Matt Smith
Investment Director
1/25/2023
Adapting to a New Investment Climate - With Matt Smith, Partner and Investment Director at Ruffer

Ruffer contend that positive absolute returns “will not be achievable for most long only investors in the coming market cycle”. To articulate why they believe this, Matt Smith, Partner and Investment Director, explains Ruffer’s origins, before describing their investment strategy in today's new economic cycle.

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transcript

Simon Brewer  

Today in this Curated Podcast, we're discussing Ruffer and their differentiated investment approach. And it’s timely, as Ruffer had made the statement they believe positive absolute returns will not be achievable for most investors in the coming market cycle. And I'm in their London offices with Matt Smith, Partner and Investment Director and the lead fund manager on the Ruffer Total Return Fund and the Ruffer Absolute Master Fund. And I hope today, we can structure the conversation along the following lines: an introduction to Ruffer and its evolution since being founded in '94, the investment engine and how it operates, the investment climate and why a new regime may be upon us with potential ugly consequences, and finally, the tools you deploy in managing money and why you feel Ruffer can withstand the heavy seas surrounding us. So Matt, welcome to this edition of the Money Maze Podcast.

Matt Smith  

Thanks, Simon. Great to be here.

Simon Brewer  

I've known Ruffer for over 30 years. And when I was on the Great Ormond Street Hospital investment committee, we allocated to you. And Will Campion did exactly the same when he was at the charity Child Bereavement. But that was quite a long time ago so maybe we can start with setting the scene. Assets, offices, people, purpose, just give me a sense of Ruffer today.

Matt Smith  

Ruffer was set up in 1994 by Jonathan Ruffer with one purpose: to deliver better investment outcomes for clients who he felt weren't being served terribly well by the industry at that point, specifically around relative returns. What he said was the appeal of an investment manager who came to you with a market down 30 and said, 'You're welcome for the fantastic job I've done. We're only down 20.' He set up the business with a focus on absolute return and capital preservation. As it happens over the cycle that we've been through since he set the business up for major bear markets in that time, we've managed to deliver positive returns in all four of those bear markets by avoiding the drawdowns. And that's the key focus: how do we avoid capital loss at times of crisis? We've grown to around $30 billion in assets under management, offices in London, Edinburgh, Paris, and New York. We are 70% institutional, 30% private clients, and excited for the future.

Simon Brewer  

And you're still a private partnership. And I wonder what you think that offers you.

Matt Smith  

That is one of the most important features of the business. It allows us the ability to focus on the long term. Now, a lot of people say they do that. But to me, when you become a public company, you are forced to focus on the short term by your shareholders. Now, that means if you're an asset manager, that AUM growth has to be your focus. That's what drives returns for shareholders on a short-term basis. By being a private partnership, my capital is at risk in the business. We are able to take long-term perspectives. We're able to make decisions that don't make sense up front.

Simon Brewer  

I think over the years, that institutional component of the client base, which is now as you said, 70%, has grown enormously. I just wonder why that shift occurred.

Matt Smith  

It occurred for the most part following the financial crisis. I think the reason for that is, well, the superficial reason is that the returns were pretty good. And I think institutional asset owners began to think, 'Right, we've suffered pretty extraordinary losses in our equity book, private equity book, debt book, what are we doing wrong? Can these guys help?' The value of avoiding capital losses in compounding returns over time is extraordinary. It's a mathematical force that has come to be recognised as an important component of portfolio investment. And I think something that we offer is a wide variety of macro views. We have opinions on a lot of different asset classes because we are global, because we're macro, because we're unbenchmarked. Everything is of relevance to us. But we are independent, so people value that intellectual partnership as well.

Simon Brewer  

We're going to talk about the whole investment engine and process and maybe that's a good place to continue because in Ruffers’ materials, there are a couple of things that stand out as you read them in terms of statements. Ruffer describes themselves as an alternative to alternatives. I think we should unpick that. And the proposition is that Ruffer manages a global absolute returns strategy, unchanged since '94, which is unbenchmarked and multi-asset. Why don't we just start with the benchmark issue because it raises those very real issues about setting expectations and measuring results.

