Industry Insight by Jonathan Armitage

By Jonathan Armitage, chief investment officer, MLC

This content is produced by The Australian Financial Review in commercial partnership with MLC.


With the US health and human services secretary Alex Azar recently warning the window to halt the spread of coronavirus was closing, and the worldwide death toll now topping 500,000, there are growing concerns that hopes for a strong economic recovery may be unfounded.

The healthy rebound in markets from their late-March lows suggests some investors aren’t realistically factoring in economic fundamentals, which explains the volatility we’re experiencing right now. Part of the reason for this volatility is the lack of long-term thinking around the unprecedented intervention from the world’s central banks and governments.

Investors are reassured by the short-term impact of how stimulus is cushioning the blow across large parts of the economy, without factoring in what happens when central banks and governments reduce or end their support.

Nor are they seriously discussing how central banks are going to reverse the extraordinary balance sheet growth we’re seeing. For example, the US Federal Reserve’s balance sheet is now well over $US7.5 trillion which eclipses the levels reached during the 2008/09 financial crisis.

Yet making a call on winding down the wave of stimulus, which some governments may be contemplating, will be informed by a range of factors including rising levels of public debt balanced against the potential impact of a second wave. It’s a very delicate policy dance and it’s one markets are trying to grapple with in a very fluid environment.

Put bluntly, the current volatility is very different from what any professional investor has ever experienced because most other market crises were driven by pressures within the financial system. The current situation was caused by a very significant external shock and the decision by governments to shut down large sections of their economies.

Another factor causing unease is the global protectionist trend that’s been bubbling along for a number of years. The OECD has repeatedly warned of rising trade tensions, where countries are increasing tariffs and restrictions on others, such as the current dispute between the US and China.

Geopolitical shocks haven’t greatly affected world markets in the past but this pandemic has amplified some of these trade tensions. This could throw sand into the machinery of commerce, as we’re already seeing with global supply chains, and further impede recovery.

The combination of these factors means the outlook appears unusually cloudy for investors at the moment. At MLC, we expect returns will be lower than they have been in the past seven or eight years. Bearing this in mind, it’s important to find the right assets for this environment. We’ll be looking more closely at alternative investments, unlisted assets, fixed income markets and even private debt.

MLC has been shoring up its protection strategies during the past 12 months because valuations in the equity markets, and to a lesser extent fixed income markets, were starting to look a little rich. We had these protections in place around parts of the portfolio when markets fell quite dramatically in March and April, which meant we were able to add to our positions in equities where we saw value.

There's currently a wide range of possible outcomes so asset selection is going to be more important than it has been in the past 10 years. It means looking for assets that are going to provide a more consistent income over a range of different economic scenarios.

Investors need to look more closely at risk to strike the right balance between seeking the best returns and doing it in a properly constructed risk framework. This mean examining elements such as liquidity more closely rather than just focusing on growth.

Nobody can reliably predict the future, so the best investment strategies must always consider a range of possible outcomes. Constructing a portfolio to handle these different scenarios will stand investors in good stead, whatever the months and years ahead bring.