William De Vijlder, chief investment officer of strategy and partners at BNP Paribas Investment Partners, opened his address on 3 November at the fourth annual CFA Institute European Investment Conference by focusing on the increasing uncertainty of the future of the eurozone. Indeed, what looked like an agreed deal between European leaders last week to stabilize the eurozone’s finances was plunged into turmoil following the Greek Prime Minister’s surprise announcement to hold a referendum on the bailout, a decision that has since been revoked. Against this unprecedented economic backdrop, De Vijlder tackled how asset managers can best allocate the money entrusted to them by their clients — and how they can best fulfill their fiduciary duty to these clients.
De Vijlider asserted that the good thing with bad news is that you knows it is bad — and therefore, as an asset manager or investor, you can act on it. The problem with uncertainty, however, is that by definition you do not know the outcome, and of course this leads to a loss of confidence in the accuracy of the information available and your capacity to predict the course of future events.
Still, De Vijlider did not shy away from making predictions. He argued that markets are likely to witness increased volatility; that investors will display more fearful investing behavior; that there will be increased demand for safe assets; and ultimately, that there is an increased likelihood of economic recession.
De Vijlider also emphasised the following elements for asset managers to consider in the current unpredictable economic climate:
- In times of uncertainty, diversification across asset classes seems like an appealing strategy, but diversification is not always the best solution, as correlation between asset classes typically jumps when market volatility increases.
- Uncertainty often results in increased workload for asset managers, which can lead to rises in costs and diminished returns.
- A “robust” asset allocation, which aims to find an optimal allocation of funds among different asset classes, should be used when the estimates of the structure of returns are unreliable and when uncertainty increases.
De Vijlider recommended that asset managers use such a robust portfolio as a benchmark and invest the bulk of assets in this portfolio when uncertainty increases — but advises that asset managers should rely more heavily on classical, “efficient” portfolios when volatility subsides in order to boost returns.
His ultimate view is that such a dynamic tactical asset allocation, which would also use various investing instruments with asymmetric payoffs, may be the best way to deal with the huge challenge posed by the uncertainty of today’s environment.