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The purpose of this article is to reflect on our investment process and what we have learned over the past 15 years of managing multi-asset portfolios at Baillie Gifford. It conveys the importance of focusing on the fundamental principles underscoring our portfolios and how we have enhanced our process over that time.
Reflection
Our long-term track record is strong. However, while we have pride in this pedigree, there have been disappointing periods, including the past 18 months.
Reflecting on this period and our 15-year history of managing multi-asset portfolios, we understand the significance of reaffirming and prioritising the central pillars of our investment process: long-term return expectations, economic and scenario analysis, and in-depth research on asset classes.
We are, however, always seeking to develop and improve our investment process. Over the past 18 months, we have worked to strengthen these pillars to enhance their ability to positively impact our portfolios and help drive investment performance.
Background
In managing our multi-asset portfolios, we have always sought to be open to the broadest range of investment opportunities. We combine top-down analysis – which aims to identify the most attractive and diversifying asset classes to own at any point in time – with bottom-up research on the individual instruments that we believe are best placed to outperform within those asset classes.
Generally, we have maintained broadly diversified portfolios, investing meaningfully and profitably in everything from less traditional asset classes such as infrastructure and structured finance*, to instruments ranging from mainstream equity and property funds, distressed European bank bonds and government and corporate bonds.
In selecting asset classes and judging the right allocation to them, we lean most heavily on our long-term views. We conduct careful research on each asset class’s long-term return opportunities, which includes a set of return forecasts for the next 10 years. This exercise is known as our Long-Term Return Expectations (LTRE). Our LTRE captures our long-term thinking on what we expect asset classes to return. We also use our quantitative risk models and qualitative scenario analysis, which consider economic, geopolitical and market environments.
We also use shorter-term views on the economic environment and valuations. This saw us invest heavily in fixed income over 2009–2011, as the world recovered from the Global Financial Crisis, and successfully protect against market-moving events, such as the eurozone crisis and the Brexit vote.
Lastly, we seek to add value through stock selection. This can be through investing in:
- actively managed Baillie Gifford equity and fixed-income portfolios,
- a carefully constructed infrastructure portfolio, investing in exciting areas such as renewable electricity generation and high-voltage cables,
- individual opportunities such as aluminium and copper.
* Exposure to lending such as residential mortgages, commercial mortgages and corporate loans. The individual loans are pooled, and investors select exposure to a desired level of risk and return; for example, a lower-returning exposure would require losses to be incurred by each of the higher risk elements in the structure before it would suffer a loss.
Evolution
Long-Term Return Expectations
We have a 15-year-plus history of producing our LTRE. Each edition is heavily researched, and over time the exercise has largely proven to be successful in ranking asset classes’ attractiveness. However, while our LTRE has always underpinned our investment thinking and portfolio allocation to some degree, we have recently sought to develop it further and give its conclusion more prominence.
We now produce a ‘live’ set of numbers to complement the more formal output produced at the end of each June and December. We have also introduced a strategic asset allocation (SAA) tool to appropriately reflect these forecasts' impact on our asset allocation decisions.
For the SAA, we have worked closely with the Investment Risk, Analytics and Research Team. The resultant tool takes the individual return expectations for asset classes and significant sectors, alongside our understanding of those assets’ behaviour.
As portfolio managers, we consider the output qualitatively, adjusting as necessary, and adopt this as our central ‘buy-and-hold’ portfolio, the foundation for our portfolios’ asset allocation. While we may adjust the portfolios as shorter-term opportunities and risks present themselves, having this clear starting point ensures that our LTRE sits at the core of our investment effort.
Economic and scenario analysis
Scenario analysis helps us think about portfolio risk qualitatively, complementing our dedicated Investment Risk Team colleagues' important quantitative risk work.
It allows us to think more creatively about what might happen in the world over the shorter term – economically, politically or otherwise. At its best, the results shape the portfolios to perform best in the outcomes we consider most likely but remain robust to those more concerning scenarios.
We have added experience and structure to our macroeconomic research to improve our thinking around scenarios. We now have a group of macroeconomic-focused analysts within the Multi Asset Team. We have also set up a Macro Focus Group, bringing together the most experienced macroeconomic specialists across our Multi Asset and Fixed Income investment teams, many of whom have relevant experience outside of Baillie Gifford.
