BCM MACRO ALLOCATION

BCM Macro Allocation (MA) is a global macro or global tactical allocation strategy. These broad categories include different investing styles but share a common big-picture theme with MA, 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 equity funds experienced a consequential shift from active to passive management as shown below by Morningstar investment research. The change shows investors are increasingly buying and selling equity groups (based on market indices) instead of single stocks (based on individual companies).  

ACTIVE VS PASSIVE

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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 they also introduce new issues.

Fintech enables modern investors to act (and often overreact) on fear, greed, and speculation like never before, leading to more irrational and volatile market activity than in the past. 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.

DJVol20201008.png

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 is no coincidence the rise coincided with some of the most notable fintech innovations in modern history like index funds in the 1970s, internet trading in the 1990s, and mobile investing in the past decade. 

These changes not only affect how markets and investors behave but also create opportunities because of 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 managers make decisions at the company level, like "buy Apple or Google." MA does not consider individual companies and instead focuses on market indices like the Russell 1000 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 US 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, market history demonstrates this concept in the real world. For example, in the late 1990s, US stock investors experienced gains regardless of which stocks they owned due to the dot-com boom. However, by the early 2000s, investors experienced losses as the boom went bust. The same can be said of 2006 versus 2008 (financial boom-bust), or any market cycle throughout history. 

S&P 500 ANNUAL RETURNS

Markets20210203.png

 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 will "beat the market," many investors have done so.  However, the right question to ask is can that be done consistently to beat a relevant benchmark on a risk-adjusted basis 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 they 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 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.