It is almost time again for PIMCO’s Secular Forum – a critical part of the firm’s investment process.
This annual event, which takes place each May, brings together our investment professionals from around the world to debate and specify the key themes that we believe will affect the global economy and, consequently, our investment strategies over the next three to five years – from asset allocation and relative value positioning to returns expectations and risk management.
To inform our discussion, we have arranged once again for four highly accomplished outside speakers. Similar to prior years, they have been selected on the basis of their thought leadership and investment insights.
We have also chosen the PIMCO colleagues who will act as moderators for each of the four sessions. Detailed background analysis and data are being prepared. And our terrific class of freshly minted MBAs and PhDs, with outside perspectives and newly acquired analytical tools, is already working hard on what these new colleagues feel are the essential medium-term themes.
As many of you know, the Secular Forum has proven to be a beneficial contributor to the firm’s success over the last 40 years. For example:
- It has provided valuable medium-term guardrails for the firm’s higher-frequency cyclical and tactical positioning;
- The preparations and discussions have served to test our prior assumptions and frameworks, and done so in a timely, comprehensive and disciplined manner; and
- The process has also helped counter the potentially harmful effects of the inevitable unconscious biases to which all of us can fall hostage.
Indeed, for two and a half valuable days, the Forum steers us away from our day-to-day activities (think here of the "urgent and important") to debate - collectively and thoughtfully - notionally less urgent longer-term issues that, nevertheless, will affect in a material manner the investment returns and risk characteristics of the funds that you, our clients, have kindly entrusted to us.
Over the years, our Secular Forums have helped us identify key themes and trends well before they appeared on the markets' radar screens. The impact of China’s emergence and the fundamental global re-alignments it entails is one example. Another is the manner in which the Forum helped us manage your investment portfolios through the "great age of leverage" and the subsequent global financial crisis – thus countering the dangerous allure of what conventional wisdom wrongly labeled as the "great moderation" and "Goldilocks economy" (and which we warned at the time was just a temporarily stable global dis-equilibrium).
More recently, the Secular Forums provided the foundation forwhat we labeled in May 2009 as the New Normal– a period of unusually sluggish economic growth in the West, persistently high unemployment, recurrent debt and deficit concerns, increasing regulation, and, in emerging economies, continued economic and financial outperformance. And it certainly took time for this latest of PIMCO's secular concepts to catch on.
Initially, the New Normal was dismissed by conventional wisdom and pundits as both unlikely and unrealistic. After all, the West has traditionally operated in cyclical and not secular/structural modes. I even remember an economist calling it "idiotic," joining the many who wrongly opted for outdated concepts of quick and sharp V-shaped recoveries in economic growth and employment.
Much to the surprise of conventional wisdom, it did not take long, unfortunately, for the economic attributes of the New Normal to assert themselves in a decisive (and socially unsettling) manner. As such, the outside narrative had no choice but to evolve, with consensus converging toward better appreciation of this uncomfortable global phenomenon (helped along the way by some superb analytical works by the likes of Carmen Reinhart, Vincent Reinhart and Ken Rogoff).
At first, the outside consensus view of the New Normal transitioned from labeling it as unlikely/unrealistic to describing it as "fatalistic." No, we countered strongly, there is nothing automatic about its duration, and there is nothing pre-destined about its reach. Nor is it about what "should happen." Rather the New Normal was a forecast of what is "likely to happen" given current conditions in the private sector, national policy postures and global interlinkages.
Today, the New Normal has become part of the common lexicon – indeed, there is even a U.S. television show with that name!
In our industry, this common acceptance of the concept has unfortunately led some to lethargically talk of the phenomenon as a permanent state of affairs (which is certainly not the case we posited and never was intended to be). Others are rushing to call for its end. And yet others are prone to lazily apply the concept to all sorts of other developments and forecasts, thus failing to realize that the mapping at issue is a very complex one.
From market returns and asset class correlations to political polarization and geopolitical tensions, each linkage to the New Normal involves a number of interim steps with multiple, additional variables helping to determine the baseline and tails of the distribution of expected outcomes.
For example, at any one time, asset prices are influenced by more than just fundamentals. Relative valuation and market technicals are among the set of additional factors that play a role. And in recent years, highly unusual central bank policy activism has inserted a considerable wedge between asset prices and the underlying fundamentals; it has also altered the functioning, risk appetite and liquidity of markets.
