Active management to smooth volatility

State Street Global Advisors, one of the world’s largest index managers, believes active stock selection will deliver better results in the current environment, with the domestic share market up over 40 per cent since September 2011 and valuations now stretched.

SSgA also offers a range of actively managed investment products including the Australian Managed Volatility Alpha Strategy.

According to Olivia Engel, SSgA’s head of active quantitative equity for the Asia Pacific region, the easy returns from Australian shares have already been made.

“We are at an interesting juncture for equities investing with few signs of earnings-per-share growth and valuations above the long-term average,” she said.

“With plenty of macro noise, it is foreseeable that equity market returns could be challenged from here. Stock correlations have been trending lower and, coupled with the other factors, returns to be made from here are likely to come from careful stock selection, which is a positive for active management and a benchmark-agnostic approach.”

Engel said market-capitalisation weighted indices, such as the S&P/ASX 200 Index, could be “risky” from time to time given their concentration in large stocks and sectors. For example, Australia’s big four banks represent around 30 per cent of the index and the financial sector has been the dominant source of returns in recent years.

“You can achieve solid returns from a more diversified, even spread of sources and companies but without as much risk,” she said.

“A benchmark-unaware approach can deliver superior returns and investors should consider the trajectory and path of those returns – not just the end result.”

In the last 12 months, the SSgA Australian Managed Volatility Alpha Strategy has dramatically lowered its exposure to high yielding stocks, namely the banks, Telstra and consumer staples.

It has also increased its position in general insurance, healthcare and materials.

“The banks and Telstra were major beneficiaries of the market recovery between May 2012 and February 2013, and in the short period of time the market returned a whopping 25 per cent, with a concerning decline in earnings growth of minus 8 per cent,” Engel said.