In the short term events will be driven by monetary policy, says Magellan Financial Group CEO Hamish Douglass. Daniel Munoz
by Sally Patten
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Since taking over the listed shell occupied by Pengana Hedge Funds in late 2006, Magellan Financial Group has grown to become one of the country’s most successful international fund management businesses and its chief executive one of Australia’s most respected strategists.
As a keen student of monetary policy, the global economy, technology and investment legend Warren Buffett, the opinions of Hamish Douglass have never been more sought after than they are today. (Douglass and Magellan co-founder Chris Mackay met and hit it off at Schroders Australia in 1989 over a mutual love of Buffett and his then hard-to-get annual reports.)
But Douglass does a lot more than talk the talk. With $40 billion under management, there is a lot riding on his predictions for the future.
What are the two or three most important global trends investors should be following?
I think we have to split this between very near term and the medium term and I think they are fundamentally two different issues. The very near term is all about monetary policy. It is absolutely what drives events. The long term bond yields in the United States last year went from 2.4 per cent to 1.5 per cent and bond sensitive assets did very well. In the short term assets are very sensitive about the direction of monetary policy. And I still think that’s going to be the story of the next 12 months.
And longer term?
If we extend that into the future, equity markets aren’t pricing a risk free rate of 1.5 per cent which is the US current 10-year bond rate. If you look over the last 30 years, nominal GDP growth in America had averaged 5 per cent to 5.5 per cent and the average long term bond rate has been at 5 per cent to 5.5 per cent.
The current bond rate is at 1.5 per cent. If equity markets believed that would be the long term rate, they would be double where they are today. There is a huge debate about what the risk-free rate is over the very long term. Is it going to go back to 5 per cent or 5.5 per cent or to 2 per cent, or is it going to go to 4 per cent?
What does this mean for equity prices?
The correct long term risk free rate may be higher than priced by markets, but lower than the historic mean reversion will tell you, so if the long term risk free rate is higher than the market is currently factoring in, then equities in general may be somewhat overvalued at present.
How fast will rates in the US rise?
Slowly. I would say one rate increase this year and maybe a few rate increases next year. But it could change depending on what is going on in the world. Europe will have rates on hold for the foreseeable future and it would appear that Australia is probably on an easing bias, predominantly trying to weaken its currency.
How can investors approach technology, given the sector’s unpredictability?
There are things that are caused by technology that are highly predictable. There are some industries where it would appear to be more obvious that they are going to get disrupted. I would say the television advertising industry is one of them. Television, particularly pay television, has held up particularly well, but it’s likely at some point it is going to be fundamentally disrupted. People are going to have to pay for digital goods and there are payments networks, Visa, MasterCard and PayPal that will benefit from that. Disruption is going to happen but they are almost certainly going to be beneficiaries. There are other things where you really don’t know which way it is going to go. They are the ones we tend to avoid.
What else could be fundamentally disrupted?
I believe there is going to be a revolution in 3D manufacturing. So instead of going to buy your handbag, you could download a source code from the internet and have that printed very close by to you at a manufacturing cost of very close to the cost to raw materials cost. That changes whole series of paradigms. 3D manufacturing may reverse the effect of globalisation. It makes no sense to manufacture a lot of goods in China because they can be manufactured more cheaply in a 3D printing facility around the corner.
On top of that, what is the value of a brand as the advertising industry starts to get disrupted? The big brands still have an advantage because television is still a very powerful medium that hasn’t yet been disrupted. Facebook has completely changing the game of brand advertising. We are seeing brands come from nowhere mainly because of the advent of social media. You may ask if brands are nearly as valuable as you thought they were.
We don’t have a clear crystal ball but you need to start asking these questions.
As an investor, what do you think of President Trump?
In terms of domestic economic policy I am not overly worried. It is one thing to have a presidential platform and it is another about reality of legislation in the United States. The bigger risk for investors is in terms of foreign policy under Trump. Foreign policy is in the purview of the President and not Congress, unless you are declaring war.
He could do things that are unpredictable and if he did things that are unpredictable markets could get very, very spooked. That is what would worry me most. Economically between Trump and Clinton I don’t think there is going to be a lot of difference.
Nominate your favourite and least favourite sectors
Technology platforms and payments platforms would be my two favourite sectors. My least favoured sector would be the media sector. Longer term I’d be cautious on the energy sector. Over the very long term it is going to be fundamentally disrupted. There is going to be far less oil consumed in the world if you take the very long term as we move to a much less fossil fuel intensive world. So anything directly related to fossil fuels, whether it is coal mining or oil, I would be very cautious.