Matt Smith  

I think it gives us a great advantage over all of our competition, because most investors are forced to own something that they might not want to own. If you are benchmarked to an index, even if you think a component of the index is absolutely doomed to fail, you end up having to own some of it or at least taking very, very significant risk yourself by not owning it. We've used historically the example of the credit crisis. We did not own any banks, financial equities, anything like that, in the run-up to the credit crisis. Had you been benchmarked to the FTSE 100, you might have been fired, might have gone bust, by the time the crisis actually came around because of the outperformance of banks in the run-up to that event. Benchmarking has perverse incentives, we think. And this allows us total freedom to focus on our capital preservation, investment objective, which is the first thing that we're trying to do at any given time.

Simon Brewer  

Just thinking about I'm a client, I'm debating which investment manager I use, I understand the capital protection. But over time, with GDP growth, equity markets should participate. So you have to be a risk taker as well. Therefore, how do you explain to clients that there will inevitably be these periods where you are not, for whatever reason, able or willing to participate in some of the rise in asset prices?

Matt Smith  

Over our history, we've delivered about a 9% average annual return since we started over a quarter of a century ago. That has been driven by participating as fully as we think appropriate in bull markets and capital preservation through bear markets. If you see our returns dropping off relative to the market, that's typically an indicator that we are seeing less attractive opportunities in the market, less asymmetry, and it has historically been a reasonable early warning indicator that something is on the horizon. What that adds up to, given that the cash rate has been about 3% over our history, is that cash plus 5 is a reasonable outturn for the portfolio. However, we don't target returns, we don't target the volatility level. We're focused primarily on capital preservation not going below zero. As our founder Jonathan Ruffer says, we've got the advantage that we can take risk wherever we like, but we have got to take risk. It's by avoiding losses with risky assets that we're able to deliver returns.

Simon Brewer  

So let's talk about the investment process or investment engine. Just give me a sense of how it functions.

Matt Smith  

We start from a blank sheet of paper, unbenchmarked, as you say. What we're looking to do is put in place assets that will protect us, protect our client's capital, against the market environments that we see coming. The great problem with finance, as I see it, is that it's full of people who think that they can predict the future. And the one thing you can say with absolute certainty about the future is that it's not possible to predict it. However, if you break it down into two component parts, what's going to happen and when is it going to happen, it's our view that you can have a pretty good go at the 'what'. What are the things that's going to happen? What do we need to worry about? It's almost impossible to add the second part and conclude clearly on the timing. The investment process, the way we construct portfolios is to say what is the next market regime going to look like, next economic regime, next inflation regime? What are the right assets for that regime? To put them into the portfolio at that point and then think about, ‘What if we're wrong about that regime coming to pass? What if we're wrong about the timing of it? What assets will we need to carry those protective assets to the time where they're needed?’ I think therein, you've got the core of what makes us different to the rest of the industry. Most people are focused on return maximisation. What are the best opportunities out there in the world? Let's put them into a portfolio. The highest quality companies, the most attractive trades, compile them all together. And then maybe if you're lucky, risk management as an afterthought. So rather than focus on return maximisation, we focus on risk minimisation. So risk management is endogenous to the construction of our portfolios. What are the risks we're concerned about? Deal with those first, put in place the assets that you think will be required to protect against those risks coming to pass, and then let the return take care of itself, rather than the other way around.

Simon Brewer  

So let's dissect the organisation because you have a research team, you have an asset allocation team, you have portfolio managers who are absorbing and implementing that. So just for clarity's sake, explain how that works.

Matt Smith  

The asset allocation is set by the asset allocation team that's led by Jonathan Ruffer, our Founder and Chairman, and Henry Maxey, our CIO. They receive constant challenge and debate on what the asset allocation team think the right portfolio setup is. But ultimately, we believe in the democracy of ideas, but in the autocracy of decision-making. It's important to have a small number of decision-makers at the very top level. It allows for agility, it allows for conviction. Once the asset allocation is set, and that's an iterative process, the research team are in charge of security selection, of fulfilling that asset allocation with the best instruments and securities for the job. We think that gives us the opportunity to be right twice, to be right on the macro idea and to be right on the micro implementation of it. That then leaves you effectively with an asset allocation and instruments to populate it with. The job of forming that into a coherent portfolio falls to managers such as myself. Our role, aside from input and debate at the asset allocation level, is to have oversight over the whole portfolio from the micro to the macro.

