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How to stop your client’s portfolios from going up in flames

04 July 2022 Gareth Stokes

The best way to prevent your client from making knee-jerk decisions about their investment portfolios is to get them to trust the process. “You need to trust the process that you and your client have implemented in building their investment portfolios and selecting managers,” said Peter Kempen, Head of Retail Distribution at Coronation Fund Managers. He was commenting at the 2022 Investment Forum during a two-way discussion titled ‘The five calls you have to get right today’. The discussion was held midway through 2022, at a time when many investors were getting jumpy about the relative performance from their offshore versus onshore funds.

This time it is different

Kempen was preceded on stage by Pieter Koekemoer, Head of Personal Investments at Coronation, who informed the financial advisers and financial planners in the audience of the implications of two trend shifts affecting the domestic asset management environment. The first was the February 2022 announcement by National Treasury of the harmonisation of foreign exchange control allowances across retirement funds and other institutional funds. “In the February 2022 budget we saw the harmonization of foreign exchange control allowances for both retirement funds and other institutional investors at 45%,” he said. The second, was that investors were currently experiencing the first global equity sell-off in the post ‘free money era’. The ‘free money era’ is, of course, the multi-year, near zero percent interest rate environment that had afflicted much of the developed market since the 2008-9 Global Financial Crisis. 

Changes to offshore asset allocations will result in in a structural change in how the industry invests, especially as regulation 28 compliant retirement funds adjust for the 10% ‘gap’ between their offshore allocations and those allowed for managers in the life offices and collective investment schemes (CIS) space. On the second point, Koekemoer said that local investors had just witnessed the second material sell-off in offshore financial markets in less than three years, with a meaningful gap between the return outcomes for domestic and global assets, being close to 20% in the first five months of 2022. Sadly, “we had seen a significant swing of assets out of South Africa, typically out of domestic multi-asset and high equity funds towards global assets” in the run up to this sell-off. 

Koekemoer posed the five key questions mentioned in the presentation title: three of these questions related to the impact of the offshore allowance harmonization on local investors, while two were concerned with the broad-based global sell-off and clients’ and financial planners’ responses to them. This writer was most intrigued with questions four and five which considered how long the road to market recovery might be. and explored a ‘market survival toolkit’ that financial advisers could deploy to see their clients through periods of market volatility. Kempen noted that the current market correction was likely to be longer in duration than the rapid V-shaped bounce witnessed when the 2020-21 COVID-19 pandemic was confirmed, back in March 2020. 

A market turmoil survival toolkit for advisers

The first tool in a financial planners’ toolkit is the ability to manage your clients’ expectations. Kempen pointed out that advisers had to prepare clients for periods of market volatility, adding that equities did not do a great job at protecting portfolios from inflation shocks. “That does not mean that you should forsake equities,” he said. “You cannot afford to not hold equities and growth assets in your portfolio [as] returns will come from the same places they have always come from; your clients will have to be more patient to receive those returns”. 

The second important tool to ward off market turmoil is active management. “Active management is that much more important, and will be one of the key tools to survive market crises,” Kempen said. “Alpha adds value when you compound it over a long period of time; and periods offering the highest alpha have generally followed periods of crisis which create outsize opportunities to generate alpha in subsequent years”. Asset managers like Coronation do their best to capitalise on the value opportunities that arise during market pull backs. The third, and another obvious tool, is to ensure that your clients are focussed on their long-term investment objectives rather than short-term market sentiment. “You want to optimise for the long-term, and avoid responding to what happens in the short-term, because that results in destructive behaviour,” he said. 

The fourth tool is to build a good foundation in terms of the narrative that your clients use to underpin their investment decision making. Under this heading, you must address aspects like recency bias; your client’s personal risk narrative; putting the long-term investment horizon ahead of the daily reporting cycle; and reminding your client’s that volatility is beneficial to patient investors. “Investors that define risk as the permanent loss of capital rather than volatility have the ability to see volatility for the opportunity it really is, and can afford to be patient and look through the cycle,” Kempen said. “They can be more philosophical about market drawdowns and investment decisions over time”. 

Trust the process

Your clients need to trust the processes that were put in place to choose asset management houses and funds within those asset managers. Kempen used a graph of various multi-asset, high equity strategy returns achieved between the 2020-21 COVID-19 pandemic drawdown and present day to illustrate the fifth and final tool in the market turmoil survival toolkit, being to trust the process. “You must trust the process that you have implemented in terms of building your portfolio and selecting your managers,” he said. Financial planners that take a split fund approach achieve consistent results through market turmoil, well ahead of the funds that had the beset drawdown experience on the eve of the pandemic crisis. 

“An investor who switched to the best performing funds at the time of the pandemic saw quite large value destruction over time … this client would end up with a result that is worse than the range of outcomes of all the biggest funds in the sector,’ said Kempen. Coronation concluded the presentation by reflecting on the level of upside to fair value in global equities at end-May 2022, which was higher than it had been for some time. “There is a high correlation between the upside in fair value in global equities and the subsequent returns,” he said. A similar scenario was evident for JSE-listed shares. 

Summarising the key points…

We can summarise Kempen’s message in a short paragraph. He said your clients can expect a period of extended market volatility and that you had to manage your clients’ expectations through this period. Financial planner should put their trust in active managers to generate outsize alpha for their clients; give careful thought to the investment narrative that they share with clients; and, of course, trust the process. 

Writer’s thoughts:
The themes trotted out at asset manager presentations do not vary much over time… Fund managers debate active versus passive; offshore versus onshore; and hot versus cold sectors of the economy. The one constant seems to be to invest for the long-term and avoid making knee-jerk decisions when faced with market volatility. Do you agree; and do you trust the process? Please comment below, interact with us on Twitter at @fanews_online or email us your thoughts [email protected].

Comments

Added by Sophonia Matlabo , 04 Jul 2022
It's true, and record of advice need to record that. Annual reviews also there to help.
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