Many investors remain pessimistic about market prospects despite indices having sharply recovered from 2022’s fall, Morningstar global chief investment officer, Dan Kemp, says.

Kemp told Morningstar’s Wealth of Experience podcast that it’s a dangerous time for these investors because if markets drop again, they may not be prepared for it.

“When people are already nervous, if there’s any bad economic news, then there’s a real danger that they just want to sell their investments, that they can’t take it anymore. And, of course, that’s devastating to someone’s financial future.”

He says investor bearishness is likely because there’s been market volatility of late after a long period of little volatility.

Kemp believes that investors need to be prepared for whatever direction the market takes. To do that, he advocates three things:

  1. The right portfolio
  2. Good advice
  3. Staying the course

The right portfolio means an ‘all-weather’ portfolio that can handle all market and economic scenarios. For example. if there’s a recession, people need to have assets that may potentially benefit from this, Kemp says.

He believes having the right portfolio also involves having genuine diversification. Sometimes, investors think they have portfolio diversification through owning lots of different assets and investment managers, yet that may be mistaken:

“Sometimes, you’ll find that there are fault lines that run through the portfolio. You might have lots of different managers, but if they’re all focused on the same theme … then there’s probably what we call a lot of correlation there—they act very similarly to each other. So, you don’t have genuine diversification.”

Kemp says owning an all-weather portfolio can protect investors from their worst instincts. For instance, investors believing that they can forecast the future:

“As human beings we see this thread of history behind us, and history looks like it proceeds in logical steps. The danger is that when we look at the future, we assume that there’s a thread of history in front of us which if we dig enough, if we do enough analysis, do enough thinking, that we can uncover this single thread of history in front of us. That the future is as deterministic as the past.”

Kemp suggests the right portfolio for investors should focus first on quality, following by value. He likens buying investments to buying a car. If you buy a car, you normally look at the quality of the car first, before looking for value. Kemp advocates a similar approach for the purchase of assets.

As for how investors should approach valuing assets, Kemp says there’s no single metric that is perfect, and it’s best to look at a range of valuations and compare them to competitors.

On the second point of investors getting good advice, Kemp is obviously biased in favour of Morningstar research. But above all, he says investors should largely ignore financial headlines and economic forecasts:

“There are two challenges with economic forecasts. One is they’re often wrong because the future is uncertain. But the other challenge is that people draw a straight line from economic outcomes to asset prices, and that straight line doesn’t really exist.”

More important is what’s already factored into asset prices, Kemp argues:

“Let’s say, economists are forecasting a recession, but if the impact of that recession is already priced into assets, then if you actually have a recession, then you may not get the return from those recession focused assets that you’re expecting, because it’s already priced in.”

Kemp’s last point on the importance of staying the course depends on investors getting the right portfolio and good advice. Getting the latter two right will ensure investors are prepared for whatever the market throws at them and they’ll be more likely to hold investments for the long term.

You can hear the full interview with Dan Kemp on the Wealth of Experience podcast.

James Gruber is an assistant editor at Firstlinks and Morningstar.com.au

 

Wealth of Experience podcast