16th July 2021
Decorated New York Yankee baseball player and part time sage, Yogi Berra, is supposed to have said “It’s tough to make predictions, especially about the future”. Judging by the number of recent bike rides I’ve been on where my weather app says wall to wall sun, but the actual result is sheet rain, I’m inclined to agree with him.
For many top-down investment processes, forecasting forms a central role, with analysts and strategists poring over economic data and the macro runes in making capital allocation decisions. However, consistently and accurately forecasting macro variables like inflation, GDP growth and central bank policy has always been difficult. This has become harder still in the post pandemic world given the unprecedented nature of the policy response and the volatility of the economic data. The Yogi quote above is apposite in this sense, but also because macro factors seem to be an increasingly dominant driver of financial markets right now.
Too many column inches and too much airspace have already been consumed by the ‘is inflation transitory or not?’ debate and it is certainly not our intention to offer any pearls of wisdom in this regard here. Frankly, no one knows. Yet this doesn’t stop professional investors allocating on the basis of one view eventually proving to be correct. Inflation prints and utterances from the Federal Reserve (Fed) and other central banks are interrogated to the ‘nth’ degree with the latest incremental instalment driving significant change in the shape of the yield curve, equity market leadership, credit spreads and the price of gold amongst other things, regardless of starting valuations or underlying fundamentals.
What is even more interesting is the notion that even if it were possible to accurately predict the macro data or Fed reaction function, having that information would not necessarily help you make the right investment decisions. Higher inflation and a more hawkish central bank (as per the latest CPI data and FOMC minutes) for example, used to be bad for bonds, yet this has not been the case in recent months. Indeed government bond yields have fallen, curves have flattened and growth stocks have outperformed despite data and policy updates coming through that under normal investing rules should see the opposite occur.
So what to do in this environment? We have never been in possession of a crystal ball and have never managed the Funds based on what we think might happen to hard-to-predict economic variables in the future. Instead we adopt a bottom up process that looks to own assets that possess a margin of safety, typically via valuation support, which helps limit downside should a less benign environment for that particular investment happen to play out.
We also build highly diversified portfolios and ensure that the Funds are not pointing in one direction, or are too reliant on any particular scenario playing out. We will not bet the farm on inflation being transitory, or inflation being more sustained. As fund managers, we don’t live in an isolated dark room and, of course, are cognisant of macro and policy developments. But we decide to use these inputs from a risk management perspective, rather than as a key driver of what we own and what we do not.
On the hot topic of the moment, we think the Funds should be fairly well insulated should inflation continue to surprise on the upside. We have plenty of exposure to real assets like property, gold and infrastructure which tend to do well in inflationary environments as well as lots of investments where the underlying cash flows benefit explicitly from indexation. Similarly we have low exposure to longer duration fixed income and equities. It’s imperative to state here that all of our investments are judged on their own merits and the probability that they can contribute to delivering positive real returns for our clients. The fact that many of them should do well in a more inflationary scenario is a ‘nice to have’ in a world in which the volatility of likely outcomes has increased. Similarly, our Funds are also full of lovely idiosyncratic, non-cyclical investments in things like song royalties, battery storage, nursing homes and digital infrastructure (to name but a few), where the waxing and waning of economic data and Fed pronouncements is unlikely to have much impact on expected returns.
Absent to us finding a crystal ball that works, we have always felt this is the most sensible way of investing client capital, and believe this is especially the case now.
Ben Mackie – Fund Manager
This financial promotion is issued by Hawksmoor Fund Managers which is a trading name of Hawksmoor Investment Management (“Hawksmoor”). Hawksmoor is authorised and regulated by the Financial Conduct Authority. Hawksmoor’s registered office is 2nd Floor Stratus House, Emperor Way, Exeter Business Park, Exeter, Devon EX1 3QS. Company Number: 6307442. This document does not constitute an offer or invitation to any person, nor should its content be interpreted as investment or tax advice for which you should consult your financial adviser and/or accountant. The information and opinions it contains have been compiled or arrived at from sources believed to be reliable at the time and are given in good faith, but no representation is made as to their accuracy, completeness or correctness. Any opinion expressed in this document, whether in general or both on the performance of individual securities and in a wider economic context, represents the views of Hawksmoor at the time of preparation and may be subject to change. Past performance is not a guide to future performance. The value of an investment and any income from it can fall as well as rise as a result of market and currency fluctuations. You may not get back the amount you originally invested. HA4448.