Tag Archives: invesco

Time To Throw Out The Rising-Rate Playbook?

Summary Relying on “tried-and-true” rising-rate playbook strategies in today’s markets may not be helpful because we’ve never been in this exact economic environment before. The “typical” conditions that have accompanied tightening cycles during the past 35 have mostly run their course in the present cycle, which is more than six years old. Unprecedented conditions call for active management because rules-based approaches that rely heavily on historical playbooks often break down at inflection points. Today’s markets are in uncharted economic territory, where ‘go-to’ strategies require prudent skepticism By Clint Harris, Senior Client Portfolio Manager We’ve seen daily references to what has worked – or hasn’t worked – when interest rates have risen in the past. Strategists, asset managers and pundits have dusted off numerous “tried-and-true” historical playbooks for investing in a rising-rate environment. But here’s the problem with applying those lessons to today’s markets: We’ve never been in this exact economic environment before, so relying too heavily on what’s worked in the past may not be particularly helpful. What makes today’s environment unique? In my view, the current torrent of rising-rate analyses should be taken with healthy dose of skepticism. Why? Here are three reasons. First, the “typical” conditions that have accompanied tightening cycles during the past 35 years include rebounding margins and improving credit conditions and sales growth. But these conditions have mostly run their course in the present bull market cycle, which began in March 2009. Today, margins are plateauing (Figure 1), credit conditions are worsening (Figure 2), and sales revisions are showing declines in growth. Figure 1 Source: FactSet Research Systems. Past performance is not a guarantee of future results. What happens when monetary policy tightens in the midst of these conditions? We don’t know because we’ve never seen it happen. It’s unusual for the Federal Reserve (Fed) to begin monetary tightening so late in the profit cycle. The Fed has rarely, if ever, started to raise rates when sales growth is disappointing, delinquency rates for commercial and industrial (C&I) loans are worsening (Figure 2), corporate margins are narrowing, and other major central banks are loosening monetary policy. Figure 2 Source: FactSet Research Systems. Past performance is not a guarantee of future results. Second, the federal funds target rate, currently between zero and 0.25%, 1 hasn’t seen these levels since the 1940s (Figure 3). The 10-year US Treasury bill, at 2.32% for the week ending Nov. 13, hasn’t been this low in 60 years. 1 We have simply not seen a tightening cycle from these levels in modern times. Figure 3 Source: US Treasury. Past performance is not a guarantee of future results. Third, many asset classifications in use today – for example, value stocks, growth stocks, core plus bond strategies, emerging market debt, master limited partnerships (MLP), floating rate securities and convertibles – either didn’t exist or didn’t have widely available proxies in the 1920s and 1930s. As a result, no one has been able to write a playbook that goes back far enough in history to be applicable to today’s environment. Even if we could, the economy is so different today that the interpretation may be misused. Where do we go from here? Unprecedented conditions call for active management. Why? Rules-based approaches that rely heavily on historical playbooks often break down at inflection points. This is particularly important today as I believe we face the most expected tightening cycle in history. Active management uses sound fundamental research to anticipate potential changes in conditions to position client assets accordingly. Our Invesco Dividend Value team has often remarked that results for our clients are made or broken at inflection points. It’s important to exercise a healthy degree of skepticism and a willingness to go against consensus when supported by bottom-up analysis. This is particularly important today as everyone seems to be using the same rising-rate playbook. Our team has successfully navigated numerous economic environments by maintaining a full market cycle perspective. We believe this experience becomes even more important as investors, who are less focused on the signs of a mature profit cycle, seek a revised rising-rate playbook for today’s environment. Learn more about Invesco Diversified Dividend Fund and Invesco Diversified Income Fund . Sources US Federal Reserve System, Nov. 16, 2015 Important information Profit margin measures the profitability of a company by dividing net income by revenues. A master limited partnership is a publicly traded limited partnership in which the limited partner provides capital and receives periodic income distributions from the MLP’s cash flow and the general partner manages the MLP’s affairs and receives compensation linked to its performance. Floating rates are interest rates that are allowed to move up and down with the rest of the market or with an index. The federal funds target rate is the interest rate at which banks and other depository