Review and Outlook
Defensive risk management stands the test of time
Records across the board, we wrote in our last report. The record levels set in 2019 are now in shambles. However, the first quarter of 2020 also has records to show – albeit with opposite market movements. The markets needed a good reason for this, which they suddenly found and which will keep us busy in the coming months. Covid-19 has changed the world, and it will have consequences comparable to those of the terrorist attacks on the World Trade Center in New York in 2001. Such drastic and emotional experiences have a lasting impact on the behavior of the population, investors and consumers, even if economic activity returns to normal.
Thanks to our defensive risk management, we were able to significantly mitigate the losses in the first quarter of 2020 for our customers. Our global equity fund PARworld outperformed its benchmark (70% Equities World, 30% Cash) by more than 6% after costs in March. Compared with the pure equity index World (MSCI World), the fund outperformed its benchmark by 10.4% in Swiss franc terms. Compared with UBS’s highly regarded pension fund index, our defensive pension fund PARtact Pension performed significantly better and lost 2.4% less.
|Asset class||Index||Return |
as of 31.03.2020
as of 31.03.2020
in base currency
|Equities World||MSCI World Net USD||-20.93%||-9.87%|
|Equities Switzerland||Swiss Performance Index||-11.82%||+0.70%|
|Equities EM||MSCI Emerging Markets NR USD||-23.57%||-17.36%|
|Bonds World||JPM GBI Global Traded TR USD||3.10%||7.35%|
|Bonds Switzerland||Swiss Bond Index AAA-BBB TR||-2.58%||-1.42%|
|Commodities||Thomson Reuters/Jefferies CRB TR USD||-34.25%||-32.50%|
|Real Estate Switzerland||SXI Real Estate® Funds TR CHF||-3.45%||7.42%|
|Real Estate World||FTSE EPRA/NAREIT Global TR USD||-28.37%||-23.01%|
|Exchange rate EUR/CHF||-2.32%||-5.06%|
|Exchange rate USD/CHF||-0.08%||-2.85%|
In January we wrote the following:
«At PARSUMO we live according to the motto of caution. We therefore use defensive risk management, which is fundamental in certain market phases in order to have long term success. We and our clients are aware that this is tied to some performance loss. Avoiding “tail risks” in certain market phases is what our clients appreciate about our approach. They are also prepared to pay a reasonable premium for this.»
Our caution has paid off. The unimaginable has happened, and Covid-19 is turning everything upside down. What was true yesterday may already be history today and must give way to a reassessment. Is that so? Or does it look even worse?
At the beginning of the year, we propagated the idea of accompanying a strategically slightly higher equity ratio (long-term orientation) with cautious risk management. Our statement was:
«Our indicators will show us a change in risk at an early stage. We are convinced that the attentive monitoring of Global SRI and defensive risk management will be invaluable for the future. They will become even more imperative as the bull market continues to last.»
Our proprietary indicator for measuring global systemic risk – the Global SRI – signalled a warning on 28 February 2020. We immediately put our discretionary assets under management into protection mode and were therefore able to significantly avoid the losses on the equity markets that have occurred since then.
The following table illustrates the setbacks from the beginning of the year to the end of February and to the end of March in percent. The Swiss equity market stands out, having once again demonstrated its relative strength compared with all other markets.
YTD returns as per end of February and end of March in Swiss francs
|RRI-Funds in comparison to market indices||End of February||End of March|
|PARSUMO – PARtact Dynamic Strategy Fund||-5.56%||-10.04%|
|PARSUMO – PARtact Pension Strategy Fund||-3.92%||-6.98%|
|PARSUMO – PARworld Dynamic Eq Strat Fd||-8.91%||-11.49%|
|MSCI World NR USD||-9.05%||-21.12%|
|SIX SMI TR CHF||-7.40%||-10.97%|
|SIX SPI TR CHF||-7.32%||-11.82%|
|SIX SMI Mid TR CHF||-8.83%||-20.17%|
|MSCI EMU NR Hdg CHF||-9.51%||-25.09%|
|FSE DAX PR EUR||-12.48%||-27.00%|
|MSCI EM NR USD||-9.73%||-23.66%|
|MSCI EM Eastern Europe NR USD||-17.62%||-36.64%|
|S&P 500 TR USD||-8.31%||-19.66%|
|S&P SmallCap 600 TR USD||-13.23%||-32.69%|
|MSCI Pacific Ex Japan NR USD||-9.26%||-27.66%|
|MSCI Japan NR LCL||-11.05%||-17.34%|
|SIX SXI Real Estate Funds Broad TR CHF||2.99%||-3.45%|
|FTSE EPRA Nareit UK TR GBP||-14.41%||-32.15%|
|FTSE EPRA Nareit US Dividend+ TR USD||-7.43%||-29.54%|
|FTSE EPRA Nareit Global TR USD||-7.88%||-28.43%|
|TReuters/CoreCommodity CRB TR USD||-14.00%||-34.30%|
|SIX SBI AAA–BBB TR CHF||2.68%||-2.58%|
|JPM GBI Global Traded TR USD||2.97%||3.01%|
|ZKB Gold ETF AA CHF||6.17%||6.03%|
The current market turbulence has made something very clear to us: If investing is the new saving, extreme caution is required.
But even after the drastic market setbacks of the past few weeks, it is important not to bury one’s head in the sand. On the contrary, we must wait for the right moment and, as soon as the risk situation improves again, rebuild the currently record-low equity ratio at the right time.
