The investment industry is usually quiet during the summer. Trading activity slows, the conference schedule is reasonably light, and summer vacations cut into the frequency and intensity of meetings. Labor Day marks the unofficial end of summer, starting a frenzy of activity that resembles a cruise ship buffet.
The relatively short time between Labor Day and Thanksgiving is a blur of activity, as investment industry participants attempt to accomplish as much as possible before transitioning into year-end holiday mode. This year’s fall season included several conferences, a dizzying number of investment manager meetings, and the award of a Nobel Prize in Economic Science to behavioral science economist Richard H. Thaler. Taking a break from the investment “buffet,” I’ll share my top 10 observations from the fall frenzy.
1. The U.S. stock market may be less expensive than commonly thought.
The most commonly used valuation metrics, the price-to-earnings and cyclically adjusted price-to-earnings (CAPE) ratios, are at disturbingly high levels. Contrary views point to the currently low levels of inflation to justify valuations that aren’t cheap, but haven’t reached outrageous levels.
2. The next bear market may be different than leverage or asset-induced bear markets of recent vintage.
There are minimal signs of the types of asset bubbles or leverage imbalances that caused recessions in 1990, 2000 or 2008. Although asset bubbles or leverage-induced recessions are what many investors fear, the next recession is more likely to be caused by an overheating economy or by central bank tightening to rein in inflation. Fed policy remains the most likely catalyst for a recession and bear market.
3. Value stocks will rise again.
Value investors have had a rough time in recent years, as growth stocks have had a strong run of outperformance. Some investors speculate that the value “premium” has eroded because of the flood of money into “smart beta” investment strategies. Dimensional Fund Advisors provided a compelling challenge to the “smart beta killed the value premium” hypothesis at a recent conference, demonstrating that smart beta funds collectively resemble the market in composition and in performance. Contrary to conventional thinking, smart beta funds don’t meaningfully tilt toward the value style. Dimensional’s speakers also made a strong case supporting the long-term prognosis for value stocks to return to the long-term tendency to outperform growth stocks.
4. Passive may not replace active in bonds.
The most significant difference between equity and fixed income indexes is that equity indexes can be thought of as rewarding “success.” Companies with the highest stock market value have the greatest weight in market-capitalization-weighted indexes. Fixed income indexes, in contrast, are weighted to favor issuers with the most debt outstanding, a methodology that in many cases isn’t an indication of financial success or market popularity. Given the shortcomings of fixed income indexes, active approaches to bond management may offer superior return and risk management attributes to investors.
5. “We will never again have a middle class built on routine work.”
This blunt opinion was shared in a forum session about investing in a post-global world. Technology represents a threat to routine work throughout the world, disrupting economic models for many countries. Although trade and immigration are often blamed for the loss of American manufacturing jobs, the losses have much more to do with productivity gains than with unfair trade or immigrants. In essence, robots have “stolen” far more jobs than Chinese or Mexican workers.
6. North Korea won’t give up its nuclear program without a fight.
The risk in North Korea is that the verbal conflict between the leader of the North Korean “hermit kingdom” and the American “Tweeter in Chief” escalates into a military conflict. Given how little we truly know about what’s going on in North Korea, it’s hard to assess how Kim Jong-un is reacting to President Donald Trump’s rhetoric. Kim likely sees the country’s nuclear initiative as his personal insurance policy. President Trump may be underestimating the risk that his tweets about Kim will trigger an escalation from North Korea, while overestimating China’s ability and willingness to intervene with Kim. The U.S. has unappetizing military options against the hermit kingdom, given the proximity of North Korea to population centers in the South.
7. “Conventional economics assumes that people are highly rational.”
Richard Thaler’s Nobel Prize is an acknowledgment of his pioneering research identifying how people are often far from rational and for his work providing solutions to help people make better choices. Thaler’s insights provided guidance to changes that improved the rules governing 401(k) plans, including auto-enrollment and default investment options.
8. It is possible to have too much choice.
Sheena S. Iyengar, a Columbia Business School professor, shared research findings about consumer choice in a recent meeting of the Helm Society. Iyengar shared some counterintuitive findings from research studies. Most notably, research studies found that consumers were less likely to make a decision when presented with a wide range of choices, and ended up being less satisfied with the choices they did make. She shared guidance about making choice an easier process by curating, categorizing and consolidating options for consumers.
9. “It’s raining men.”
Middle-aged men were the vast majority of attendees at recent top financial advisor conferences sponsored by The Financial Times and Barrons. Clients increasingly want to do business with a team they identify with, and the lack of diversity in the financial advisory industry is increasingly an impediment to client satisfaction.
10. Technology disruption is here.
Empathy and trust are frequently cited as the most important attributes distinguishing human advisors from automated investment solutions. However, clients increasingly demand a rich digital experience, and the best advisors will combine the best of both worlds. Attendees of one of the top advisor events were openly envious at hearing that it takes less than 10 minutes to open a new account at a digital advisor. The popularity of automated advice services is also shining a spotlight on asset management fees, which inevitably will bring down the cost of the asset management component of advisory services.
The “investment buffet” has been satisfying, providing actionable thinking about investment strategy, economics, geopolitics and practice management. Undoubtedly the final few weeks of the fall season will bring more of the same.