Unlock Editor's Digest for free
FT editor Roula Khalaf has chosen her favorite stories in this weekly newsletter.
The author is Chancellor of Queen's College, Cambridge, and an advisor to Allianz and Gramercy.
Early in my investment management career, I was taught to design long-term investment portfolios as pyramids. A solid base of secular and structural positions and a much smaller opportunistic and tactical top. In other words, build durable structures that can largely resist volatile market fluctuations and weather economic and geopolitical swings.
Today, this once comforting structure appears to be gradually reversing. A reduced secular and structural base must support a larger opportunistic and tactical top. This structure has proven to be very resilient and is currently fueling debate between those concerned about a bubble and those reassured that structural strengthening is on the horizon.
Long-term investing unfolds over time with the maturation of the underlying revenue drivers that drive investor adoption. This is the kind of process currently being demonstrated by his Nvidia, the artificial intelligence-focused chipmaker that has become a market darling. The underlying driving force is the potential for large-scale application of innovations in which the company currently plays a dominant role. The big driver for the company's stock price is the shift in its shareholder base from a small number of very sophisticated investors to buying from a broader group of investors.
Structural investing takes advantage of an investor's “edge,” such as patient capital that can withstand volatility and structural mispricing due to artificial market segmentation. Combined with long-term investments, you have a consistent driver of attractive returns over time.
In a perfect long-term, structured investment world, such good performance would be accompanied by relatively low volatility. In extreme cases, it can be a rewarding version of watching the paint dry. This allows investors to feel comfortable taking on more volatile short-term positions, as well as giving them room to react more quickly to opportunistic positions.
From the 1980s to the 2000s, secular investors were helped by three major developments. First, the agreement that domestic economic health is best pursued through the so-called “Washington Consensus,” a market-based approach that emphasizes liberalization, deregulation, and fiscal responsibility. Second, a rapid globalization effort aimed at ever-closer integration of cross-border trade and investment. Third is the maturation of financial markets, including the proliferation of derivatives, lower barriers to entry, and the institutionalization of emerging markets as asset classes.
The first two have now reversed course. This shift began after the 2008 global financial crisis and accelerated significantly since 2017. Market-based approaches emphasizing liberalization, deregulation, and fiscal responsibility have given way to a return to industrial policy, increased government intervention, and sustained levels of fiscal deficits and debt burdens. It was once thought to be highly unlikely. Geopolitical tensions (particularly between China and the United States) and reactions to worsening domestic inequality have combined to foster the weaponization of trade, undermine global policy coordination, and fragment the era of globalization. gave way to.
The boundaries between investors have disappeared, and the scope of structural investments has narrowed. This is most evident in a number of new instruments that provide highly liquid access to inherently illiquid investments. Tactical and opportunistic investments are increasing as long-term, structural investments are reduced. Momentum is now well recognized as a factor that allows investors to ride a wave of rewards that will eventually break out, but not yet. Such short-term positioning does not only represent bottom-up opportunities. It can also be caused by top-down factors, as the surge in U.S. stock indexes to record highs over the past six months has shown. Continued economic exceptionalism in the US, including surprisingly high growth rates in the US, and dovish signals from the Federal Reserve are key factors as Germany, Japan and the UK stagnate. These have allowed the market to dispel many concerns, whether political or geopolitical.
Unlike the Pyramids of Giza, this narrow base and wide top structure is unstable. It will require better domestic fundamentals, a less problematic international order, and stronger materialization of the promises delivered by technology, life sciences, and sustainable energy. As the market is currently pricing in, that is certainly a possibility, but it is not guaranteed.
