Investing in the new world: Finding returns in #TheZero

From

Chris Durack

Investors won’t be able to rely on investment strategies that have worked to generate their income and returns over the past decade. With traditional fixed income investments now yielding close to zero, investors are forced to move further along the risk curve to generate returns, which in turn has become very challenging for their risk appetites.

On day two of Schroders’ flagship investment conference for clients in the Asia Pacific region, Chris Durack, Co-Head Asia Pacific, Schroders, led a panel of investment professionals that discussed what portfolio construction might look like going forward and the different levers investors can pull in #TheZero environment, including investing in private markets, looking deeper into fast growing and changing sectors such as energy transition and healthcare innovation, and looking at opportunities in emerging markets such as China.

With the traditional 60/40 investment portfolio strategy now creating more questions than answers, how can investors structure portfolios to achieve a balance between growth and safety in the current environment?

Simon Doyle, Head of Fixed Income & Multi-Asset Australia, Schroders, commented: “What we are seeing now is a significant degree of innovation in the way multi-asset portfolios are constructed, which includes adding a broader range of assets such as private assets and looking broader and deeper into credit markets.

“For instance, fixed income as an asset class is incredibly broad, from sovereign bonds through to credit, investment grade credit through to lower quality companies, through into private markets, through into different forms of commercial lending. Investors should utilise that breadth and go deeper to find pockets of value. None of these by themselves is the solution but looking at a number of them as part of a solution for portfolios can be quite powerful in generating returns and income.”

Julie Koo, Managing Director, Head of Citi Investment Management Sales, Asia Pacific, commented: “We came into the start of this year really advising our clients to think about the challenges in traditional fixed income markets and encouraging them to think about other sources of income including equity dividends and alternatives. China is one area to think about. The country is a US$15 trillion bond market and second largest in the world, and it accounts for 50% of bonds globally that are yielding more than 2.5%. With the opening of the Bond Connect programme and the inclusion of China bonds into some of the global indices in recent years, we have seen more international investors finding their way to that market. In 2020, we saw about US$200 billion flow into China’s bond market, and we expect this to continue to grow. China’s bond market is definitely too big to ignore.”

Mike Nikou, Global Partner, Antler, commented: “We’re seeing investors allocating a larger portion of their portfolio to non-traditional asset classes, and I think that will continue in the foreseeable future. For example, about five years ago, US$30 billion worth of assets was flowing into venture capital funds, and that has almost tripled in the last three to four years. This is a strong indication that investors are not only talking about private assets, but they are executing on that strategy.

“What is important with private assets is that investors can access some of the most innovative technology companies that are being built today at good valuation, and that is because companies are staying private for much longer. What is interesting is that 20 years ago, there were 7,000 listed companies in the US and that number now is less than 4,500. That’s almost a 40% reduction of listed companies. So if investors want to get access to a certain sector or a certain type of company, they will most likely need to allocate to private assets.”

“However, I do think it is important for investors to conduct due diligence and screening before taking a decision on private assets, because, for instance, the dispersion of returns between the first quartile and fourth quartile can be huge. Selecting the right fund managers to manage this part of the asset class can help investors achieve the illiquidity premium on private market investments.”

Simon Doyle added: “There are opportunities in private markets from both a growth perspective and an income perspective. One of the key questions to ask is what is your tolerance for illiquidity, and the other is what do you want that exposure in private markets to do – is it to generate returns or is if for income? There is a cost to every benefit that you get through these markets, but clearly, part of a well-diversified portfolio is a well thought through exposure to private markets.”

Julie Koo said: “The return potential from private markets is out there, but finding that potential can be tricky for individual investors. The principle of getting the full benefit of private markets is really making that allocation and staying invested. That is why we spend a lot of time guiding our clients through this process, helping them build access to private markets to achieve the returns they are looking for.”

Looking at investment opportunities in the years to come, all panellists agreed that thematics are a core investment focus.

Julie Koo commented: “We see several key themes offering growth opportunities for investors. One is around digitisation, and we’re getting more fine-tuned about it and thinking through what is going to drive the next leg of growth for technology, which we believe is data. With the roll out of 5G, there will be even more data out there that needs to be housed and stored. Another theme is energy transition, and we expect more private companies will be looking at ways that they can transform their own businesses to contribute to government’s net zero targets.”

Simon Doyle added: “A key area to look at is the wider industry sectors that will benefit from disruptive trends or technologies, rather than the companies that are causing them. For example, in the 1800 gold rush in Australia, more money was made from selling shovels and picks rather than the actual digging for gold. However, investors need to be mindful that a lot of the growth sectors already have optimistic future growth priced in, and many of these companies will need to grow into their valuations.”

Mike Nikou added: “That is why we believe now is a good time for investors to allocate portions of their portfolio to venture capital. Some of today’s tech startups could be global giants of tomorrow. By investing in venture funds, investors can get access to private companies that are in early growth stage where valuations are low, as well as access to some of the pre-IPO growth stories. From a portfolio construction perspective, venture capital is a good diversifier as it has a relatively low correlation to public markets.”

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