As markets consistently adapt to new realities, alpha is always understood as only a temporary opportunity which converts into beta once it has been exploited, according to Schuller.
The core of any portfolio should be formed by passive solutions such as smart beta, he says. “Only accept to pay fees for actively managed portfolios if they are in a niche where the manager can show he can exploit the opportunity in that niche in a way that alpha is actually materialised in the portfolio.”
A second demand Schuller has, is that actively managed funds should come with an asymmetric risk-profile, which is different from the passive core. “In the active space, we don’t distinguish between mutual funds and hedge funds or private equity anymore. We start by trying to capture the inefficiencies in the real economy globally that are caused by transformation processes such as infrastructure trends, demographics, the emerging consumer, which are long-lasting Schumpeter-like cycles that last two to three business cycles. They are a robust starting point for constructing portfolios,” he says. “These transformation processes come with risk factors of qualitative and quantitative nature, which have to be diversified in the portfolio.”
Be careful with smart beta
The core of Schuller’s fund selection methodology, which is a variant of the core-satellite approach, is made up of passive investments. He likes smart beta, or factor-based investment solutions, but is quite picky when it comes to selecting the right products.
“When you look at factor-based investing, there are more than 700 factors, but most of them are arbitrary. They all look good in back-testing, but only a handful have a real economic link, like small cap and value,” he says.
Click here to view a video interview in which Markus Schuller explains his approach to portfolio construction to EIE’s editor Dylan Emery.