Has the time already come to increase the tangible asset ratio?
No, because based on the development of our risk indicators it seems likely that we will test the lows of the first sales wave again and possibly even fall below them.
Risk Regime Investing (RRI) Outlook
Our Global Systemic Risk Index, which measures systemic risks – in other words, the fragility of the markets – has impressively demonstrated its reliability. It shows no sign of haste and is still well above the mark that would signal calm and robust market conditions. Investors still have to be patient until the markets return to normal.
However, we are confident that the situation will brighten up unexpectedly and quickly, much as it did during the financial crisis. We have been able to protect assets favourably over the past five weeks; now we must manage the timing of the re-entry in a disciplined and unemotional manner. To achieve this, we monitor and analyse the development of our Global Systemic Risk Index on a daily basis.
As risk managers, we still recommend today what we have already been advising during the past years: To hold tangible assets that offer far better long-term returns than other asset classes, and to do a little too much of that rather than too little. As an accompanying measure, however, reliable and defensive risk management is imperative.
Quantitative Stock Selection (QSS) Outlook
The relative returns on our QSS mandates have been positive since the beginning of 2020 despite the market dislocations. In the Small & Mid Caps portfolio, we generated an outperformance of 2.3%, but the Swiss and European Equity portfolios also performed in line with or better than the index. The PARemerging Market Equities Fund was exceptionally stable compared to its benchmark. These pleasing results are due to our defensive style positioning – we continued to favour good quality, low risk and (improved) earnings estimates. While the Momentum and Growth styles showed no significant changes during the crisis month of March, we again saw an extraordinary negative relative performance of the styles Value (-13.3%) and Risk (-12.7%).
Because of the consequences of Covid-19, the style preferences have developed in our favor, because only the style quality was able to beat the benchmark. However, quality stocks did not perform well in general; only quality in connection with the “defensive” rating enabled an outperformance of 2.7%. By contrast, cheap quality stocks were avoided and underperformed by 10.2%. It was therefore important to select the right segment within the styles.
To manage our QSS mandates, we also rely on a business cycle model. This proven leading indicator consists of several components, including consumer confidence, unemployment rate, credit spreads and earnings revision rate. It is interesting to note that it has recently signalled a future expansion of the global economy.
However, due to Covid-19 and the resulting economic stagnation, the trend of the leading indicator is not expected to materialise in the real economy. This would normally happen with a delay of several months, but is unlikely given the current constellation.
When such false signals occur, sustained price pressure on the stock markets can be expected. In our QSS mandates, we are therefore maintaining our positioning in defensive styles.
Global Financial Markets – Review
Investors will not forget the first quarter of 2020 so quickly. In the first half of March, the more than ten-year-old bull market turned into a bear market in record time and the daily losses on the international stock markets were dizzying. Gigantic monetary and fiscal policy measures led to rapid recovery movements, but the markets remain as volatile as they were during the financial crisis of 2008. The SPI recorded a loss of -11.82% from January to March, which compares well with international figures. The MSCI World stock index closed the quarter down 21.05%, while emerging market equities as measured by the MSCI Emerging Markets index fell 23.60%. The Chinese stock market held up surprisingly well, with the CSI 300 Index and the Shanghai Composite Index at the end of March only about 10% lower than at the beginning of the year. In addition, investors calculating in Swiss francs suffered smaller currency losses in both European and dollar-denominated securities.
Investment-grade bonds were the only asset class to post a slightly positive performance in the first quarter of 2019: JP Morgan’s global index rose 3.10% from January to March, equivalent to a performance of 3.01% in Swiss franc terms. Swiss franc bonds with a credit rating between BBB and AAA declined 2.58% in the first quarter. The difference in yield between short- and long-term Swiss franc bonds remained more or less the same, only the one-year interest rate rose.
Commodities are the asset class that has suffered the most from the recent turbulence. In addition to expectations of a collapse in global demand fears were compounded by the Saudi Arabian-induced oil price shock – the price of a barrel of WTI crude oil has fallen 60% since the beginning of the year. The broad-based commodity index CRB fell 34.25% in the first quarter (34.30% in Swiss francs). Despite significant declines in March, gold at least partially lived up to its status as a safe haven in uncertain times, gaining 5.36% from January to the end of March.
Following the exceptionally good year 2019, securities invested in real estate were also dragged down by the market slump. Although real estate generally benefits greatly from low interest rates and a glut of liquidity, the real estate markets have come to an abrupt halt. While residential real estate is expected to recover soon, the situation for commercial real estate could remain difficult for some time, not least because the coronavirus has shown the world that home office and e-commerce work well. Swiss real estate measured by the SXI Real Estate Funds showed a performance of -3.45% in the first quarter of 2020, while foreign real estate investments collapsed by 28.37% (in Swiss francs -28.43%).
Once again, the Swiss franc acted as a safe haven in a crisis, much to the displeasure of the SNB. Central banks around the world flooded the markets with even more liquidity. The Fed cut interest rates to zero without further ado and for the first time announced a programme to buy corporate bonds. The ECB threw the last remaining inhibitions overboard – if it still had any after its monetary policy of recent years. Amid the Covid-19 shock on global financial markets, the dollar remained virtually unchanged against the franc in the first quarter. The euro continued its protracted weakness, trading 2.32% lower against the Swiss franc at the end of March than at the beginning of the year. The single currency lost 2.25% against the dollar.