Rocaton: Global Uncertainty May Open Doors for Active Managers

(December 1, 2011) — There may likely be continued global uncertainty, which can lead to opportunities for active managers, according to a new report by consulting firm Rocaton. 

The report by Rocaton’s Head of Fixed-Income Research Lisa Florentine — titled “Active Fixed Income in an Uncertain World” — discusses the fixed income market and what role active management strategies play in today’s macro-driven environment. “We continue to favor fixed income asset managers that have solid organizations, experienced professionals, deep credit research capabilities and robust risk management practices. There may likely be continued global uncertainty, which can lead to opportunities for active managers, albeit with potentially higher tracking error relative to the benchmark,” the report states. “This type of environment will also lead to more dispersion of performance results among managers. We continue to try to identify portfolio management teams that consistently adhere to a disciplined process, but that have also demonstrated the ability to adapt to fluid economic and market environments.”

On the trend of lower-risk strategies, the report continues: “We believe that there was no single factor, but a confluence of events that prompted an escalation of the ‘risk-off’ trade. These included the contentious debate regarding raising the debt ceiling, S&P’s downgrading of the US long-term credit rating, largely disappointing economic data triggering expectations for a double-dip recession, and the ongoing European sovereign and banking crises. Additionally the Federal Open Market Committee’s decision to implement ‘Operation Twist’ was an important factor in the strong rally in the long bond and a flattening in the yield curve.”

The report notes that it is instructive to look back to the credit crisis and its aftermath to gain some perspective. During the ’07-’08 period, “active managers who had the discipline and wherewithal to buy into the oversold market were richly rewarded in the rally that occurred over the next two years. While credit spreads today are not at the extreme levels witnessed in 2008, they are wide relative to historical averages. In addition, fundamentals in markets such as domestic high yield are generally better than they were in 2008 suggesting greater confidence in risk taking,” the paper explains.

Some in the industry voice a more critical, skeptical view of active management. “I think one interesting point of view is Andrew Lo’s Adaptive Market Hypothesis, which asserts that alpha is unstable, moving from one segment of the markets to another,” Sam Kunz, the chief investment officer of Chicago’s Policemen’s Annuity and Benefit Fund, told aiCIO. “At any given point of time, there are inefficiencies somewhere available to someone, but it doesn’t mean that investors are able to capitalize on them. In other words, markets might not be efficient but the trick is to be able take advantage of that inefficiency despite its versatility. Therefore, the budget for active management should be spent very wisely because our ability to consistently capture these opportunities is low.”