There has been much debate over when interest rates will rise - and they will rise - but is your fund manager prepared for a rate rise and does prior experience of running money in a rising rate environment matter?
“The more I practice, the luckier I get’ Arnold Palmer
Be it golf or French, it is usually assumed that the more practice someone does, the better they become. With capital markets, this experience should be even more valuable; markets can be capricious and tend to reward a level head.
Yet, manager tenure and experience is an often-overlooked part of investment selection.
Market conditions are currently febrile with a combination of fears over China and the prospect of a US interest rate rise. This creates a lot of ‘noise’ for investment managers to navigate. Some will be important and most will not, but we would argue that deciphering one from the other is a skill that comes with experience.
Prior experience of volatile markets can prevent that pernicious wealth-destroying habit – panic. A panicky investment manager – just like a private investor - can easily be lured into selling out at the bottom (just as they might have bought at the top). An investment manager that has seen a cycle or two may be less inclined to make these mistakes.
The problem is particularly acute in the bond market. The final date of the US interest rate rise may be September, or it may be later, but it will arrive at some point and may bring disruption for the bond market. After a lengthy, benign environment for bonds this represents a significant inflection point.
The yield on the 10-year gilt has now been falling steadily – with only occasional interruptions – since 1990 ( http://monevator.com/bond-price-falls-in-bond-mark...). That is an astonishing bull run for any asset class (and some might argue it has actually been in place since 1980). This means that relatively few bond managers currently running funds in the UK have any experience of a declining market. In fact, we counted only ten fund managers operating in the Sterling Corporate bond sector (91 funds in total) who were managing money prior to 1990.
The current low interest rate environment has been in place for 6 years in the UK and 7 years in the US. For 19 managers (out of 46) currently operating in the sector, this represents more than half their working lives. That’s 41% that have gained over half of their experience investing throughout a low interest rate environment. Many will navigate the new environment with aplomb, but some may be sorely tested by a change in direction that an interest rate hike is likely to bring.
Tenure is also important for investors selecting a manager to help them negotiate a more difficult investment climate. Citywire research found that in the open-ended sector, roughly 90% of managers with the longest track records beat their benchmarks over 10 years ( http://citywire.co.uk/wealth-manager/news/happy-re...). Knowing a fund manager’s track record has been created on their existing fund, in their existing environment, is – we believe – very important. It is a mark of stability in a more volatile environment. Just 20 managers in the sector have been managing their fund for longer than five years, and just 10 for longer than 10 years.
Practice does not necessarily make perfect, but investing through different market conditions undoubtedly brings welcome insight. Volatility is daunting and it is easier to keep a level head when it’s not the first time you’ve experienced it.
"With wage growth potentially providing less inflationary pressure than previously assumed, a delayed start to Fed tightening, and more uncertain global growth outlook, we expect the BoE will take a slightly more cautious approach to normalising monetary policy."