Redrawing the Investment Map

Since the global financial crisis of 2008, the world has evolved in ways that are unpredictable and often unsettling for investors. Our 2013 Colloquia Series Forum, titled “Redrawing the Map: New Risk, New Reward,” was held in April in Beijing, China and brought investment experts from Pioneer Investments together with leaders from central banks, sovereign wealth funds and academic communities to discuss these issues and their implications for investments.

My full commentary is available to read on Pioneer’s web site, but I wanted to summarize a few of the key questions and discussions here for you now.

1. Is the world a less stable place since the start of the crisis?

I believe that the world is less stable now than it has been in the previous four decades, and perhaps since the 1930s. The primary cause of this instability is DEBT. There is now considerably more debt in the developed world and the efforts to reduce it (the so-called deleveraging process) have negatively impacted growth and economic prospects for many countries.

Debt reduction can happen in a number of ways – growth, default or inflation – the trilemma for developed economies and investors. But the accumulation of public debt over the last 20-30 years is just a symptom of a more profound malaise – the rupture of the “intergenerational pact.” Developed countries have accumulated enormous liabilities at the expense of future generations and the problem is not just debt – the extraordinary high level of youth unemployment in most developed countries is another dangerous source of instability.

The liberal printing of money by major central banks to prevent a deeper recession during this financial crisis has expanded their balance sheets, admittedly averting a depression in the U.S. and has likely prevented the breakup of the Euro. However, one of the unintended consequences is asset price inflation around the world in bonds, equities, commodities, etc. and how this flood of liquidity has been distributed. The inequality can be seen at the country level and at the individual level with an increasing concentration of wealth in few hands.

Another major source of instability is Europe and whether or not the political glue keeping the Eurozone together will hold. We think there are reasons to be optimistic, but there will be bumps down the road. Although a lot of political capital has been spent in the Eurozone in the past few decades, there are still two major issues: European nations cannot achieve much progress on policy without acting together and we need to see progress on projects of future integration that were announced last year.

2. Why consider risky assets in these more uncertain market conditions?

We need to consider which asset classes may help us capture the opportunities this environment presents us with. Therefore, we need to consider the merits of investing in risky assets in general – and in emerging markets in particular – for three key reasons:

  • A combination of bank intervention and blind buying by fearful investors has led to unprecedented low yields on so-called safe government bonds. It is our view that these investors will increase their allocation to riskier assets in order to earn higher returns, starting a trend which has been named “the great rotation.” Equity dividends are outstripping bond yields, especially in Europe and, as such, equities should be considered a structural source of investor income as well as potential capital appreciation.
  • Cyclical components of the economy are improving, suggesting that the U.S. economy is expanding. China’s rapid expansion is slowing, but still leading global growth and the Euro region, despite the weak economic outlook, is on the right track for structural reforms.
  • Emerging markets are still the best opportunity for a higher growth path although many are in a transitory phase, shifting toward lower growth. That’s why we believe that looking at the specific investment and economic initiatives of individual countries within emerging markets is as essential as adopting a bottom-up approach to identify the most compelling investment opportunities.

3. How can investors manage risk in this type of strategy?

Exposure to assets such as equities and emerging markets, with the aim of earning higher returns, inevitably means taking risks. We concentrate on adopting an active management approach to explore opportunities and combine them with a strong risk management discipline. Research is another important pillar of our investment process. The in-depth experience of our analyst team ensures that they have a strong grasp of the potential risks associated with an investment while they are searching for opportunities.

Finally, as the Chinese proverb says, “in every crisis there is opportunity.” The crisis and resulting instability are a situation that can be exploited by alert investors. Despite some of these existing conditions, I have no doubt that great opportunities lie ahead of us.

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