Risk. Return. Distribution. Correlation. As we head into the uncertainty of 2017, portfolio managers will have no problem earning their fees. But as the yield curve on sovereign bonds, especially United States Treasuries, begins to edge higher, investors must remain vigilant. Now, more than ever, it is essential to keep an eye on the long-term horizon and challenge old assumptions that may no longer hold true.
Assumptions can be useful to simplify complex systems, but if left unexamined, they can do immense damage. A famous recent example is from 2008, when former Federal Reserve chairman Alan Greenspan admitted to a major flaw in his governing theory of markets, namely that they would police themselves as risk markets became more and more sophisticated. Nine years later, with uncertainty rife, consumer credit piling up and a new incoming administration, investors cannot afford exposure to another such flaw.
This is especially important for institutional investors. As a rule, institutional fund managers need long-term, low-risk, stable growth to meet large and predictable obligations. Many, including the largest pension fund, CalPERS, and the largest sovereign wealth fund, Norway’s, are doubly in the red. They are underfunded vis-à-vis their obligations and their annualized returns have not been hitting their targets. Indeed, the California pension giant is only 68 percent funded, while Norway’s fund requires 4 percent annual returns, but expects to average only 2.3 percent over the next three decades.
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