Simon Brewer  

You alluded earlier on to the key metric for asset management firms is growth in assets alongside performance. And one of the inevitable consequences is asset management firms build out silos of products. Now, am I right in saying that if you sign up as a client of Ruffer, essentially, you all have the same ultimate portfolio?

Matt Smith  

That's absolutely correct. We are a single strategy firm. We have different vehicles for that strategy. They are designed to ensure that what you're investing in, in structured terms, is optimal for you as an investor. Are you located in Australia? Are you located in Europe, UK, US? That is why there are different vehicles, but the strategy in which you invest is the same.

Simon Brewer  

Staying with that idea of size and complexity, whilst you have not gone down the path of complexity, you've certainly grown a lot. And we all know that size can be the enemy of swift action. And I wonder how you think size has impacted your responsiveness.

Matt Smith  

The short answer is it hasn't. We have a full set of liquidity metrics that we look at to make sure that the portfolios are never constrained by size. How we think about it philosophically is, do we have to dilute the quality of the investments that we're using because of the size that we are? We're not interested in being liquid for liquidity's sake. As it happens, we think that it is an extremely important point in the cycle to have a liquid portfolio, which we can touch on later. But we don't see any constraints from our current size whatsoever.

Simon Brewer  

I'm clear on that as well. So that does allow us to talk about the change in the investment climate. And you have written about this as a firm over the last year, so it's not new, and we definitely have a new weather system in place. But I guess let's start with maybe summarising why you believe this is more profound than a passing storm.

Matt Smith  

We've actually been writing about the changing weather since December 2008 when Jonathan Ruffer in his investment review at the time said that all around us is deflation, but this cycle will end in inflation. So we've certainly been preparing for inflation for a very long time. I think you'd have to be very charitable to say early rather than wrong on that initial call. What's going on at the moment represents the single greatest threat to investor wealth that we are likely to see in our lifetimes. To go back to the quote at the beginning, we don't think over the next cycle that it will be possible to deliver positive absolute returns from long-only assets. Why is that? The position we are starting from is an extraordinary one in search of a 2% CPI target at a time when the world was producing a great deal of disinflation or even deflation. Central banks have medicated asset prices higher, arguably, since at least the mid '90s. That has led to an extraordinary trend downwards in interest rates, upwards in asset prices of absolutely anything you care to mention. Now they've got a greater problem. They are in search of 2% but from the other side. They need to push inflation down towards 2%. And put simply, that means they are beginning a process of unmedicating markets, of withdrawing the medicine. And that's not a linear process. But to us, it is a structural force. Rising inflation is a structural force. Rising inflation volatility is a structural force. Both of those are going to make it very difficult for asset owners to preserve wealth.

Simon Brewer  

For those of us who have looked at in the inflation patterns of the '70s, I think there's a clear understanding that it moves in steps. There are periods when people begin to feel more optimistic. We may indeed find in the next 12 months that because of comparables being more favourable, people feel some relief. But come back to your key argument, which is this is structural, not cyclical. What are the most important implications for asset allocation?

Matt Smith  

The most important implications for asset allocation are that as inflation rises, the compensation that investors demand ex-ante for the risk of inflation goes up. Another way of saying that is that risk premia rise. What does that actually mean? It means asset prices have to become cheaper in order to entice investors into those assets. As inflation volatility rises, i.e., as uncertainty over the path of inflation- it doesn't have to be up, it could be down- rises as well, the number of expected outcomes in the market and in the economy also widens. What's the implication of that? The use of leverage has to come down. It gets more expensive and the constraints on its use rise. Those two forces are both very detrimental to asset prices generally. The '70s is a useful analogue. But I think it's correct to say probably that we're still in the late '60s period when inflation was visible, but not deemed to be the predominant concern. We are still seeing so many historical signposts that the direction of inflation is up. Let me unpack that a bit. The solution of most governments at the moment to problems in the economy is increasingly to use the government balance sheet to solve them. Coronavirus and the lockdowns, very definitely a deflationary crisis. Government balance sheets used to solve the problem with the furlough payments, with stimulus checks. The energy crisis, very definitely an inflationary crisis, a crisis of rising prices. It has again been solved by governments using their balance sheets, either by handouts to consumers or caps on the level that energy prices are allowed to reach. That, to us, is a signal that inflation is still not the primary concern. The economy, employment and political popularity are the primary concerns. They favour more spending, not less. Using price controls is a technique for dealing with inflation that goes back at least 2000 years if not more. And every single time, it simply guarantees you get more inflation. Ultimately, inflation is always a process composed of episodes of inflation. It looks a bit like the Loch Ness Monster, the journey from low inflation to high inflation, a sort of diagonal sloping upwards sine wave. We are probably at the apex of the current episode of inflation. So exactly as you say, it's entirely possible that in 6 to 12 months’ time, people are much more concerned about recession, falling prices, than what feels like at the moment, an inexorable upswing in inflation. To us, that will be a head fake. And it will be one that will probably be met by central bank easing, by government spending to soften the recession, to prevent it from causing economic damage or excessive economic damage. It's that reaction function that guarantees we will head into another upswing. That's why I think the right analogue is the late '60s where exactly those dynamics were present. There was not a popular mandate for dealing with inflation in hard terms, i.e., tightening until the economy really went into recession. Inflation never got back down to the level that it was before this all started. Are we going to see inflation fall from here? Yes. Are central banks responding to it? Yes. Is it going to go back down to 2% and stay there? Absolutely not.

