Going Long: what do you need to believe in in order to be a good investor? Or: the optimist’s guide to financial investing

Pessimism has its place in investment strategy; if you’re going to protect capital then you need to be worried enough about all of the various scenarios that could lead to financial loss. But if markets are ruled by fear and greed, it’s also true that, by and large, they veer more towards the latter. As investors we position for the future; for growth, innovation, and a belief in mankind’s ability to overcome social, environmental and economic challenges.

So why be an optimist now, in the midst of a pandemic, climate change crisis and global economic disorder? Because for one thing, so long as you balance a positive outlook with a healthy dose of price sensitivity and scepticism, it will make you a better investor. Perma-bears make for good journalists and market pundits, but they rarely make careers for themselves in compounding capital. As to what the optimist’s portfolio looks like today, that’s an altogether more interesting question, and the answers aren’t perhaps what you’d initially expect.

In 1980, AT&T commissioned management consultancy McKinsey to run an extensive, global research effort to work out how many mobile phones they could sell in the year 2000. Their highly educated guess was 900,000. Indeed, in the year 2000 they did sell that many mobile phones, in the first three days. In that year overall, they sold more than 120 times that amount. Today, more people own a mobile phone than own a toothbrush.¹ Why was their answer so far off the mark? Because they failed to understand the nature of non-linear growth. They didn’t foresee that multiple, simultaneous technological advances would cut the costs to produce mobile phones, while increasing the quality dramatically.

Today we are seeing the same thing happen in the world of renewable energy. Climate change is arguably the single most important issue that we collectively face today, but innovation to tackle it is happening under our feet. This time around, it is traditional economic models that are struggling to squeeze exponential curves into their formulae. In 2002, solar energy was predicted to grow by 1 gigawatt per year by the year 2010. In 2010 that was beaten 17 times over, and by 2016 it was beaten 68 times over. Today, the cost of solar has fallen by 83% since 2010.² There are countless such examples, all of which lead to the same conclusion; the renewable energy revolution is happening faster than we think. Furthermore, it is likely to be positive for economic growth.

If you are of the mind that efforts and innovation to tackle climate change will be growth-positive, then you need to think carefully about the ramifications for financial assets. Economic growth may be good for society, but it isn’t always good for financial asset returns. We have seen just how differently markets and economies can behave just this past year, where a global economic shut down did nothing to stop tech stocks leading equity indices to record breaking highs. If we do see better-than-expected economic growth in both the short and the long term, then a number of things may happen. We could see tighter financial conditions, which would be bad news for the equities and other financial assets that have risen on the back of cheap money. We could see a rise in inflation, which would be bad news for bond holders. We would also be likely to see a boom in cyclical sectors, and the long-awaited resurgence of value over growth stocks. The good news is that inflation protection is still relatively inexpensive, and cyclical sectors even more so. This means that the optimistic investor today, with an eye on both long- and short-term growth prospects, is likely to be thinking about protecting portfolios from inflation and avoiding sectors that are driven by cheap money rather than fundamentals.

It is one of the strange ironies of 2020 that the boom in tech stocks was in fact fuelled not by blind faith in technological advancement, but by pessimism; by the belief that only a handful of the world’s largest companies could be relied on to grind out growth in the toughest of environments. This has left valuations in some of the most interesting and well-run companies in the world so expensive that they can no longer be expected to generate decent returns for investors. Luckily, there are other ways to place your capital on the side of human ingenuity.

Listed tech and growth companies might be extraordinarily expensive, but the same isn’t always true of private companies. Those who are willing and able to invest directly may well find more attractive valuations, as well as the opportunity to use their own expertise and experience to influence outcomes. It’s also worth noting that innovation doesn’t only happen in tech companies, there are good management teams running excellent companies in every sector, in every geography in the world. The fund managers that we work with are primed to seek them out. Some of the best investment opportunities out there today are in good companies whose share prices were badly beaten up in 2020, but whose fundamental strength remains unchanged.

In essence, our job is to ensure that capital is continuously finding its way to fertile ground, where it can grow over time, and foster growth in return. On the face of it, it may seem that investing with an optimistic view of growth and human endeavour would mean paying through the nose for venture capital and tech IPOs, but it might be hard to maintain a sunny disposition when you see the volatility in your portfolio. Better, we think, to keep that positive mindset and to think more deeply about how human ingenuity can power your portfolio, be it from the skill of talented managers, the collective power of the economic recovery, or even your own endeavours as an active owner of a growing business. The very best investors are optimistic enough to see the opportunities that don’t seem obvious to everyone else, sceptical enough to always question the price of an investment, and pessimistic enough to always plan for the unexpected arrival of Fate and his trusty lead pipe.

¹ https://www.economist.com/special-report/1999/10/07/cutting-the-cord

² https://www.linkedin.com/pulse/scenarios-solar-singularity-michael-liebreich/

There are no prizes for guessing the major asset class winners and losers of 2020; economically sensitive assets (cyclicals), airlines & travel, crude oil and the dollar languished, while the “stay at home” trade sent stocks like Zoom and Amazon into the stratosphere.

As we enter 2021, with an economic recovery firmly set on the agenda thanks to the rollout of the Covid-19 vaccine, investors are now poised to see when and to what extent, the trends that so dominated 2020 begin to reverse. The market activity that we saw in November should offer some hints in that respect. Going into the month we saw a stark rise in Covid cases in Europe and the West, and market sentiment was duly subdued. However, the news of the vaccine sparked a sudden shift in market behaviour; cyclicals rallied hard, corporate credit outperformed government bonds in the US, and EM debt was bolstered by dollar weakness. We also saw a short, sharp movement away from growth stocks and into value names.

Should we see signs of a sustained economic recovery, these dynamics are likely to resume. For now, despite the widespread consensus around both the likelihood of a recovery, and the downward trajectory of the dollar, volatility continues, and heady valuations in growth names are yet to correct. Over the coming months, investors will be focussing on macroeconomic data, the rollout of the vaccine and the efficacy of lockdown measures in Europe and the UK to gain a clearer view of the path towards normality.

Our approach in portfolios is to maintain a relatively low weighting to cash equities, which are tilted towards value and quality stocks, and are making use of options to tap into broader equity market momentum without taking on the price risk. Alternatives and liquid real assets are playing a key role in portfolio diversification, and we are making use of short-dated treasuries, inflation linked bonds and gold.

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