This new environment presents challenges and opportunities
JPMorgan CEO Jamie Dimon says he sees a new trend developing in financial markets: a shift toward higher volatility and lower liquidity.
He says these challenges are “probably here to stay” in his 2015 letter to shareholders.
What does value investing really mean? Q1 2021 hedge fund letters, conferences and more Some investors might argue value investing means buying stocks trading at a discount to net asset value or book value. This is the sort of value investing Benjamin Graham pioneered in the early 1920s and 1930s. Other investors might argue value Read More
“In the last year or two, we have seen extreme volatility in the U.S. Treasury market, the G10 foreign exchange markets and the U.S. equity markets, writes Dimon. “We have also seen more than normal volatility in global credit markets. These violent market swings are usually an indication of poor liquidity.”
JPMorgan – Little Consensus on Cause
Many investors recall last August’s “mini-flash crash” in risk assets that spilled over into the U.S. The Dow Jones plunged 1,000 points in three days, and even traditionally defensive stocks like Johnson & Johnson declined nearly 20%.
Experts offered many explanations for the sudden drop, but there’s been little consensus on the root cause. Even Dimon, arguably the top banking CEO in the world, says: “the bad news is that we don’t completely understand why this is happening.”
Dimon notes recent drops in other global asset classes, including sovereign bond and currency markets. “One of the surprises is that these markets are some of the most actively traded, liquid and standardized in the world.”
Despite not fully understanding the fundamental forces that are driving these new trends, JPMorgan has adapted and found opportunity. The bank generated record profits in 2015, with less than 20 days of unprofitable trading in the last three years.
”One could reasonably argue that lower liquidity and higher volatility are not necessarily a bad thing,” Dimon says.
Opportunity for alternatives investors
While higher volatility is likely to be bad news for traditional asset classes, we believe it offers opportunities for investors who use alternative strategies. Long-term trend following historically has benefitted during periods of elevated volatility, such as the 2008-2009 financial crisis and the 2000-2002 recession.
Similar to JPMorgan, trend followers don’t need to figure out “why” markets are changing. By design, the strategy aims to control risk and benefit from opportunities that arise during periods of volatility.
The market environment in 2015 helped managed futures strategies to outperform traditional asset classes by a wide margin. If volatility is here to stay, we believe alternatives will continue to offer an opportunity to thrive in this new environment.
Ross Hendricks is a senior portfolio consultant at Longboard Asset Management, LLC.