Fitness crazes come and go. Remember the late night best-sellers – the ThighMaster, the Ab Rocket, the Shake Weight, the Bowflex, and the Flex Belt. Despite the promise of how easy it is to get “absolutely ripped in 90 days”, there is no denying the only way to stay fit is to keep active. The same can be said of your financial fitness. A set and forget financial strategy won’t build the financial muscle your fund needs to support you in retirement.
For investors, the world has become a more volatile place. More than at any other time in recent memory, more countries are undergoing some form of transition. For Australia it is all about moving from mining to non-mining lead growth; for the US it is about moving away from the use of unconventional monetary policy; for China it is about becoming a consumer rather than a producer; Japan is transitioning from deflation to inflation; and Europe from crisis to stability.
Each transition carries its own level of risks and probability of success. Market focus and attention will shift from one to the other of these transitions at different points in time, creating volatility at each turn. This volatility stands in stark contrast to what we witnessed during the Great Moderation. This was the period between 1986 and 2006 when global growth was high and volatility was low. This was the age of the new economy, where the business cycle was dead, and where economists hailed Alan Greenspan as the Great Maestro. Financial market returns were easy and asset allocation and active management was non-existent. The smart investment strategy was simply 100 per cent equities – set and forget in the bottom drawer.
Times have changed. The world is a more volatile place. Thanks to the GFC, monetary policy has become a less effective stabilising tool. Re-regulation of capital markets means governments are playing a far greater role in the allocation of capital than at any other time in the past 30 years. And ageing populations’ mean the rate at which the economy can grow before creating inflation is now lower.
This means we are likely to see a return to the kind of financial landscape that was common before the Great Moderation. Economic growth and financial returns are likely to be lower going forward, and volatility is likely to be higher. Increasingly, the Great Moderation will appear like an anomaly rather than the norm.
For investors, this means it’s time to dust off the ThighMaster and get active.
The business cycle is not dead – it’s alive and well and the risk of policy error in the current climate is high. Asset allocation needs to play a far greater role. If you can’t be active and nimble enough to take advantage of the investment opportunities that volatility will bring, be diversified. It is no longer good enough to be 100 per cent in a set and forget equities strategy. Diversify your risks and move your portfolio into the top drawer.
Welcome to the world of boot camp investing.
Tracey McNaughton was appointed head of investment strategy in Australia & New Zealand in October 2013. In this role she has responsibility for Australian economic and investment research and is a member of the Australian Investment Committee.