institutions lend money to each other, usually on an overnight basis. An inflection point is an event that results in a significant positive or negative change in the progress of a company, industry, sector, economy or geopolitical situation. Credit conditions denote the availability of loans, or credit. About risk A value style of investing is subject to the risk that the valuations never improve or that the returns will trail other styles of investing or the overall stock markets. The Fund is subject to certain other risks. Please see the current prospectus for more information regarding the risks associated with an investment in the Fund. Before investing, carefully read the prospectus and/or summary prospectus and carefully consider the investment objectives, risks, charges and expenses. For this and more complete information about the products, visit invesco.com/fundprospectus for a prospectus/summary prospectus. The information provided is for educational purposes only and does not constitute a recommendation of the suitability of any investment strategy for a particular investor. Invesco does not provide tax advice. The tax information contained herein is general and is not exhaustive by nature. Federal and state tax laws are complex and constantly changing. Investors should always consult their own legal or tax professional for information concerning their individual situation. The opinions expressed are those of the authors, are based on current market conditions and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals. NOT FDIC INSURED MAY LOSE VALUE NO BANK GUARANTEE All data provided by Invesco unless otherwise noted. Invesco Distributors, Inc. is the US distributor for Invesco Ltd.’s retail products and collective trust funds. Invesco Advisers, Inc. and other affiliated investment advisers mentioned provide investment advisory services and do not sell securities. Invesco Unit Investment Trusts are distributed by the sponsor, Invesco Capital Markets, Inc., and broker-dealers including Invesco Distributors, Inc. PowerShares® is a registered trademark of Invesco PowerShares Capital Management LLC (Invesco PowerShares). Each entity is an indirect, wholly owned subsidiary of Invesco Ltd. ©2015 Invesco Ltd. All rights reserved. Time to throw out the rising-rate playbook? by Invesco Blog

4 Key Reasons To Consider Market Neutral Investing

Summary The Invesco Quantitative Strategies team believes one way to buffer the effects of market downturns, volatility and rising interest rates is to add market neutral equity strategies to traditional portfolios. The strategies may offer several potential benefits to investor portfolios, including diversification from traditional asset classes, ability to dampen volatility, cushion against equity market declines and boost from rising rates. We believe a market neutral equity strategy can be an excellent diversification tool that enables investors to pursue increased returns from assets that respond differently to changing markets. Low correlation, downside protection and rising rate performance among key benefits By Kenneth Masse, Client Portfolio Manager The market downturn and ensuing volatility in the third quarter of 2015 is a timely reminder about the benefits of diversifying your portfolio with investment strategies that are expected to exhibit little-to-no correlation with the broad equity and bond markets. Moreover, as the US enters the late innings of its current economic growth cycle, many professional and individual investors are expecting lower returns from equities going forward than they’ve enjoyed over the last few years. These lowered expectations are on top of concern about what will happen to investors’ bond holdings when today’s historically low interest rates eventually rise. The Invesco Quantitative Strategies team believes one potential way to buffer the effects of market downturns, volatility and rising interest rates is to add market neutral equity strategies to traditional portfolios, as they potentially offer a unique approach to generating return regardless of the general movements of the equity and bond markets. In this blog, I outline four of the top reasons to consider market neutral equity strategies: 1. They have very low levels of correlation to other asset classes One of the ways investors attempt to manage and mitigate risk is by combining strategies that differ within and across asset classes to help diversify their return pattern over time. Using this approach, investors’ wealth creation is not tied to the fortunes of just one or a few investment options. Since market neutral strategies typically seek to eliminate exposure to the broader market, these strategies have also delivered attractively low levels of correlation, not only to the equity markets, but to other broad asset classes as well. As shown in Figure 1, from January 1997 to August 2015, market neutral strategies had only a 0.18 correlation to equities and a 0.04 correlation to bonds. Market neutral also had low correlation to another popular asset class, commodities, as well as to other segments of the fixed income market, such as leveraged loans and high yield. As investors seek to diversify their holdings in order to lower overall volatility, we believe market neutral strategies should be considered as a way to achieve that goal. Sources: Invesco and StyleADVISOR. (January 1997 – August 2015) BarclayHedge Alternative Investment Database. Past performance is not a guarantee of future results. Investments cannot be made directly into an index. 