Head of Dynamic Markets
“I’m seeing a lot of inefficiencies at the macro level as a result of the emerging use of ETFs globally by retail and institutional investors.”
The exchange traded fund market has come a long way in recent years and, thanks to its evolution, has provided investors with new ways to enter markets in a style previously only at the disposal of global financial institutions.
The way I look at investing using ETFs is a bit like a builder or an architect might look at building or designing a house: as the technology and as the materials have improved, you get really excited about the possibility to create something new and innovative that meets clients’ goals that’s an improvement on before.
What’s happening in the multi-asset space now, in my view, is ETFs are giving us the ability to create multi exposure portfolios which are more consistent with peoples’ goals than they might have been previously able to achieve.
In the past, it was a lot harder to invest the way we invest now. Previously, getting exposure to sectors or themes globally meant going to sector specialist funds managers, or perhaps getting allocations to certain markets via futures contracts. This process has become a lot easier with the rise and evolution of ETFs.
Typically, the way we use ETFs, we’ll have core and what we call ‘thematic’ positions in place via ETFs, which might last for around two years. Around these core positions we’ll take shorter timeframe positions to manage volatility using ETFs also.
We want our portfolio to be diversified so we won’t have a particular exposure making up a significant portion of portfolio risk. We have a certain risk budget and we aim to allocate that risk budget across opportunities to diversify the risk of the portfolio.
I think right now is a really great time to be a multi-asset investor in global macro themes, not only because the execution is easier, but also because I believe there are more opportunities to find inefficiencies and returns than ever before using this approach based on the fact that more and more people are starting to do it.
What do I mean by this? Well, in the past, people would look for mispricing at the stock level only. Allocating to themes and sectors via ETFs and creating multiple exposure portfolios is a relatively new approach by comparison and its only just starting to come into the mainstream now. You see a lot of stock analysts, but very few investment banks with teams analysing big themes with sectors, multi-thematic macro investment opportunities.
I’m seeing a lot of inefficiencies at the macro level as a result of the emerging use of ETFs globally by retail and institutional investors. There’s also a lot of herd behaviour. As more and more ETFs come through, more and more people come into the market with their different views, and I think this is creating a lot of inefficiencies within global sectors.
At the same time, along-side the inefficiencies created by new investors entering the market, there are a lot of macro-economic themes playing into the approach ETF investors are taking, particularly in relation to central bank influence on markets.
We have been very much in an economic environment we’d call a ‘beta’ market, where all of the major indices rise together. That is, when the liquidity tide lifts all the boats at the same time. Abundant liquidity was a direct result of , central bank policy and low interest rates coupled with slow economic activity. This cycle has been quite prolonged and has been a key theme post GFC.
In recent months things have changed. It’s not a straight line beta market any more. What I’m seeing is sentiment driven markets and herd behaviour creating a lot of opportunities at a top down level which, using multi-asset portfolios you can exploit.
I think there are even more possibilities to find inefficiencies because 10 years of a beta market has pushed a lot of the stocks with the heaviest weighting in the index up to high valuations. At the same time, I believe there’s a massive risk I’d describe as a rotation risk in the market at the moment. So being able to pick those and expose those opportunities in the next phase is very important.
A good way to play the opportunities in this market is to use ETFs to invest in sectors globally that have been out of favour in recent years and are well placed in the prevailing environment. Sectors that have more upside to economic growth, as opposed to sectors rerating because of strong liquidity. Financials do benefit when rates are going up, insurance, energy as well as areas leveraged to economic activity such as transportation and shipping.
At the end of the day our focus continues to be on buying and selling well, managing volatility and portfolio construction and I think you need to get all that right to achieve the right outcome, especially when certain markets are hyped and expensive as I believe they are now. ETFs give you an easy way not just to allocate but to get in and get out quickly as well the opportunity to build portfolios holistically.
While I think investors’ use of ETFs will continue to grow and evolve, I also think there will be some risk along the way, mostly because it’s been such a smooth ride for so long. Just as there will be opportunities, the rotation risk I mentioned earlier will lead to some blow ups, especially where there are leveraged and crowded trades, so it’s important investors tread carefully.
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