On the political front, New Normal trends inevitably stress the political system, particularly its ability to address proactively burden-sharing in a sluggish economy with historical over-promises and high unemployment. What happens next, however, is highly influenced by the degree of mutual trust among negotiating political parties, bargaining rules and the ability of one side to impose an outcome on the other.
Both of these examples have played out most prominently in Europe and the U.S. in recent years. They have also influenced broader developments, including interactions between advanced and emerging countries.
In sum, and most visibly, the Secular Forum materially influences our portfolio thinking, including global asset allocation among bonds, commodities, currencies and equities. Additionally, and less visible to the outside world, it affects the design of investment products and solutions, the manner we invest in our business (including new hires and the next stages of our analytical and technological evolutions) and, of course, how we interact with you.
So much for the past and present; how about the future?
Judging from the secular inputs already collected, including from discussions at our Investment Committee and Cyclical Forums, the upcoming May 2013 event could well be one of the more challenging Secular Forums to date.
Economics and finance are interlinked in an ever more complex fashion. And the critical mapping to beta returns, alpha generation and risk management is influenced by a myriad of factors that are strictly exogenous to the markets (e.g., unusual political dysfunction, highly experimental central bank policies, delicate geopolitics, complicated middle-income transitions in systemically important emerging economies, and exciting technological breakthroughs).
Not surprisingly, several interesting secular questions have already arisen within PIMCO, including:
- How will the gradual economic and financial healing of the West (most visible in the corporate, housing and banking sectors) interact with increasingly embedded structural low growth dynamics and stubborn pockets of indebtedness that many of these economies still face?
- If, when and how will the benefits of unusual central bank activism – which has altered historical asset class correlations and significantly impacted returns – get overwhelmed by what Federal Reserve Chairman Ben Bernanke has labeled the "costs and risks" of this experimental policy approach?
- Can emerging economies, including China, evolve their economic models rapidly enough while simultaneously gaining better accommodation within a global governance system still dominated by the West? And what will this mean for their asset allocation and risk preferences as major global investors in certain asset classes?
- How will the related investment opportunities in emerging markets benefit next from the trio of credit maturation, asset class deepening and investment pull from unusual policy activism in advanced countries?
- How will capital/labor distribution, and the related impact on corporate earnings and consumption, get affected by the interaction of highly polarized politics with heightened income and wealth inequalities?
- At what point will technological breakthroughs evolve from sectoral influences to more general macro ones, including those that are fundamentally altering input prices and acting as major disruptors to traditional institutional operating models?
Already, this is an extremely interesting, consequential and daunting series of questions.
Each and every one of them affects portfolio positioning, including by speaking to such basic issues as interest rate, credit/equity/default, volatility, currency and liquidity risks – and appropriately so. After all, the whole point of the Secular Forum is to ensure (national, regional and global) themes serve you by delivering returns and managing risk well.
Long as it already is, the list of potential topics is unlikely to stop here. Indeed, one of the really wonderful things going into every annual PIMCO Secular Forum is that it is very hard to predict with accuracy its ultimate content and its outcome.
Remember, we insist on providing an unencumbered platform, both to the outside speakers and to our new MBAs and PhDs. PIMCO colleagues from around the world gather with differing perspectives, priors and experiences. And the room combines a range of academic and operational backgrounds.
In fact, one of the many brilliant insights of Bill Gross when he founded PIMCO over 40 years ago was to hardwire a stimulating open-ended dimension to the secular deliberations. By rising to the challenge and thinking wide and deep, PIMCO colleagues have repeatedly interacted in a highly productive way and come up with themes that were yet to be reflected properly in market analyses and, critically, asset prices, correlations and volatility.
So please stay tuned for the 2013 PIMCO Secular Forum. We look forward to sharing with you in mid-May a summary of our findings. And, as always, never hesitate to provide feedback on our ideas and processes, including how we can serve you even better.
This material contains the opinions of the manager and such opinions are subject to change without notice. This material has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed. No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission. PIMCO and YOUR GLOBAL INVESTMENT AUTHORITY are trademarks or registered trademarks of Allianz Asset Management of America L.P. and Pacific Investment Management Company LLC, respectively, in the United States and throughout the world. © 2013, PIMCO.