Simon Brewer  

Let's talk about the assets that you deploy in that environment, and also the ability to recognise that some of these assets are for rent rather than to own. Can we just talk about fixed income? Because one of the hallmarks of the portfolios I looked at at the beginning of the year was a large exposure to index links that were deemed to be the right place to be in a rising inflationary environment. How have you thought about that? Because the landscape proved to be very different notwithstanding the inflation.

Matt Smith  

Yes. Some of these instruments, the long-dated inflation-linked bonds have fallen by 75% since October of last year, even as inflation has risen a very long way. Riddle me that. What has taken place is that interest rates have gone up a lot. And the more sensitive your bond was to that, the more it's fallen. We came into 2022 with the duration of the portfolio, i.e., its sensitivity to interest rates, at a negative level. So the portfolio was able to make money as interest rates rose. We have been selling that protection down all year to a point where at the end of September, we felt this has gone far enough, this sell-off. We should be buying bonds here in quite some size. And we took the duration of the portfolio up to a peak of about eight years by the middle of October. Why do I mention all of this? Because we are in a bond bear market. Ultimately, the bubble in asset prices has been most extreme in bonds. Now the closer an asset is to a bond,  if it's a bond like equity or an infrastructure asset or something that looks like a bond, the more overpriced it has become. The opposite of a bond is something like a bank or a highly cyclical industrial company. No surprise that those have been the worst-performing equities on the whole over the last 10 years as well. The bond bear market will be characterised by higher highs and higher lows in interest rates. Hence, fixed income is going to be a very difficult place to allocate structurally. And as a result, we began this market regime with negative duration in the portfolio wanting to make money or to deliver strong returns from interest rates going up. But we've pivoted that to being quite longer bonds in recent weeks.

Simon Brewer  

And when we talk about your equities, I've seen you've gone from as low as minus 15% net equity to zero recently, and you are talking about a generational liquidation of equities, which is part of the reason why you think it's going to be such a tough terrain for investors in long-only to make money. But I sort of was thinking to myself, ‘Well, as a higher-level statement, I'm sympathetic to that, but the valuation dispersion around the world is significant.’ Sitting here in the UK, that's been subject to very different forces from those that have driven the US up. Asia has marched to its own tune to a very large extent as well. Within that, we have this enormous dispersion in valuation from, at one point, unloved oil companies that were largely very representative indices, which are now sort of, you know, although they rallied off their lows, are better represented to other sectors that were what one might describe in old fashion, value terms. I want to just probe a bit here because I think the statement that you've made, I understand, but I think it masks too many other issues.

