followed Hurricane Friday in 1987. Ten years later the Asian Financial crash demonstrated the risks of over-indebtedness, while the bursting of the dotcom bubble in 2000 reminded us of man’s capacity to lose touch with reality and speculate on price rises for their own sake. And of course we are still dealing with the financial and economic consequences of the 2007-08 systemic banking collapse.
Roll forward to 2016. Oil prices are collapsing, not spiralling up out of control. Such sharp movements in oil prices have major distributive effects from oil producing economies and companies to oil consuming ones, but I have yet to hear that sharply lower oil prices are a cause of global recession in the way the hikes of the 70s plunged the global economy into a highly inflationary slump.
Stocks not in bubble territory
Similarly I see no evidence that global equity markets were in tech or tulip bubble territory. Yes, in some cases valuations were on the high side, but some markets were already correcting (emerging markets, high yield debt for example), while none of significance were screaming out ‘danger, danger’.
China is often blamed in the media and by a number of the doomsayers – but are there any serious investors who have not heard in the last few years about the slowing Chinese economy and its restructuring from export investment to consumer-led growth?
Finally, financial institutions have spent the last seven years de-risking, rebuilding balance sheets, strengthening capital bases and restoring profitability. They may be victims of a crash if there is one, but they do not have the capacity to cause one as in 2008.
So what are the market troubles about? In the second half of 2015 I raised the cash levels in my self-invested personal pension (Sipp) and individual savings account (ISA) portfolios to over 60%. This is of course a very high level of cash, in particular for a long term investor as I like to think of myself. What was worrying me?
US rate rise poses risks
There are no surprising insights here – yes some markets had had several good years and were looking fully valued, the US and Japan among them. Sentiment towards emerging markets was deteriorating and falling energy and commodity prices were not a constructive backdrop for a number of them, while the China slowdown was negatively hurting sentiment. I remain a bear of the whole euro project, but for me the key risk factor was the impending US Federal Reserve interest rate hike.
But it is only 0.25%, I hear you say. I am a survivor of the 1994 bond market crash – as a bond investor running hedge funds and long-only mandates, I arrogantly wrote off the February 1994 rate rise by the Fed as something well flagged and very modest, only to be burnt in the following months by the market fallout.
The significance of the pending Federal Reserve action was not that it was a hike or that it was only 0.25%, but that it was the first hike. As such it would signal the end of a cycle. The secular 10-year trend of lower rates and the unprecedented easy money policy in the world’s largest economy were over. This secular trend of never ending liquidity, which in my view was a key stimulus for equity markets, was not only coming to end but would be reversed. Markets, it seemed to me, had not fully discounted this.
I'm buying, but staying 'safe'
So what now? With 60% in cash I must admit it is somewhat easier for me. I do not believe that we are heading for a crash for reasons described above. But the speed of the reversal tells me that we are clearly in a sentiment-driven correction. These are difficult to analyse and it is equally hard to assess how far they may go and where they will stop. However, in such sentiment-driven rallies or declines I recall the words of a wise investment mentor of mine many years ago – remember, she said, when things feel great, they are not that good; but when things look terrible, they are not that bad.
With 60% in cash I am not selling. My next moves will be to buy unless there is new news. You never get the bottoms or tops, and when it is not clear how low sentiment might take markets, the best approach is to buy steadily and cautiously. I dipped my toes in earlier this week – only 2% but you have to start somewhere. I am looking at ‘safe’ markets and sectors first – this week it was the US and UK - to be followed by markets and sectors where sentiment is doing the most damage, for example South East Asia, general emerging markets and eventually even commodities and energy.
I am a long term investor with a relatively high risk tolerance. Those with a lower risk tolerance and shorter time horizons might want to participate in a different way, for example through absolute return funds that look to dampen volatility or multi-strategy funds that manage risk through diversification. Or they might just want to stay out and let sentiment have its head – even though this might mean getting back in at higher levels than today.
Rob Kyprianou is a former chief executive of AXA Framlington Investment Managers. He is chairman of the Polar Capital Global Financials Trust (PCFT ) and a non-executive of Pimco Europe.
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