2. They may offer lower levels of total volatility Another way to potentially mitigate risk across an investment lineup is to include strategies that may offer lower levels of total volatility (variation in portfolio returns). Even if these strategies were perfectly correlated with other investments, their potentially lower total volatility profile could help lower the overall average volatility of the full lineup. Market neutral strategies also may be appealing to investors from this total volatility perspective, as their volatility has tended to be less than the broader equity markets, and in some cases, similar to broad fixed income indexes (see Figure 2). Furthermore, since market neutral returns are expected to be independent of the broader equity market, a spike in market-level volatility may not necessarily mean a spike in market neutral volatility. Sources: Invesco and StyleADVISOR. (January 1997 – August 2015). BarclayHedge Alternative Investment Database. Past performance is not a guarantee of future results. Investments cannot be made directly into an index. 3. They have a history of attractive downside protection during extreme market stress Another often-cited potential benefit of market neutral is that the strategies may offer investors a way to mitigate severe losses during a sharp equity market sell-off. Because these strategies typically have beta exposure to the market that hovers around zero, a big drop (or surge) in equities should not influence the performance of the strategy. This contrasts sharply with traditional, benchmark-centric strategies, which typically have very high levels of market exposure and tend to vary similarly to the broader market. Sources: Invesco and StyleADVISOR. January 1997 – August 2015. BarclayHedge Alternative Investment Database. Past performance is not a guarantee of future results. Investments cannot be made directly into an index. 4. They can provide an opportunity for higher returns in a rising interest rate environment. We believe an increase in the federal funds rate from the US Federal Reserve is inevitable; at this point it’s simply a matter of when and by how much. For market neutral equity strategies, a rise in interest rates – specifically short-term interest rates – can potentially provide a boost to returns. This occurs when market neutral equity strategies short a stock and receive proceeds from that sale. Those proceeds typically earn a rate of return tied to the prevailing short-term interest rate, such as the fed funds rate. When that rate increases, so does the interest earned by market neutral equity strategies on their short sale proceeds Key takeaway We believe a market neutral equity strategy is a valuable complement to a traditional portfolio of stocks and bonds, as well as an excellent diversification tool that enables investors to pursue increased returns from assets that respond differently to changing market conditions. Such characteristics may be important to today’s investors given the recent market downturn, volatility and expectation of rising interest rates. Important information Beta is a measure of risk representing how a security is expected to respond to general market movements. Correlation is the degree to which two investments have historically moved in relation to each other. Volatility measures the amount of fluctuation in the price of a security or portfolio over time. The S&P 500® Index is an unmanaged index considered representative of the US stock market. The S&P/LSTA US Leveraged Loan 100 Index is representative of the performance of the largest facilities in the leveraged loan market. The S&P GSCI Index is an unmanaged world production-weighted index composed of the principal physical commodities that are the subject of active, liquid futures markets. The BofA Merrill Lynch US High Yield Index tracks the performance of US dollar-denominated, below-investment-grade corporate debt publicly issued in the US domestic market. BarclayHedge Alternative Investment Database is a computerized database that tracks and analyzes the performance of approximately 6800 hedge fund and managed futures investment programs worldwide. BarclayHedge has created and regularly updates 18 proprietary hedge fund indices and 10 managed futures indices. BarclayHedge indexes reflect performance of hedge funds, not of retail investment strategies, and are used for illustrative purposes only solely as points of reference in evaluating alternative investment strategies. Please note: BarclayHedge is not affiliated with Barclays Bank or any of its affiliated entities. Performance for funds included in the BarclayHedge indices is reported underlying fees in net of fees. About risk Commodities may subject an investor to greater volatility than traditional securities such as stocks and bonds and can fluctuate significantly based on