“Don’t write yourself into a corner,” Dr. Jeffrey Roach, chief economist and chair of the investment committee at Horizon Investments, told attendees at the ASPPA 401(k) Summit, encouraging them to write a flexible investment policy statement to manage money succesfully through a volatile market.
Advisors need to address several challenges including inflation, sovereign defaults, market crashes, dramatic regulatory changes and company-specific catastrophes. It is important for advisors to understand that the efficient frontier, the tradeoff between risk and return, may not be efficient for long, Roach said.
Rebalancing used to be a simple, tech-driven process, Roach said, but it’s not as easy as you think. Rebalancing may add risk to advisors’ overall process. “Rebalance only when there is a change to the investment thesis,” Roach encouraged attendees.
Furthermore, risk is not as easy to measure as advisors may believe, Roach said. Black swans are a perfect example; 99.9% of the time you’ll expect a particular outcome, but a system shock that results in a black swan can’t be measured.
Before the market collapse in 2008, the Federal Reserve used to keep excess reserves at about $2 billion, Roach said. Following the collapse, Fed Chairman Ben Bernanke agreed to pay banks 1% for every dollar held in the national reserve. As a result, banks limited lending and today, there is close to $2 trillion.
“The Fed balance sheet fundamentally shifted,” Roach said. “In 2009, the Fed shifted from policymakers to investment managers. The Fed has been buying debt, but eventually it will have to sell it.”
Maiden Lane, the firm established by the Fed to unwind toxic assets purchased after the market crash, was able to sell off AIG assets fairly successfully, he said, but there is still risk in trying to unload those assets.
Deficits will improve with pro-growth policies, Roach said, not tax reform. He was confident that the U.S. would not see a double-dip recession. The only such event happened in 1980-1981, when the market fell in 1980 and dropped into recession again 12 months later.
One tax strategy that may help improve growth is to implement a repatriated earnings plan. By providing large companies that have overseas operations with an incentive to keep earnings in the United States, Roach said, the government could keep more cash here.