Emma Wall: Hello, and welcome to the Morningstar series, "Ask the Expert." I'm Emma Wall and I'm joined today by Morningstar Investment Management's Mike Coop to talk about risk.
Hi, Mike.
Mike Coop: Hi, Emma.
Wall: So, we're here today to talk about risk. But I think before we get into the risks that are in the market, we should talk about the market itself. So, year-to-date, set the scene. Where are we now?
Coop: Things are still pretty buoyant. Last month hasn't been quite so racey, but most markets are up double-digits on equities, bonds have done okay. It's really been commodities and probably Lincolns that haven't done that well. So, pretty good by and large and we haven't had a material sell-off this year unlike most other years. Volatility has been pretty low. So, yeah, I think, investors are still feeling pretty good about things.
Wall: I think that point though is key in that unlike other years, the last five years, there hasn't been a significant drawdown in markets, which means for you as value-based investors, this is getting quite a difficult market to invest in, isn't it?
Coop: Yes. But we use valuation as our guide to both return and risk over the long term. And what's happening is that there are fewer and fewer markets that are trading at or below fair value in the long run. So, the challenge really is, you have to fossick pretty hard to find things.
So, it basically means unfortunately lower returns for investors and the challenge is, this is also happening at a time when things are becoming less supportive. We have – believe it or not, interest rates have actually been going up for quite a while. And we are now seeing the rollback of some of the quantitative easing programmes. So, it throws some challenges up for investors.
Wall: And where have you been adding recently? Because you're saying it's much more difficult to find value-driven investment opportunities. Where have you been looking?
Coop: We've had to dig into sectors in individual countries. So, Russian equities has been a market that is still very lowly-priced. They have been through recession. The earnings profile is good enough to offer you a pretty good return given the current valuation. European telecoms is another out-of-favour sector.
But you know, Emma, it's been really tough finding things and we're really at a point now where there's hardly anything that really offers good value, whereas 12, 18 months ago there were a lot more assets and a lot more of the emerging complex would have fitted into that category.
Wall: Okay. Well, we don't want to end this video on such a low note. What should investors do given this much lower-return forecast and given the fact that it is just so much harder to find any good value opportunities?
Coop: Yeah. I think investors have got two choices. You either just push on for return, accept the higher risks that you face. Or you decide that in fact it's not worth taking on a lot more risk for a little bit of extra return. You give up a little bit of return and what you end up with is a bit of firepower for buying assets when they become cheaper and you reduce the risk. And that's really what we've decided to do. The reward for risk is generally not attractive. It's become increasingly less attractive and for the long-term investor this is not the time to be taking a lot of risk.
Wall: So, basically, get more cautious, focus on capital preservation. And does cash have a part to play in all of that?
Coop: I think it does. I mean, cash is boring, returns are low. People go, why have we got cash? It gives us optionality. It means when markets fall, we can buy them. It's also not a bad place to stick your money when everything else is expensive. So, that means you don't have to buy things whey they are expensive.
Wall: And diversification is key as well, isn't it?
Coop: Diversification is key and that's really tricky at the moment. Think hard about what you're exposed to and the things that offset some of those risks. And so, there are parts of the fixed income market that are starting to offer a bit better value for that. But you have to be particularly careful about the mixture of assets you hold.
Wall: Mike, thank you very much.
Coop: My pleasure.
Wall: This is Emma Wall for Morningstar. Thank you for watching.
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