weather, political, tax, and other regulatory and market developments. Fixed-income investments are subject to credit risk of the issuer and the effects of changing interest rates. Interest rate risk refers to the risk that bond prices generally fall as interest rates rise and vice versa. An issuer may be unable to meet interest and/or principal payments, thereby causing its instruments to decrease in value and lowering the issuer’s credit rating. Most senior loans are made to corporations with below investment-grade credit ratings and are subject to significant credit, valuation and liquidity risk. The value of the collateral securing a loan may not be sufficient to cover the amount owed, may be found invalid or may be used to pay other outstanding obligations of the borrower under applicable law. There is also the risk that the collateral may be difficult to liquidate, or that a majority of the collateral may be illiquid. Junk bonds involve a greater risk of default or price changes due to changes in the issuer’s credit quality. The values of junk bonds fluctuate more than those of high quality bonds and can decline significantly over short time periods. Derivatives may be more volatile and less liquid than traditional investments and are subject to market, interest rate, credit, leverage, counterparty and management risks. An investment in a derivative could lose more than the cash amount invested. Short sales may cause the fund to repurchase a security at a higher price, causing a loss. As there is no limit on how much the price of the security can increase, the fund’s exposure is unlimited. The information provided is for educational purposes only and does not constitute a recommendation of the suitability of any investment strategy for a particular investor. Invesco does not provide tax advice. The tax information contained herein is general and is not exhaustive by nature. Federal and state tax laws are complex and constantly changing. Investors should always consult their own legal or tax professional for information concerning their individual situation. The opinions expressed are those of the authors, are based on current market conditions and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals. NOT FDIC INSURED MAY LOSE VALUE NO BANK GUARANTEE All data provided by Invesco unless otherwise noted. Invesco Distributors, Inc. is the US distributor for Invesco Ltd.’s retail products and collective trust funds. Invesco Advisers, Inc. and other affiliated investment advisers mentioned provide investment advisory services and do not sell securities. Invesco Unit Investment Trusts are distributed by the sponsor, Invesco Capital Markets, Inc., and broker-dealers including Invesco Distributors, Inc. PowerShares® is a registered trademark of Invesco PowerShares Capital Management LLC (Invesco PowerShares). Each entity is an indirect, wholly owned subsidiary of Invesco Ltd. ©2015 Invesco Ltd. All rights reserved. Four key reasons to consider market neutral investing by Invesco Blog

Beyond The Benchmark: Tracking Error Vs. Active Share

Summary We have reservations about using tracking error to gauge “active investing” because it relies on historical volatility data versus a benchmark to draw conclusions about risk. Active share, in our view, provides a clearer picture of how active a fund manager is as compared with drawing conclusions from standard deviation calculations. We believe the fund has to be meaningfully different to its benchmark to create an opportunity to deliver alpha. We believe active share more clearly shows how a fund and benchmark differ, a key to delivering alpha. By Rob Stabler, Product Director Active share, a tool for demonstrating how a fund’s portfolio differs from its respective benchmark, has been a common term among active investors over the last few years. Tracking error, which has a much longer history, is often regarded as another tool that does the same job. But the differences between the two measures affect how Invesco’s Global Opportunities investment team views their effectiveness and usefulness for investors. Tracking error: Useful from returns perspective Tracking error – the divergence between price behaviors of a portfolio and its benchmark – is a backward looking tool, using historical data to show the volatility of the fund’s returns versus that of its benchmark. It’s useful in demonstrating how closely a portfolio follows its benchmark from a returns perspective. However, it’s important to consider these two questions: What’s the benchmark? A fund with a low tracking error versus a volatile benchmark may not produce the return profile investors seek. Are upside and downside volatility equally important to investors? The most common method of assessing tracking error involves calculating the standard deviation of the fund and benchmark returns, which reflects both upside and downside volatility. In our experience, however, investors have been more concerned about the implications of downside volatility. More importantly, as active investors, our team’s main reservation about tracking error is acceptance of the benchmark as the right reference point for measuring volatility and, by implication, risk. In contrast, the