Mario Draghi announced a headline rate cut to 0.05% and an asset purchase programme, but the programme did not overly impress many economists, who were hoping for a much bigger attempt to stave off the threat of deflation, while the latest set of job numbers from the US, came in significantly worse than expected and have further muddied what were already rather murky global financial waters.
A number of commentators have passed the US data off as a fluke, but while the conviction remains that rates will rise in the US, it does allow Fed chair, Janet Yellen a little bit more wiggle room when it comes to deciding exactly when to start raising interest rates once the tapering of its quantitative easing programme comes to an end.
The other thing it does is further underline the difficulties facing wealth managers who are trying to provide clients with a yield within a risk framework in which they are comfortable.
There has been a lot said recently about the growing need to provide end clients with products that provide a clear, specific outcome, most recently by River & Mercantile CEO, Michael Faulkner, who said at the group’s results: “Outperforming a global equity market index by 5% may not be helpful if that market has fallen 20%. Clients have now realised that their outcomes may not be met by these products.
They are now spending more time understanding and defining the financial outcomes they require, and then requiring investment houses to deliver on them.”
But, while there is no doubt that clients are becoming increasingly aware of what they want to achieve, in the current environment it might prove a great deal harder to do than it was previously.
Richard Stammers, investment strategist at European Wealth, says managers need to have an increasingly frank discussion with clients about what risk actually means. Stammers says the Financial Conduct Authority’s guidelines on a client’s capacity for loss are the right way to be approaching things in an environment where one is effectively facing the tail end of an equity bull market and a poor outlook for fixed income.
“In their reach for yield, many clients are being pushed up the risk spectrum and can’t really afford it. It is absolutely vital, that clients have a good answer to the question why am I investing? And, that they know how much of their capital they can afford to lose.”
Andrew Wilson, head of investments at Towry, says the firm’s process is built around creating risk-targeted portfolios that ensure that clients take no more risk than they absolutely have to, to get from point A in their financial plan, to point B.
“One would expect a more cautious profile to be more heavily invested in bonds, but with bond prices reaching record levels, and potentially being much more vulnerable on the downside, one starts to think how much more risky are my cautious funds?” he says.
Adding: “The key question low risk investors will have to grapple with going forward is: what is most important, a low variability of return, or generating a real return above inflation? Clients have got to decide, are they going to take more risk to generate a return, or can they not afford to take on any more risk?”
Stammers agrees, adding: “If you can’t afford to lose much of your capital, there is a clear argument and an increasing argument to move to a less risky asset class and that is looking more and more like cash and, at best, a cash-plus vehicle at the moment” he adds.
Dan Kemp co-head of investment consulting and portfolio management for Morningstar Investment Management EMEA, agrees that with many assets at or near historically high levels, ones expected returns are likely to be lower
But, he adds, the problem with looking at things from a purely risk-targeted basis is that most risk rating tools use volatility as the measure, and volatility has almost no predictive power when it comes to the loss of capital.
“There is a tragic overuse of volatility in risk assessment and that creates a fundamental risk for the portfolio management sector,” he adds.
The key, he says, is to look at the value at which you are buying assets.“The more you pay for an asset, the less your return will be and the greater the drawdown that is likely,” he points out.
There are no clear answers to be had, but there is no doubt that risks are rising and understanding exactly what they are and, importantly how many of them clients can actually bear is likely to become increasingly important, whatever the planned outcome.
