BCM MA

BCM MACRO ALLOCATION

BCM Macro Allocation (MA) is a global macro and tactical allocation strategy. These broad categories include a range of investing styles but share a common big-picture theme, summarized below.

THE BIG (MACRO) PICTURE

MA's approach began developing in the early 2000s during which time (and since) financial technology created substantial changes in markets and investing.

For example, since 2009 U.S. equity funds experienced a consequential shift from active to passive management as shown below by Morningstar. The change implies investors are increasingly buying and selling equity groups (based on market indices) instead of single stocks (based on individual companies).

ACTIVE VS PASSIVE

Meanwhile, transactions can be made in real-time with a tap of a mobile device and algorithms execute trades at the speed of light for "free." These advancements in financial technology help democratize markets and investing, but also introduce new issues.

Modern investors can act (and often overreact) on fear, greed, and speculation like never before, leading to more irrational and volatile market activity. This phenomenon is observable in market data. The chart below shows the daily price volatility of returns for the Dow Jones Industrial Average from 1960 to 2019 by decade.

DJIA volatility of daily price returns by decade.

Jan. 1, 1960 to Dec. 31, 2019.

Source: S&P Dow Jones Indices, BCM

Volatility more than doubled from 1960 to 2019. It seems like no coincidence the rise coincided with some of the most notable "fintech" innovations in modern history like index funds in the 1970s, online brokers in the 1990s, and mobile trading in the past decade.

These changes not only affect how markets and investors behave but also create opportunities from how quickly and easily today's markets can become mispriced. MA was developed from these changes and designed to thrive in them.

MACRO MATTERS

MA focuses its investment decisions at the market level (or macro level). This differs from how traditional active management makes decisions at the company level, like "buy Apple or Google." MA does not consider individual companies and instead focuses on broad market indices like the S&P 500 or Nikkei 225.

One important reason for this macro approach is most public investment returns can be explained at the market level over time. This statement does not apply to private investments like venture-backed start-ups or private M&A deals. However, in large, liquid, publicly-traded markets (like for U.S. large-cap stocks) most returns can be explained at the market level over time.

This concept is well-supported by empirical, Nobel Prize-winning research and is considered one of the most important findings in modern finance. Seminal studies on the topic include the following.

Markowitz, H. (1952). Portfolio Selection. The Journal of Finance 7(1), pp. 77-91.

Sharpe, W. (1966). Capital Asset Prices: A Theory of Market Equilibrium under Conditions of Risk. The Journal of Finance 19(3), pp. 425-442.

Brinson, G., Hood, L., Beebower, G. (1995). Determinants of Portfolio Performance. Financial Analysts Journal 51(1), pp. 133-138.

Research aside, simple market history demonstrates this concept in the real world. For example, in the late 1990s, many US stock investors experienced gains regardless of which stocks they owned due to the dot-com boom. However, by the early 2000s, many of the same investors experienced losses as the boom went bust. This can also be said of 2006 versus 2008 (financial boom-bust), or any major market cycle throughout history.

S&P 500 ANNUAL RETURNS

Year over year price % change 1929 to 7/2020.

Source: S&P Dow Jones Indices, BCM

The point is the stock market explains most stock returns,* not the other way around. That does not mean we cannot pick stocks that "beat the market," many investors have done so. However, the right question to ask is can that be done consistently over time to beat a relevant benchmark on a risk-adjusted basis and net of costs? The honest answer for most is simply "no."

The ugly truth about stock-picking is some picks are right, some picks are wrong, and over time returns average out. Ironically, "the average" is essentially what the market is, to begin with (i.e. the market return = the average return of all stocks good and bad). One way or another the market still explains returns over time.

After recognizing this simple truth it makes sense to focus investment decisions at the macro, market level. That is where most returns can be explained and where decisions can have the most portfolio impact.

(*Note, "the stock market" is used for simplicity, but the same logic applies to other markets and asset classes.)

THE BOTTOM LINE

The advantages of using a macro approach are well-supported by market history, academic research, and industry practice. Furthermore, the case for using a macro approach becomes even more compelling due to the modern market dynamics described above.

BCM leverages decades of experience and expertise to provide proprietary, actively managed strategies like Macro Allocation that are designed to thrive in today's markets.

This was only a summary overview of one general concept relevant to the MA strategy. Please contact BCM for more details.

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