Matt Smith  

Equities are for most people the most interesting bit of asset allocation. They've had the highest returns historically. The problem is that the lesson that investors have learned over the last 30 years is that the optimal investment strategy is the 60/40 portfolio, 60% in equities, 40% in bonds. The best performing expression of that, particularly post-financial crisis, has been 60% US equities, 40% long treasuries. Why is that? Well, inflation has been low and stable and interest rates have been slowly trending down over time. The longer your bonds, the better they have offset your equities in times of crisis. And from an equity perspective, what you wanted to own was companies where the volatility of their earnings was declining. One of the most significant changes made by mega-cap tech companies over the last cycle was to move from buying Windows once every four years, from buying an iPhone once every two years, buying Adobe Acrobat once every five years, to a constant subscription pricing model. Higher revenues from services, more stable recurring revenues and earnings. So the volatility of their earnings came down a long way. In other words, they began to look a lot more like bonds. So their valuations exploded. On top of that, they took advantage of the cheap financing available to them to buy back their own stock, enhancing their earnings growth. In the value sectors of the equity market by contrast, which are typically stocks sensitive to GDP, people often talk about them as having GDP plus 2 growth potential, when inflation was 2 and real GDP was 2, the nominal economy was growing by 4. The sort of 15%, 20% earnings growth offered by the FANGs was absolutely fantastic by comparison, and a lot of the value sectors had strong competition from China and other places for the products they were producing. It was a bit of a perfect storm. Where are we today? Bonds are selling off. It'll be a volatile journey, but it's a structural bear market as I say. The equities that looked like bonds have felt that force, hence mega-cap tech companies have derated. It's getting more expensive for them to do earnings buybacks. And the consistency of their revenues is now a disadvantage rather than an advantage. The US economy in nominal terms is growing at 9% a year at the last measure. So a stock delivering GDP plus is suddenly delivering significantly higher revenue growth. And in an inflationary environment where they put through prices and they started with thin margins, their earnings growth is very significant. We're seeing a significant rotation from growth to value that we think is likely to continue. What does that mean for investors? Bond bear market, avoid the 40 part of 60/40. Interest rates, sensitive stocks as a result most heavily affected, and they were the epicenter of the overvaluation in the first place. So in your 60, avoid the large-cap tech companies. They're likely to be structural underperformers from here. To go back to your question on asset allocation, we don't think that passive fixed asset allocation is the way forwards from here. It was perfect for the, let's call it the 1995 to 2021 extended great moderation, the zero interest rates era post-financial crisis. What you need now is dynamic asset allocation. The strategies that worked best over the last 10 years are likely to be the ones that work worst over the next 10 years. You have to be very careful of momentum given that market forces are now in action. It's not central banks who run the show anymore, it's markets. That's a sea change. One of the best performing strategies this year has been trend following, a very important component of most global macro strategies. They, on the whole, gave up half of their year-to-date returns in the period following the CPI report in the middle of October. Trend is a very important component of any asset allocation in an inflationary era. But if inflation is volatile, trends can reverse suddenly. And our structural view is that just as the period 1995 to 2021 was characterised by consistently rising asset prices punctuated by sharp crashes, so the reverse should be true of the next market regime, a consistent bear trend in asset prices punctuated by sudden rallies. That's why it certainly won't be easy to deliver positive absolute returns from long-only assets over this next cycle. Your timing will have to be impeccable. And to go back to how we construct portfolios, timing is the hardest part of investment.

Simon Brewer  

I know that you have exposure to banks and you talked about the climate being much more favourable. I understand that. But I also note you're decidedly negative on the asset management industry. So just give us a little colour on that.

Matt Smith  

I have to be careful about what I say here. But people respond to incentives, especially public asset managers. Again, the incentive is to grow AUM, which typically means you need to go to where the returns are highest. Post-financial crisis, the returns on bonds went to zero. Well, the yield on bonds went to zero. And that pushed everyone, investors and asset managers, up the illiquidity curve and up the risk curve. We've reached a state where, after talking to investors in the US in April, the message that I received was, 'My public equity managers are doing private equity, my private equity managers are doing VC, and my VC managers are doing crypto.' So significant mission creep from a lot of people, significant illiquidity creep, and significant risk creep. So where are we today? You have a lot of investors with a great deal of their portfolios in high-risk illiquid assets. Private equity has been one of the biggest beneficiaries of this cycle. The cost of leverage has been falling. The returns on cash have been falling. Private debt, seen as a safe haven. You can get a treasuries plus return, why wouldn't you want that plus? Property is an interesting one. A huge amount of money has gone into it because it's seen as an inflation-protected asset. But what it responds more to is the level of interest rates and leverage. The asset management sector has probably got to shrink quite a long way. The earliest signs of that are visible in public equity managers. that's where the repricing has been felt most obviously and they've started to consolidate, completely unfelt as yet in the private parts of the asset management sector, let alone VC. I think it's going to be difficult. What we can say is that by being unbenchmarked, we can avoid a lot of these traps. There is a huge amount of hidden leverage in the system and I think that is likely to be the critical dynamic going forwards.

