Covid-19 – The Great Accelerator
This time last year we were only just beginning to understand the true scale of the global pandemic and I think that few of us would have expected to still be living in some form of lockdown a year later. Undoubtedly many of us have experienced some difficult personal situations but, for the investment industry, the period has been surprisingly benign.
First of all, the investment industry immediately adapted to working from home and in spite of the drama of the pandemic, the markets continued to function well. Secondly, the pandemic allowed us to conduct a very extreme experiment in working from home and what we learnt as investors is that a more flexible working environment can be conducive to better investment work. We’ve found that an ideal combination is to have, say, 3 days working in the office to ensure that teams meet and build a rapport and then to spend some time at home when one needs a quiet space to think and research. I believe that this experience has unleashed more creativity in our investment division.
From a market standpoint, we describe Covid 19 as the great accelerator of trends that were already in place - namely, low rates, stretched government finances, technological disruption and increased focus on environmental issues. Interestingly, all of these trends were accentuated, rather than reversed, by the pandemic:
As economies were placed into hibernation, interest rates were slashed, forcing investors further up the risk curve in their search for income. At the same time, debt levels have surged as a result of COVID-19 and there is now speculation that we could shift to a more inflationary regime which could see central banks forced to unwind their rate cuts and leading to a repricing of bonds. Whilst we expect a cyclical rise in inflation, there is still evidence of slack in labour markets, so we believe that concerns about excessive inflation are over-blown. Also, although higher inflation is sometimes put forward as a solution to high debt levels, the experience of Italy and Japan is that high debt levels have not brought inflation. In fact, their experience suggests that central banks have to keep interest rates low to help governments fund their budget deficits. All in all, we expect sustainable income generation to remain a key challenge for our clients and therefore a focus for us. For institutional investors, this means constructing portfolios that better reflect the trade-off between liquidity and yield, based on a better understanding of cash flow requirements. For our retail clients, it is about broadening our sources of income to reduce the volatility of portfolios as investors are forced to take more risk in their search for yield.
Technological disruption was already an important feature of the investment landscape before COVID-19 but, as we all know, we saw a dramatic acceleration on this front in 2020. For example, internet shopping has boomed, further undermining high street spending. With COVID-19 proving that in many cases working from home is possible, businesses are rethinking the way they organise and locate workforce. Travel patterns were already being questioned from an environmental angle and, again, COVID-19 has served to highlight what can be avoided, particularly in terms of business travel. These disruptive forces suggest that indices may not be the best way of capturing opportunities and at Schroders we have been focused on developing thematic strategies to harness these ideas.
Lastly, it is also interesting to note the emphasis on Sustainable investment, and in particular environmental concerns, was also supported by the pandemic. For example the European authorities responded to the crisis by intensifying their efforts on building green infrastructure. Social consciousness is asking for a change both in relation to the environment but also in terms of inclusion. This is putting pressure on the political agenda and the cost that companies have on society is increasingly under scrutiny. Companies social cost on society is becoming a financial cost for companies because of regulations; in essence we see the ”impact” that companies have on society as a third dimension of risk. It is our fiduciary duty as asset managers to understand this new dimension of risk and adjust our portfolios accordingly.
So all in all, as we emerge from our hibernation, we are confronted yet again but the challenges we have faced for a number of years with with a renewed sense of urgency to find solutions for our clients and society that can truly stand the test of time.
Group Chief Investment Officer