The end of the year is the time to reflect on the past while the beginning of the year is time to reflect on the future.
So how did your portfolio do last year? The Dow Jones Industrial Average for US stocks hit 16,576 with a 26-per-cent gain for the year, the best year since 1996. By comparison, the Hang Seng Index was up 3 per cent, Tokyo’s Nikkei did best at 57 per cent and the Malaysian Bursa ended up 10.5 per cent higher, just a tad off its record.
On the other hand, the fastest growing economy in the world had the worst performance – the Shanghai Ashare index closed the year at minus-8 per cent. Gold prices fell 27 per cent to $1,196 per ounce, whilst property prices seemed to have done well in the US and in China. Bond prices are now extremely shaky, with the JPM Global Aggregate Bond Index falling by 2 per cent during the year.
What is going on?
The answer has to be quantitative easing (QE) by advanced countries’ central banks. The world is still flush with liquidity and since investors are uncertain, they have reversed their investments in commodities such as gold, avoided bonds because of forecast rises in interest rates and essentially piled into stocks.
Individual investors like you and I tend to forget that today’s market is essentially driven by large institutional investors, including fast traders with computer-driven algorithms that have better information and can trade in and out faster and cheaper. It’s no surprise that the retail investors who have traditionally driven Asian markets have been moved towards the sidelines.
Even institutional investors are not equal. Insurance companies and managers of long-term funds like pension funds are by and large highly regulated, with restrictions on what they can and cannot buy. So it’s not surprising that today’s biggest money managers are even larger than banks. Black Rock, the largest independent fund manager, looks after nearly $4 trillion – more than most banks in emerging markets.
There are of course two types of asset management – active (where managers use their judgement to actively invest on your behalf) and passive (where they simply follow the market indices or buy Exchange Traded Funds that track market indices). On average, passive managers did better over the last decade, according to a Towers-Perrin study of top 500 global asset managers.
So should we trust the market experts? I have for years been reading Byron Wien’s influential annual predictions for 10 surprises for the year. Byron used to be top investment pundit for Morgan Stanley but is now working for Blackstone. His “surprises” are defined as events the average investor reckons have a one-third chance of change, but which he believes have more than a 50 per cent possibility of change happening. He got roughly seven out of 10 wrong in 2013, the more significant miss-calls being the price of gold, a possible drop in the S&P500, the price of oil and the A share index.
Bill Gross, a top bond fund manager, pointed out that retail investors tend to be conservative, focusing largely on safe portfolios such as investment-grade and high-yield bonds and stocks. But institutional investors have gravitated instead into alternative assets, hedge funds and more unconventional assets. Unfortunately, all these assets are “based on artificially low interest rates”. So if low interest rate policies are reversed, investors have to be prepared.
He rightly points out that the advanced countries’ central banks are “basically telling investors that they have no alternative but to invest in riskier assets or to lever high quality assets”. But if they withdraw or “taper” QE, then higher interest rates will cause a reversal of investment prices and also spark de-leveraging.
In other words, in order to bail out the world and keep the advanced economies afloat, their central banks are asking global investors to bear quite a lot of the risks on the downside. The smart money might be able to get out fast enough, but most retail investors do not have the skills to time their investments right.
So what should the retail investor do?
Peter Churchouse, who writes one of the best reports on Asia – the Asia Hard Assets Report – backed his son’s advice to “Buy good companies with strong earnings, strong growth and rock solid management. The world will go on”.
But how do we know which companies have rock solid management? My answer: Watch not what the annual report says, but look at what the management does. I have always tended to shy away from companies with high-profile CEOs who tend to win “Manager of the Year” awards.
There is, of course, no substitute for your own in-depth research and looking for yourself how the company or the economy that it operates in is doing. The consumer, or “tourist”, is still the best investor, because seeing for yourself gives you a feel of what is right or wrong with the country, while visiting the retail outlet, getting a sense of the service quality and the employee attitude, gives you firsthand knowledge of what is right or wrong with the company you are investing in.
My favourite economy in Asia right now? It has to be Indonesia. I spent nearly 10 days over Christmas going through the markets of the most densely populated cities in Java and my conclusion is that Indonesia is on the move – literally. The population is young, mobile and connected. Every other shop seems to be selling mobile phones, cars or motorbikes. The quality of the shops, design and service has steadily improved over the years. And despite the coming elections, there is hope for change.
Thus my bet for 2014 is that if we stick to the better-run companies in the stronger economies, we should be better prepared for the coming tapering of QE.
Andrew Sheng is president of the Fung Global Institute.