Simon Brewer  

So historically, Ruffer have had and made important decisions around currency and gold. I want to just look at both of those. I understand right now that your gold weightings are very low. So I'd like to just explore that, particularly since at least in the interim, you're suggesting that rates come down. And I'm not sure that I was able to reconcile those two positions. So let's just start with gold.

Matt Smith  

Everyone secretly, I think, likes to be bullish of gold, because they see it as a hedge against the wheels coming off everything. And there's some kind of misty-eyed vision where if only you had some gold sovereigns in your drawer, you'd be able to go and be the only person in the country able to buy bread from the supermarket. Gold represents a hedge against currency debasement. If you as a person operate entirely on your own gold standard, i.e., you hold all your assets in gold, you are immune to the government's attempts to take money off you by printing pounds or dollars. It definitely has appeal. It is by far the longest-lived asset class and has very clear historical evidence showing that it does protect you against inflation and hyperinflation over time. However, it's also a victim of its own success. As bonds became, in some instances, I would say ludicrously overvalued moving to negative interest rate levels, the appeal of gold, which is harder to value, rose and so it began to creep into institutional and retail portfolios. To answer your question from earlier, because it's relevant here on illiquidation, gold could be caught up in that. What do we mean by illiquidation? The idea that as the rate of return on deposit rises and asset prices do not cheapen, which is what one would expect them to do in response to that because investors remain invested, you effectively increase the propensity for people to suddenly sell a lot of their assets after they see significant negative returns on their portfolio, whether it's bonds or equities, and head for the safety of what will quite soon be a 5% return on money in the bank, or more accurately, money at the Fed. Equity is most likely to be caught up in that, but gold definitely in there as well. It's had a hard time this year, given the scale of interest rate rises, but not as hard a time as one would have expected. That's partly attributable to the war in the Ukraine, where the US move to immobilise assets owned by Russia have awakened people to the possibility of a move away from the dollar standard and therefore the importance of gold in central bank reserves. That premium is still in there, but we are warming to gold again. It's an asset that has a structural place in our portfolio, for sure.

Simon Brewer  

I'm not sure I'm misty-eyed about gold. I own quite a lot of it, have done for a while. It's an important part of my allocation. And you say gold has had a tough year. Of course, it's only had a tough year in dollar terms. It's been a source of great performance in any other currency. Which leads us right into that currency question because in that '08 financial crisis, I remember Ruffer had large exposures, at least temporarily, to the yen or maybe even the Swiss franc as a source of diversification and return. How are you thinking about currencies today?

Matt Smith  

Currencies are back. It's very exciting, I think. FX markets, FX vol have been the dead zone since about 2010, excepting some sporadic excitements. Currencies were so boring because everyone had the same cycle. They had the same economic cycle, they had the same interest rate cycle. The world was very homogenous, globalised. Where are we today? The Bank of England was the first major central bank to hike, December last year. And yet the Fed is now a percentage point ahead of them and set to rise further. The ECB was at minus 0.5% in July. The Bank of Japan is still going the other direction, still at minus 0.1% on the deposit and still trying to cap yields at the tenor. So you've got huge central bank dispersion, central bank policy-setting dispersion, let alone economic dispersion and asset price dispersion. How is that all equilibrated by financial markets is through the currency markets, through currency volatility. Currencies are notoriously hard to call. Jonathan Ruffer often says if you have a sudden view on a currency, you should go lie down in a dark room and think about it for a while before coming back. We try to avoid using currencies for anything other than protective purposes. But there are definitely return opportunities in them. We have driven decent returns from our US dollar exposure this year. We are excited about the potential for the yen, where they appear to be going in firmly the other direction despite global evidence that the interest rate and inflation cycle has turned. Now, they've got good reasons for doing that. They want to deliver an inflation defibrillation to Japan. So far, so good. CPI is rising at a rate not seen in a very long time, hitting 3.7% just last week. But as Dave Dredge said the other day, 'What if it works? What then?' And to us, they are going to have to adjust the peg at some point. And that makes both a short position on JGBs and the long yen position attractive. At the moment, the yen is appreciating because treasury yields are falling. The yield differential between the two is compressing. The yen is going up. You can play it that way. And you know, we really mustn't rule this out. If the US economy turns out to be much stronger than everyone expects and yields and the dollar push back up again, then the pressure on the yen, the pressure on that cap, builds back. And if they let the cap go, that is likely to be in the short term at least a significant VaR shock for bonds globally. Given that we have a duration position in the portfolio that’s saying where we think the offset from an appreciating yen and rising Japanese rates will be very helpful.

