“Always look left, first.”
As was the case with Grexit (Acts One, Two and denouement), the Taper Tantrum, what we have termed the “Chinese Liquidity Squeeze”- which ultimately rendered the end of NIRP (Negative Interest Rate Policy) and coincided with a bottom in crude oil prices, and Brexit, so we have been in the most recent episode of market volatility. By that, I mean we have been proactively managing downside risks ahead of significant downdrafts in equities and other (risk) assets. It is not a coincidence that our portfolios have been “ahead of the curve,” as cash positions rose well beyond normal to levels not seen since August of 2015. Total Wealth Portfolios are designed to embrace change, adapt to risks as they emerge, and adjust to dynamic normalcy.
We are taught from an early age to look both ways when crossing the street. We learn from some of our earliest days that we must be aware of the things that we do control (ourselves and our decisions) and perhaps more importantly things beyond our control (others and the environment). This encourages an understanding/ acceptance of risk. Tantamount to this awareness/ understanding is the lesson that we are also taught simultaneously: always look left first (or at least here in the US). The reason for this is obvious, the first and most relevant risks appear from the left. Why? Because they happen to be the closest to you, so you should pay attention to them- not dismiss them as irrelevant or nonexistent.
We don’t control the environment in which we invest no more than anyone can control the actions/ reactions of others (motorists or otherwise). We can, however, be aware of the risks present and emerging and adapt our decision making both appropriately and accordingly. Unfortunately, this is where modern portfolio theory and the efficient markets hypothesis (Yes, it is theory, not law) leaves us in a bit of a lurch as Robert Shiller notes. To an extent, modern portfolio theory would have us believe that the drivers on the road will be aware of our presence as we attempt to cross- that their stopping and starting will occur efficiently per our progress/ path (no matter how ill advised). In short, our allocation should remain largely (if not entirely) fixed, our approach should be governed by a static relationship between risk and return, and ultimately, that it isn’t wise to be aware of the investing climate/ environment. Worse to ignore the investing climate/ environment entirely. Most of the time this approach isn’t catastrophic, but when it is, the consequences can be quite... challenging. This is where the risk-first framework at TWP (and elsewhere ) comes into play; we don’t diminish and downplay risks- we seek them out, identify them and do our utmost to understand them. We want to determine which among the many risks present at any given point in time is relevant and which among those significant. In short, we are looking both ways but also looking left first.
We noted a couple of imminent risks to market upside in the past couple of weeks and it was from these “cracks” that downside risks emerged. This down-spiral in global stock prices has been noted for its speed. Generally, during any episode involving a reset in market risk expectations stemming from spillover effects across multiple asset classes, the speed of descent is rapid and selling can become reckless. We see opportunity in these sorts of scenarios, but you have to have cash first. Otherwise, you are simply along for a very uncomfortable ride. We cannot predict these occurrences- no one can. Our solution: be aware and be prepared.
Please note all Total Wealth Portfolios came into the teeth of this risk driven dip with extraordinary cash positions. We were systematic sellers into market strength in January, allowing us to increase our defensive posture; we will now seek attractive tactical and strategic opportunities within risk assets. TWP will monitor the upside and downside risks vigilantly, weighing them carefully. As always, we wish you the very best of outcomes.