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In what has so far been a very volatile year for the financial markets, many of my conversations with clients, peers, and allocators across our industry have touched on the role of active management. The passive returns of the US equity market have been at historic levels in recent years (through year-end 2021, the S&P 500 generated annualized returns of 26.1% for 3 years, 18.5% for 5 years, and 16.6% for 10 years versus an average of 9.95% since 1930).
Going forward, I believe that active management will be critical, with investors requiring a broader and more sophisticated set of tools to maneuver through more modest market returns, but also higher levels of volatility, changes in market structure, the explosion in investment data, and the global incorporation of sustainability. Or to put it another way, I think the investment “plane” will have to be switched from autopilot to active pilot, leveraging the best navigation tools available.
Macro trends are likely to drive up volatility, as markets feel the effects of:
There will likely be a greater focus on uncorrelated and risk-adjusted returns offered by investment strategies that can complement passive exposures. Hedged returns will likely be important for many investors as well, and, in fact, absolute return and macro strategies are already seeing rising demand. And with capital market expectations, including those of our own Investment Strategy group, signaling a downward adjustment in market returns in coming years, alpha will be more precious.
In the last 20 years, the number of companies in the US private equity universe has grown from less than 2,000 to more than 8,000, while the number of public companies has declined from just over 8,000 to roughly 4,000. Along with this explosive growth, the private equity market has been reshaped by changes in how private companies fund their growth, which has altered the path to the public market (e.g., companies are staying private longer).
These changes in market structure require investors to view the spectrum of public and private companies in new ways. And managers must have the resources to add value for clients, including the deep research needed to understand the entire universe (e.g., how disruptive private fintech companies will impact publicly listed regional banks and money center banks) and invest wisely across privates and publics to maximize returns. Amid these changes, institutional investors are looking to partner with active managers through co-investments in specific opportunities, as well as seeking to invest more capital in thematic idea “top-ups” that reflect key alpha themes in an underlying portfolio.
We believe asset managers will need to embed data science in every aspect of portfolio management to have an edge. This includes idea generation, portfolio construction, risk management, and investor development. Consider idea generation, for example: Almost 200 members of our investment teams are using alternative data dashboards (e.g., data on credit cards and job openings) to help anticipate company growth, hiring and retention trends, consumer patterns, product changes, etc. And natural language processing (NLP) and machine learning are being used to review large volumes of financial documents in areas such as securitized finance.
We believe that long-term sustainability themes, such as climate change mitigation and adaptation, for example, are impacting capital market flows. In addition, clients increasingly expect their asset managers to act as long-term fiduciaries by ensuring that capital markets and the companies being invested in are contributing to a sustainable future. Our approach has been to leverage our deep equity, credit, and ESG research and use constructive engagement with companies (over 17,500 meetings annually) on a variety of issues, from science-based climate targets to supply-chain reviews to board diversity. We also have research partnerships with Woodwell Climate Research Center and MIT (along with five asset owners) to help clients bridge the gap between climate science and finance.
The bottom line is that the bar for active management is only going higher. We believe success will require deep global research, a long-term horizon, and an ability to connect dots between fundamental, quant, macro, and technical insights; between private and public markets; and between all of the major asset classes. And research and portfolio management teams will need to be armed with the technology, tools, and science needed to navigate through what we expect will be more volatile skies as they seek to help clients reach their desired destination.
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Annual message from our CEO: Forward thinking
After a year of profound economic and market change, CEO Jean Hynes discusses the path forward, including the role of alternatives and sustainability, the firm's investments in talent, and the importance of stability and innovation.
Harnessing the power of engagement in stewardship investing
Equity Portfolio Manager Yolanda Courtines explores why company engagement is a key component of successful stewardship investing.
Have we reached the end of a tech era?
Thematic Strategist Trevor Noren explores how active management and a global lens could provide tech investors with essential edges moving forward.
Multi-Asset High Income Fund
Portfolio Manager Peter Wilke outlines how the Wellington Multi-Asset High Income Fund seeks to achieve consistent high income and minimise downside risk.
Pivot points: Five portfolio positioning ideas for the new market regime
Multi-Asset Strategist Adam Berger looks at five ways in which the world may be very different in the coming decade and how they could influence the next wave of investment winners.
The allocator’s landscape: Three areas of attention for 2023
Natasha Brook-Walters, Co-Head of Investment Strategy, discusses downside mitigation given the shifting equity/bond correlation, the impact of cyclical and macro volatility, and opportunities to position for long-term change.
Actively supporting the decarbonisation of utilities
Why actively supporting the decarbonisation of utilities offers the potential for better long-term outcomes from both a net-zero and value-creation perspective.
Equity allocation ideas after a year of factor extremes
Members of our Fundamental Factor Team discuss the role of defensive allocations as a complement to growth and value, the improved stock-picking environment, and the need for macro stress tests, among other topics.
Equity investing with a thematic lens: Three game changers for 2023
Head of Investment Research Mary Pryshlak and Equity Portfolio Manager Tim Manning highlight their strongest convictions across global equity markets heading into 2023.
Credit market outlook: Partly sunny with a chance of good value
In his 2023 credit market outlook, Fixed Income Portfolio Manager Rob Burn highlights some potentially attractive opportunities in the wake of this year's market sell-off.