Simon Brewer  

So as I sort of draw this together, it's clear that this is an investment approach that has quite a few similarities with what one knows as the hedge fund universe. You don't have a hedge fund fee structure. Who are the types of clients who you think are most suited to this approach?

Matt Smith  

We would obviously argue that it's suitable for everyone. I think we have historically been very suitable for permanent capital clients who are more focused on capital preservation and real returns than shooting the lights out. What I think is interesting is that we often share similar macro views, similar asset class, asset price views, as some of the top-end global macro hedge funds. But whilst they're trying to hit three trades really hard and really right through the year, we are trying to avoid being wrong. We're trying to construct a portfolio that can contain elements of those trades, but that has assets on the other side if they don't work or if things go the other way. That means that we don't get caught up in momentum. We don't get caught up in overcrowded trades. We're always focused on the downside, always focused on capital preservation. What you end up with there is a portfolio that is a little bit like a hard currency, but one with exposure to risk so that it can deliver better returns than just a hard currency deposit. In the coming cycle of rising volatile inflation, a structurally different market regime to the pre-COVID era. We think that's a pretty attractive proposition for anyone.

Simon Brewer  

So just before we leave the sector question, we've talked about what sits under the value umbrella. Clearly, energy has stood out. It's started to be rerated. We all know the big picture about energy transitions. But the government's aspirations probably will have to confront realities. How are you thinking about energy weights?

Matt Smith  

Energy represents around a quarter of our equity book, and has done for about two years now. To us, energy is de-fundamental. The cost of energy represents the primary constraint on the ability of economies to grow, as a result, is a critical component of inflation, inflation expectations. Cheap energy allows for strong economic growth without inflation. What we had through the 2010s was a structural underinvestment in energy supply and a great deal of asset price growth without much economic output underneath it. As that bubble is drawn down, as people sell their high-value assets to spend it in the real economy, energy is the constraint on them doing so. It's where the rubber meets the road. So to us, it is a true real asset and it is helpful that energy equities are typically very good value as well. What you get to own is a real asset with a real operating business on the top at an attractive valuation. And to us, that's a winning combo.

Simon Brewer  

So Matt, that's been very helpful in being able to encapsulate Ruffer's philosophy and this approach, your expectations, and clearly your view of a more challenging time ahead. A couple of things that I'm just going to summarise with. One in terms of your process. I just will quote back to you and I think that is important that you believe in democracy of ideas, but autocracy of decision making and that the climate which we find ourselves in in which you have articulated, the solution isn't a passive asset allocation solution, but something that is much more dynamic and much more flexible than structures that have worked well for the last 20 years. So Matt, it's been a great pleasure talking to you today. Thank you very much.

Matt Smith  

Great, Simon. Thanks very much for the conversation and looking forward to speaking again soon

Disclaimers

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All content on the Money Maze Podcast is for your general information and use only and is not intended to address your particular requirements. In particular, the content does not constitute any form of advice, recommendation, representation, endorsement or arrangement and is not intended to be relied upon by users in making any specific investment or other decisions. Guests and presenters may have positions in any of the investments discussed.

Ruffer LLP

Podcast recorded: November 2022

Ruffer performance to 31 Dec %

2018 -5.8 | 2019 7.0 | 2020 16.7 | 2021 8.2 | 2022 5.7

Source: Ruffer

All mentions of Ruffer performance refer to Ruffer’s representative portfolio, which shows the performance of an unconstrained, segregated portfolio of £1 million set up in 1995, and follows Ruffer’s investment approach.