The Macro Focus Group meets quarterly to hear and debate the views of relevant country and sector analysts. After this, it deliberates on plausible economic outcomes and their drivers. The group assigns probabilities to those outcomes and forecasts key asset class returns in each scenario. These forecasts are the foundation for the Multi Asset Team’s scenario analysis, ensuring a consistent and rigorous approach. They are the starting point for asset allocation discussions.
Having a clearly structured research process and outputs helps inform our scenario analysis. That allows us to better judge whether and how to move the portfolios around that SAA. We refer to this as our tactical asset allocation (TAA), a portfolio that can adjust and flex as appropriate towards the prevailing current environment and the investment opportunities and broader risks therein.
In-depth research
Undertaking bottom-up research on asset classes, their overall risk and return characteristics, and the individual securities within those asset classes are the bread and butter of our investment process.
We have a broad range of potential investments to choose from. To better research and assess these, we moved from having single lead analysts on each asset class to having asset class groups of three to four investors. These investors have a slightly wider remit across several similar asset classes. They balance being able to focus on a slimmed-down set of investments with the benefits of a broad perspective and having colleagues immediately at hand for collaborative working and rigorous debate.
We also introduced an 8-Question (8Q) framework for our security research. It applies a standardised set of questions to all potential investments, regardless of their asset class. The questions are shown below and cover a range of relevant factors for all investments, including return, risk and sustainability. The consistency of the framework allows for easy comparison across asset classes.
Using this framework, the asset class groups consider the opportunities in their areas, make recommendations to the portfolio managers on allocation and present models for what to own within those asset classes.
The multi asset 8Q: Our key questions for bottom-up research
Using this framework, the asset class groups consider the opportunities in their areas, make recommendations to the portfolio managers on allocation and present models for what to own within those asset classes.
Time horizons
Incorporating each of the aforementioned points into our investment process, there are three important phases to our research work and portfolio construction:
- the long-term work that goes into understanding asset classes; guiding our thematic beliefs and, through the LTRE setting our SAA;
- the near-term assessment of the economic environment and other risks to the portfolios, feeding into our scenario analysis and TAA; and
- the bottom-up search for the best ideas and opportunities within asset classes to guide and implement our asset allocation views.
The long-term work
Our long-term work assesses the return potential and attractiveness of the many asset classes available to us, while understanding their risk profile and characteristics. We consider long-term investment themes, what is fair value for asset classes, and determine when these assets can be expected to perform better or worse.
This is formalised in our LTRE, which we update regularly and drives our SAA.
The near-term assessment
Our near-term work focuses on the economic environment. We identify those scenarios in which our portfolios could maximise the opportunities available while remaining robust to the prevailing economic climate. Our macro research groups assess conditions and determine the driving forces, assigning probabilities and asset class forecasts to the most likely scenarios.
These scenarios are extended across asset classes by the Multi Asset Team in its quarterly scenario analysis and considered by the portfolio managers in their six-weekly asset allocation discussions. The portfolio managers responsible for each portfolio express their views on the near-term opportunities through the TAA, a set of positions that fit around the SAA.
The bottom-up search
Our bottom-up work involves researching stocks, bonds, funds and other securities within asset classes. Asset class groups of three or four analysts research and debate these rigorously. Research generally takes the form of an 8Q investment note, a standardised set of questions applied to all potential investments, regardless of the asset class.
Asset class groups select securities and propose models for what is owned within their areas, advising the portfolio managers on their asset classes' attractiveness, or otherwise.
Summary
Over the years, our investment process has evolved, and it is reasonable to think it will likely continue to do so in the years ahead. At our core, however, the foundations of our investment philosophy and process remain as they were at our outset in 2008.
We continue to carefully research each asset class’s long-term return opportunities and conduct our probabilistic analysis of economic, geopolitical and market environments. Ideas will be implemented through in-depth research within asset classes, and we will actively select securities using internal portfolios alongside direct investments and externally managed funds as appropriate. All of this is done to seek meaningful capital growth by actively investing across a wide range of attractive and diversifying asset classes.
Risk factors
The views expressed should not be considered as advice or a recommendation to buy, sell or hold a particular investment. They reflect opinion and should not be taken as statements of fact nor should any reliance be placed on them when making investment decisions. This communication was produced and approved in November 2023 and has not been updated subsequently. It represents views held at the time of writing and may not reflect current thinking.
This communication contains information on investments which does not constitute independent research. Accordingly, it is not subject to the protections afforded to independent research, and Baillie Gifford and its staff may have dealt in the investments concerned.
All information is sourced from Baillie Gifford & Co and is current unless otherwise stated.
The images used in this communication are for illustrative purposes only.
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