- We are about to enter a golden period for active management
- Digital 4.0 means billions of users with trillions of interactions. It drives digitalisation, network effects, automation, and AI.
- After a period of concentration, diversification wins and active management is the only way to capitalise on the broadening trend
Powerful forces in markets today have driven a 13% compound return for the S&P 500 over the last 10 years – one of the best decades in a century.
I cannot remember another period when a strong fundamental trend, in this case innovation and disruption, has unfolded alongside a technical momentum trend of passive investing.
Passive investors are riding this wave of innovation but does this lead to increased risk, with the force of a great fundamental trend reinforced by the momentum of passive investing?
Passive flows and funds have built up amid a market bull run that began in the 2000s. But what might happen if passive flows turn, or valuations dislocate?
This year passive flows exceeded 50% of the total US mutual fund market. Mutual funds have been around 20-25% of total equity assets since 2000, with passive accounting for c.50% of this. Yet passive equity funds represent about a third of daily trading volumes. Trading volumes are being driven by investors who pay no attention to valuations.
Disruptive technologies
Disruptive technologies have created a new set of market leaders in less than 20 years.
Looking at the 20 largest US companies each year since 2000, the only Magnificent 7 stock there from the start is Microsoft. Today the Magnificent 7 dominate through their innovation.
This disruptive trend is key to understanding the future.
As we go into digital 4.0 another wave of potentially epic proportions is being unleashed. We have just started our own set of AI research agents – five new virtual analysts enhancing our own investment process. We are paid to constantly balance risks against rewards, so what could go wrong?
Some might believe that winning companies’ revenues will continue to grow, they are impervious to competition and will not be disrupted by technological breakthroughs. But historically, bright stars that choose not to innovate struggle to survive – Blackberry, AOL and Kodak are all examples. This year’s winners are rarely next year’s winners.
Concentration risk
Passive investing has concentrated ever more money into the same favoured names. This has unintended consequences for the rest of the market where passive flows are not supporting smaller companies.
Other key economic sectors such as cyclicals and defensives are reaching record low concentration points. These segments contain great companies, many of which will benefit from the AI trend. But they are currently getting ignored as passive investing favours the largest companies.
Goldman Sachs recently predicted that equity returns over the next 10 years will average just 3% per annum. To generate clients’ required equity returns, active investment portfolios will have to play a bigger role.
The scale of disruptive changes today, magnified and concentrated in fewer names because of passive money flows, will be the catalyst for the active investor to win big again in the next 5-10 years.
We are about to enter a golden period for stock picking. Liontrust is a centre of excellence in active management. On the Global Equities team, we have built a repeatable and robust process over 30 years, designed to achieve consistent risk-adjusted returns for clients. This allows us to surf the next wave with confidence.
About the presenter
Mark Hawtin, Head of the Global Equities team
Mark Hawtin is Head of the Global Equities team. Mark joined Liontrust in 2024 from GAM where he was an Investment Director running global long only and long/short funds investing in the disruptive growth & technology sectors. Before joining GAM in 2008 he was a partner and portfolio manager with Marshall Wace Asset Management for eight years, managing one of Europe’s largest technology, media and telecoms hedge funds. Mark Hawtin previously spent seven years at Enskilda Securities, initially as head of sales, before taking responsibility for the international equity business, overseeing pan-European research and trading activities and around a quarter of the investment banking staff.
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May hold overseas investments that may carry a higher currency risk. They are valued by reference to their local currency which may move up or down when compared to the currency of a Fund. May encounter liquidity constraints from time to time. The spread between the price you buy and sell shares will reflect the less liquid nature of the underlying holdings. May have a concentrated portfolio, i.e. hold a limited number of investments or have significant sector or factor exposures. If one of these investments or sectors / factors fall in value this can have a greater impact on the Fund's value than if it held a larger number of investments across a more diversified portfolio. May invest in smaller companies and may invest a small proportion (less than 10%) of the Fund in unlisted securities. There may be liquidity constraints in these securities from time to time, i.e. in certain circumstances, the fund may not be able to sell a position for full value or at all in the short term. This may affect performance and could cause the fund to defer or suspend redemptions of its shares. May invest in emerging markets which carries a higher risk than investment in more developed countries. This may result in higher volatility and larger drops in the value of a fund over the short term. Certain countries have a higher risk of the imposition of financial and economic sanctions on them which may have a significant economic impact on any company operating, or based, in these countries and their ability to trade as normal. Any such sanctions may cause the value of the investments in the fund to fall significantly and may result in liquidity issues which could prevent the fund from meeting redemptions. May hold Bonds. Bonds are affected by changes in interest rates and their value and the income they generate can rise or fall as a result; The creditworthiness of a bond issuer may also affect that bond's value. Bonds that produce a higher level of income usually also carry greater risk as such bond issuers may have difficulty in paying their debts. The value of a bond would be significantly affected if the issuer either refused to pay or was unable to pay. Outside of normal conditions, may hold higher levels of cash which may be deposited with several credit counterparties (e.g. international banks). A credit risk arises should one or more of these counterparties be unable to return the deposited cash. May be exposed to Counterparty Risk: any derivative contract, including FX hedging, may be at risk if the counterparty fails. Do not guarantee a level of income. May, under certain circumstances, invest in derivatives, but it is not intended that their use will materially affect volatility. Derivatives are used to protect against currencies, credit and interest rate moves or for investment purposes. There is a risk that losses could be made on derivative positions or that the counterparties could fail to complete on transactions. The use of derivatives may create leverage or gearing resulting in potentially greater volatility or fluctuations in the net asset value of the Fund. A relatively small movement in the value of a derivative's underlying investment may have a larger impact, positive or negative, on the value of a fund than if the underlying investment was held instead. The use of derivative contracts may help us to control Fund volatility in both up and down markets by hedging against the general market. The use of derivative instruments that may result in higher cash levels. Cash may be deposited with several credit counterparties (e.g. international banks) or in short-dated bonds. A credit risk arises should one or more of these counterparties be unable to return the deposited cash.
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