Past performance is not a guide to future performance. The value of investments and the income derived therefrom can decrease as well as increase and you may not get back the full amount originally invested. Ruffer performance is shown after deduction of all fees and management charges, and on the basis of income being reinvested. The value of overseas investments will be influenced by the rate of exchange. For further information on Ruffer’s performance, please see the Performance page on Ruffer’s website at ruffer.co.uk.

The views expressed in this podcast are not intended as an offer or solicitation for the purchase or sale of any investment or financial instrument, including interests in any of Ruffer’s funds. The information contained in the podcast is fact based and does not constitute investment research, investment advice or a personal recommendation, and should not be used as the basis for any investment decision. This podcast does not take account of any potential investor’s investment objectives, particular needs or financial situation. This podcast reflects Ruffer’s opinions at the date of publication only, the opinions are subject to change without notice and Ruffer shall bear no responsibility for the opinions offered.

Ruffer LLP is authorised and regulated by the Financial Conduct Authority in the UK and is registered as an investment adviser with the US Securities and Exchange Commission (SEC). Registration with the SEC does not imply a certain level of skill or training.

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Ruffer contend that positive absolute returns “will not be achievable for most long only investors in the coming market cycle”. To articulate why they believe this, Matt Smith, Partner and Investment Director, explains Ruffer’s origins, before describing their investment strategy in today's new economic cycle.

In the episode, Matt explains how they assess this "changed investment climate”, the tools they are using in this environment and how their portfolios are positioned.

In describing themselves as “an alternative to alternatives”, Matt explains how they run a global macro, absolute return strategy (without a benchmark) and how they discuss return expectations with clients.

The conversation covers the sticky nature of the inflation they see persisting, the dangers of hidden leverage, and why a structural market in bonds and equities may characterise the investment landscape for a while. All this whilst seeking positive returns “come rain or shine”.

Matt Smith

Matt joined Ruffer in 2011 after graduating from the University of Edinburgh with a first class honours degree in history and German. He spent 2015 seconded to Ruffer’s Hong Kong office as an equity analyst, and is a fellow of the CISI. He sits on the senior asset allocation committee and co-manages two of Ruffer’s flagship funds.

Themes & Collaborations

Ruffer has been providing investment management services for institutions, pension funds, charities, financial planners and private clients, in the UK and internationally since 1994. Their preoccupation is with not losing money, rather than charging headlong for growth. They were set up in 1994 by Jonathan Ruffer and now employ over 320 people (in London, Edinburgh, Paris and Guernsey). Over 28 years, the typical Ruffer portfolio has produced an average return of 8.8% a year, after all fees and charges.

In Ruffer's latest investment review, Jonathan Ruffer reflected on the root causes of inflation and how the firm has adapted to it in 2022.

In this highlight video from the episode, Matt shares some thoughts on the long term, cyclical nature of inflation.

Books Covered
No books covered in this episode but follow the link below to discover more.
Disclaimer

Podcast recorded: November 2022 Ruffer performance to 31 Dec % 2018 -5.8 | 2019 7.0 | 2020 16.7 | 2021 8.2 | 2022 5.7 Source: Ruffer All mentions of Ruffer performance refer to Ruffer’s representative portfolio, which shows the performance of an unconstrained, segregated portfolio of £1 million set up in 1995, and follows Ruffer’s investment approach. Past performance is not a guide to future performance. The value of investments and the income derived therefrom can decrease as well as increase and you may not get back the full amount originally invested. Ruffer performance is shown after deduction of all fees and management charges, and on the basis of income being reinvested. The value of overseas investments will be influenced by the rate of exchange. For further information on Ruffer’s performance, please see the Performance page on Ruffer’s website at ruffer.co.uk. The views expressed in this podcast are not intended as an offer or solicitation for the purchase or sale of any investment or financial instrument, including interests in any of Ruffer’s funds. The information contained in the podcast is fact based and does not constitute investment research, investment advice or a personal recommendation, and should not be used as the basis for any investment decision. This podcast does not take account of any potential investor’s investment objectives, particular needs or financial situation. This podcast reflects Ruffer’s opinions at the date of publication only, the opinions are subject to change without notice and Ruffer shall bear no responsibility for the opinions offered. Ruffer LLP is authorised and regulated by the Financial Conduct Authority in the UK and is registered as an investment adviser with the US Securities and Exchange Commission (SEC). Registration with the SEC does not imply a certain level of skill or training.