investment world doesn’t revolve around the benchmark for our fund managers. We define risk as the potential for permanent loss of capital, using maximum drawdown and downside volatility as indicators. And we often view volatility – at least in the short term – as an opportunity to exploit valuation anomalies in the stock market. Active share: Looks at holdings and weightings Active share is a much simpler calculation that provides a snapshot in time. It measures how different a portfolio is from its benchmark by comparing the fund’s holdings and their weightings with those of the benchmark. We believe active share provides a clearer picture of how active a fund manager is than drawing conclusions from standard deviation calculations. In simple terms, a tracker fund that perfectly replicates its benchmark will have an active share of 0%, while an active fund that owns no constituents of its reference benchmark will have an active share of 100%. This measure is increasingly important, given the rise of passive investing and the need to differentiate between quasi-passive and genuinely active managers. Origin of active share The concept of active share was introduced in research by Martijn Cremers and Antti Petajisto, which indicated that portfolios with a high active share were, on average, likely to outperform their benchmarks, suggesting a positive correlation between performance and active share. 1 Additional research by Cremers and fellow economist Ankur Pareek 2 combined active share analysis with portfolio managers’ stock holding period, where long duration is defined as more than two years. The research shows clear outperformance, on average, of those strategies that combine high active share and long duration, or low turnover, of stocks. Of course, past performance does not guarantee future results. Earlier this year, Invesco published a white paper examining the historical outperformance of active management , using active share as the measuring stick for active management. Because high active share offers no performance guarantee, it’s possible to have a high active share portfolio that underperforms its benchmark. However, our team believes that to outperform a benchmark, portfolio construction needs to differ from the benchmark, and active share is a reliable, easy way of measuring this. So while active share doesn’t guarantee performance, we believe it’s a prerequisite – if you aren’t different, then you can’t hope to achieve a different result, good or bad. By-product of investment philosophy While we don’t explicitly target a high active share in the Invesco Global Opportunities strategy, it’s a by-product of our investment philosophy – concentrated and flexible investing that views risk as absolute, not relative. The result is an active share that is typically high, currently at 95%. Put simply, to create an opportunity to deliver alpha for our investors, we believe the fund has to be meaningfully different from its benchmark. In addition, we see no evidence to suggest a direct link between the strategy’s tracking error and performance. Sources “How active is your fund manager? A new measure that predicts performance,” Aug. 7, 2006. Patient Capital Outperformance: “The Investment Skill of High Active Share Managers Who Trade Infrequently,” Sept. 19, 2014. Important information Alpha refers to the excess returns of a fund relative to the return of a benchmark index. Standard deviation measures a portfolio’s range of total returns and identifies the spread of a portfolio’s short-term fluctuations. Drawdown is the largest cumulative percentage decline in net asset value as measured on a month-end basis. Absolute return refers to the return an asset achieves over a certain period of time, without comparison to another measure or benchmark. The information provided is for educational purposes only and does not constitute a recommendation of the suitability of any investment strategy for a particular investor. Invesco does not provide tax advice. The tax information contained herein is general and is not exhaustive by nature. Federal and state tax laws are complex and constantly changing. Investors should always consult their own legal or tax professional for information concerning their individual situation. The opinions expressed are those of the authors, are based on current market conditions and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals. NOT FDIC INSURED MAY LOSE VALUE NO BANK GUARANTEE All data provided by Invesco unless otherwise noted. Invesco Distributors, Inc. is the US distributor for Invesco Ltd.’s retail products and collective trust funds. Invesco Advisers, Inc. and other affiliated investment advisers mentioned provide investment advisory services and do not sell securities. Invesco Unit Investment Trusts are distributed by the sponsor, Invesco Capital Markets, Inc., and broker-dealers including Invesco Distributors, Inc. PowerShares® is a registered trademark of Invesco PowerShares Capital Management LLC (Invesco PowerShares). Each entity is an indirect, wholly owned subsidiary of Invesco Ltd. ©2015 Invesco Ltd. All rights reserved. Beyond the benchmark: Tracking error versus active share by Invesco Blog