1/12/15: Markets at a Lower Edge of Growth

During a number of recent financial conferences that I had an honour of contributing to, the repeated leitmotif of Q&As with the audiences has been: "Where's the value in today's markets?" This is hardly surprising, given the state of prime sovereign fixed income and equities markets (both overbought), corporate fixed income markets (closer to fair valuation, but with elevated spreads and volatility), and commodities markets (depressed by long running fundamentals of demand and supply). Short of investing in 17th century furniture futures or philately options, any investor today will be hard pressed to find a broader theme for a buy-and-hold allocation.

Now, the same anecdotal evidence is confirmed by the Morgan Stanley analysts:

Source: Bloomberg

So equities/fixed income allocations for traditionally structured neutral portfolio have converged in returns for both the U.S. and European markets and at levels not worth taking a punt at. Meanwhile, risk-adjusted returns have all but evaporated:

 Source: Bloomberg

A handful of quotes (all via Bloomberg):

"What is notable for 2016 is that, unlike past years, both our long- and short-term forecasts point to muted equity upside.”

"Having been positive on developed market equities in recent years, it is notable that all of our regional index targets now imply little upside for stocks in 2016. Morgan Stanley’s economists forecast that global GDP growth will nudge slightly higher next year (to 3.3 percent from 3.1 percent in 2015), but our regional earnings forecasts suggest companies are having a tougher time turning modest economic growth into decent profit growth."

"The flatness of the [efficiency] frontier means that the optimal portfolio will lie near the left-hand extreme of the red line for a variety of investor utility functions. Relative to prior later-cycle periods, growth looks weaker, central bank policy looks looser, and credit risk premiums are more elevated."

In summary, then: there is no story of growth and with this, there is no story of financial returns uplift. 

21/11/2013: Art = Rubbish Investment Despite 6%+ Average Annual Returns?..

Two interesting recent studies on economics of investment in art markets worth reading.

The first study, titled "Does it Pay to Invest in Art? A Selection-Corrected Returns Perspective" by Arthur G. Korteweg, Roman Kräussl and Patrick Verwijmeren (October 15, 2013) "shows the importance of correcting for sample selection when investing in illiquid assets with endogenous trading. Using a large sample of 20,538 paintings that were sold repeatedly at auction between 1972 and 2010, we find that paintings with higher price appreciation are more likely to trade. This strongly biases estimates of returns. The selection-corrected average annual index return is 6.5 percent, down from 10 percent for traditional uncorrected repeat sales regressions, and Sharpe Ratios drop from 0.24 to 0.04. From a pure financial perspective, passive index investing in paintings is not a viable investment strategy once selection bias is accounted for. Our results have important implications for other illiquid asset classes that trade endogenously."

The study is solid on econometrics and shows very clearly how the selection bias mechanism drives abnormally high reported returns for art. This, in my view, sets a new standard of analysis for the sector. The study is available here: http://ssrn.com/abstract=2280099.

Another paper, titled "The Investment Performance of Art and Other Collectibles" by Elroy Dimson and Christophe Spaenjers (September 2, 2013) was authored by finance specialists who should have known better to test for selection biases. They did not. Which means that some of the econometrics reported should be suspect. Still, the study is interesting if only because it covers not only fine art, but also philately and musical instruments.

Per abstract: "We assess the long-term financial returns from high-quality collectible real assets, and review the unique risks that are associated with such investments. Over the period 1900-2012, art, stamps, and musical instruments (violins) have appreciated at an average annual rate of 6.4%-6.9% in nominal terms, or 2.4%-2.8% in real terms. Despite the similarity in long-term returns, short-term trends can vary substantially across these different types of emotional assets. Collectibles have enjoyed higher average returns than government bonds, bills, and gold. However, it is important to recognize the quantitative importance of transaction costs in collectibles markets. In addition, price volatility is larger than is suggested by conventional measures of risk, and these assets are also exposed to fluctuating tastes and potential frauds. Yet, despite the large costs and many pitfalls, investment in emotional assets can pay off, because of the non-financial yield they provide."

The study is available here: http://ssrn.com/abstract=2319338