- BL-Global 50 can have up to 65% in equities
- "We take more risks when valuation discounts are favourable"
- Even with negative yields to maturity, bonds could continue to appreciate if yields go deeper into negative territory
Joël Reuland, manager of the BL-Global wealth management mixed funds, answers nine questions as he presents its fund BL-Global 50.
Joël, what type of assets does the fund invest in?
Joël Reuland (JR): BL-Global 50 is invested between 35% and 65% in equities, the balance being in bonds, cash or precious metals. The fund's equity portfolio is invested worldwide in high-quality companies with a sustainable competitive advantage. The bond portfolio only invests in government bonds. Exposure to precious metals is mainly an insurance against systemic risk.
What is the management strategy?
JR: Pour In our view, the fund manager's role is largely to avoid errors: an investment that loses 50% has to double before it can get back to square one. The asymmetrical pattern of losses and gains explains our aversion to risk, to which end we are prepared to sacrifice exceptional gains. We aim to achieve asset growth over the long term by avoiding losses. Accordingly, we only invest in things we understand and we steer clear of areas outside our expertise. We don't invest in financial stocks because they are not transparent or in mining companies as their results are too dependent on commodity price trends which we can't predict. We are reluctant to invest in highly cyclical companies given the difficulty of accurately anticipating periods of recession. We limit potential errors by not investing in products we don't understand.
How else can you reduce the portfolio's risk?
JR: For each proposed investment, we calculate an intrinsic value. For equities, this is based on our forecast for the company's recurrent cash flow. To reduce the probability of losses, we invest when the share price offers a discount to the company's intrinsic value. Losses will be mitigated as long as our investment thesis is not mistaken.
Given such a prudent approach, at what point are you prepared to take more risk?
JR: We take more risks when valuation discounts are favourable. Psychologically this is not always easy as the discounts can become significant during very stressful periods on the market. This is when opportunities open up, as they did at the end of 2008 and beginning of 2009. And since we select high quality stocks, their share price tends to recover after the crisis period. Once the stress has subsided, we become more cautious again. This may mean that we don't extract every ounce from episodes of stock market euphoria but it's the price we pay for avoiding substantial losses. And it's a strategy that proves its worth over a full economic cycle. What we don't lose in the downturn more than outweighs what we miss out on during the euphoric phases. Losses and gains are so very asymmetrical...
Do you put more into bonds when you have less investment in equities?
JR: To some extent, yes. However, the fund is limited to government bonds. We don't take any corporate risk in the bond portfolio, which should stabilise the portfolio during stock market stress periods. With high debt levels around the world, our credit risk is currently confined to Germany and the United States.
This is despite the fact that yields to maturity on German government bonds are negative, even for long maturities...
JR: Obviously bonds aren't as attractive now as they have been over the last 25 years. But having said that, even with negative yields to maturity, bonds could continue to appreciate if yields go deeper into negative territory. It may seem absurd, but that is a consequence of Mario Draghi's negative interest rate policy. And if the ECB cuts interest rates even further, to -2% or -3% to "force" consumers to spend their savings, government bond prices will continue to rise. Eventually, this type of monetary policy is likely to be inflationary, but bonds will go up in the meantime. This is why, despite negative YTMs, we are still invested in German government bonds. However, we have confined ourselves to maturities of 2017 to 2020 due to the longer-term inflation risks of such a policy.
In the United States, YTMs are still positive
JR: In relative terms, US Treasury bonds continue to be attractive. This is why the US bonds in our portfolio have longer maturities than the German bonds. But we are keeping a close watch on the situation. With such high debt, it is increasingly likely that the central banks will deploy a deliberately inflationary monetary policy. We haven't got to that point yet but it's getting closer. This is why bonds with longer maturities are much more risky.
Given the low attraction of bonds, is there an alternative for diversification?
JR: Gold is a definite option. The more disconnected the central banks' monetary policies become, the greater the rationale for having gold in a portfolio. The main reason why gold has not gone up more so far despite the central banks' quantitative easing policies is that these policies have not created inflation. But weak inflation is not surprising if the technique of quantitative easing is fully understood. On the other hand, if the central banks change tack and decide to deliberately create inflation, that is certainly achievable. And at that point, the gold price will pick up. But then you never can tell. If investors lose confidence in the central banks' disconnected strategies, it could be useful to have exposure to the ultimate currency as, unlike paper currencies, it cannot be printed at will.
What performance can investors in BL-Global 50 expect?
JR: Since the fund's launch in October 1993, BL-Global 50 has generated a return of 4.5% per annum. However, this historic return cannot be considered representative for the future now that market conditions have totally changed. Due to the central banks' unconventional monetary policies, money market and bond investments offer almost zero yield. So everything hangs on equities which, given the scale of the economic imbalances, are likely to trade at lower valuations. Protecting purchasing power without suffering excessive volatility has become the watchword for the future. This might seem like an ambitious target, but given the virtually zero or even negative yields on offer for bond and money market investments, protecting purchasing power takes on a totally new meaning.