Trends Watch: June 7, 2018
EisnerAmper’s Trends Watch is a weekly entry to our Alternative Investments Intelligence blog, featuring the views and insights of executives from alternative investment firms. If you’re interested in being featured, please contact Elana Margulies-Snyderman.
This week, Elana talks to Tarik Riviere, Principal, North Gate Advisors.
What is your outlook for alternatives?
It is well understood that alternatives benefited tremendously from the weakened appeal of fixed income in recent years due to the ultra-low rate environment. In a traditional equity/bond portfolio, alternatives have to a certain extent filled the partial vacuum left by bonds in adding uncorrelated absolute returns to a core equity exposure. Equally well understood is the subsequent saturation and performance degradation that has plagued some corners of the alternatives space. In my opinion, other structural factors such as a dramatic global economic shift between developed economies and emerging markets have had a serious impact on staple strategies such as global macro.
Fee structures may have come under pressure, and the appeal of some vehicles such as funds of funds may have dimmed, but the alternatives model at large is still standing. The sector would however be seriously challenged if rates markets did normalize and bonds regained their luster as a diversifying return stream to a core equity exposure. It seems to me that larger funds would be wise planning ahead for this scenario and be creative in terms of their product line, in order to best monetize their existing brand and manage capacity strategically.
What is your outlook for the economy?
The U.S. economy is still expanding at a healthy clip, but it is worth mentioning that the past decade's buildup has come at the cost of unprecedented monetary loosening and balance sheet expansion by the fed through quantitative easing, later followed by a large fiscal stimulus with the Tax Cuts and Jobs Act of 2017. These developments have led to a very low level of unemployment by historical standards in recent years. Additionally, as populist and protectionist rhetoric build up in the U.S. and abroad, mentions of tariffs and trade barriers have become more frequent. Conventional wisdom would suggest that these factors combined would at some point exert strong upward inflationary pressures. This is probably the largest risk to the U.S. economy in the medium-term.
Inflation, according to the Fed's preferred personal consumption expenditures gauge, has certainly been on a rebound lately, and is now close to the Fed's target of 2%. But this is still a relatively benign level considering the magnitude of the stimulus applied, the level of unemployment and the build-up of protectionist and other structural pressures. One explanation is that we may be getting a delayed reaction, as many geopolitical events are still unfolding: The United Kingdom is still technically in the EU until 29 March 2019, there are many uncertainties around the North American Free Trade Agreement but at this time no amended/replacement framework has been agreed upon. Victory in Italy by anti-establishment parties just happened, so it will take some time for us to see the real impact there.
Meanwhile, countries such as Saudi Arabia have already moved to diversify their economy, pivoting to compete on the production of a range of goods and services. And other rapidly expanding emerging economies such as India don't appear to have been caught in major trade disputes yet and therefore the global deflationary pressures they exert are still intact.
It is worth pointing out that standard monetary tools appear inadequate to address the inflationary pressures that would arise from repatriating parts of the manufacturing base back in the U.S. In fact, rather than tighter monetary conditions, one could argue that facilitating investment to leapfrog current manufacturing processes and offset higher wages with higher productivity, would help. Anecdotally though, recent attempts to lower the cost curve through intensive automation have been disappointing and counterproductive (see recent experience at Tesla). The technology has made great leaps but may not be able to mitigate this embedded inflationary issue, at least for now.
What keeps you up at night?
Markets are constantly evolving, and this is particularly true of the liquid derivatives markets that I focus on. New opportunities, risks and threats appear constantly, and it is vital to identify these early to protect wealth and maximize returns. This is certainly a technological race but the operational aspect, sometimes overlooked, is equally critically important.
Broad and adaptive risk management processes must be in place, looking beyond price risk. I look to constantly maintain adequate preparedness to potential risks such as liquidity gaps, cybersecurity threats such as intrusion attempts, electronic venue malfunction and third-party trading platform issues.