One of the most recognised tracks by rock legends Pink Floyd, from the album The Wall and released in 1979. The lyrics describe how the main character of the album, Pink, collapses and is medicated by a doctor to get him back on his feet, causing him to feel comfortably numb.
The similarity with recent financial markets is striking. In the wake of the 2008 financial crisis the US Federal Reserve cut interest rates to 0.25 percent, and this level was maintained for almost 7 years, until rates were gradually raised over the past year. Japan made a similar cut in 1999, experienced a short period of hikes in 2007 and 2008, and then fell back to, or very close to, zero. Interest rate stimulus has often been compared with the constant need of a drug addict for new highs, and the need for higher doses and the risk of relapse are strikingly similar. In its track, Pink Floyd describes a state of apathy, were Pink becomes increasingly distant from reality.
In 2017 we experienced another strong year for financial markets. The major markets globally have all performed positively, and narrowed credit spreads created a favourable environment for debt. It was only the purer fixed income funds, exposed to long-term interest rates, that experienced a somewhat less favourable environment, with interest levels both volatile and slightly rising during the year.
One of the most striking indicators of the financial markets’ apathy is the global measure of risk appetite, the VIX index. This index, which measures implicit volatility in the US stock market, recorded its lowest levels ever during the year. Despite many years of stock market growth and highly inflated share prices, combined with a number of geopolitical events during the year, market participants remained calm. All downturns attracted new buyers and “buy the dips” became an obvious and self-fulfilling strategy. In addition, in the absence of returns in more secure asset classes, investors sought out new hunting grounds during the year. Cryptocurrencies appeared as an entirely new option for earning money, and speculation in Bitcoin and other entirely digital investments brightened the year. No one is questioning the real value of any of these investments, and the complexity of the underlying block chain technology means that nobody dares to suggest the emperor has no clothes in case they appear ignorant.
Catella Fonder is able to look back on a successful year, and the management outcomes for our fixed income funds and our absolute return alternatives, in particular, were really good. Our fund management strategy was refined for our absolute return products during the year, and the portfolios now seem to be even less correlated with the stock market, while remaining well diversified and retaining good liquidity. In a market characterised by a high willingness to adopt risk and an almost apathetic stance towards that risk, this might not be the strategy that maximises short-term returns, but it is a more stable strategy if the situation suddenly changes. It is impossible to predict what might upset a market that right now seems unwavering, but history shows us it is often unwise to take the current situation for granted.
Catella Fonder would like to thank you for entrusting us for another year, and we look forward with excitement to a 2018 filled with new opportunities. Our focus will be on substantial value creation, with well diversified portfolios and a sober stance towards risk.