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Andrew Ang: Value Investing and Portfolio Strategies
00:20:32
Andrew Ang—former BlackRock executive, Columbia professor, and advisor to Sarawak’s sovereign wealth fund— explores the intersection of personal journey and professional insight in modern investing. From the severe value investing drawdown...
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- [00:00]
Fintool Representative
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- [00:59]
Mike Wahlberg
Hello and welcome to the Enterprising Investor, the flagship investment podcast for CFA Institute. I'm Mike Wahlberg and you're being treated today to an episode that was guest hosted by Allison Adams, CFA Institute's Head of research, products and services. Allison had a great conversation at the Institute's recent research conference in Chicago with Andrew Ang. Dr. Ang has over 100 publications to his name, penned during his time as the NF Kaplan professor of Business at Columbia Business School and more recently as head of Factors Sustainable and Solutions at BlackRock, where his work on factor timing was incorporated into BlackRock's first active ETF. In their chat, they cover Andrew's journey to Wall street, the beleaguered recent history of the value style advice for navigating volatile markets like the ones we're in currently, crypto allocations. And finally, what he's interested in most looking forward, and that's tax efficient investing. Here's Alison.
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Fintool Representative
Hi.
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Allison Adams
This is Allison Adams from CFA Institute and I'm here today with Andrew Eng. Thank you so much for joining us today, Andrew. We're just thrilled to have you here at Live25 and I've known you for many years. We've published you in several journals, but in particular you're sitting now on the Advisory Council of the Financial Analyst Journal. We also work together in the Q Group and really just thrilled to have you here today. Thank you. So I thought I'd start with a little bit of your background. I just learned that you actually grew up in Australia and then you came to the us. Can you tell us a little bit about your journey?
- [02:27]
Andrew Ang
Yes. Well, thank you very much for having me and thank you for everything that The CFA does the research is just, it's like oxygen for living. We just couldn't be investors without it. Well, so my journey, I think to go way back. I was born in Malaysia, and then during the 1960s and 70s, that country had experienced some race riots. And so my parents sought somewhere safe to raise their family. And right after the white Australia policy was lifted, they migrated to Perth, Australia. And I grew up in a. I was just different. I, I was the only non white kid in class. You just ask yourself, why are you different? You know, does it, does it affect things? And that sort of questioning eventually made me do a PhD. But growing up in Australia, I'm just so grateful. I'm a immigrant twice over, you know, first to Australia and then now to the United States. The opportunities that I were given as an immigrant, I never would have been offered had my family stayed in the country of my birth. So I then went to the US and pursued a PhD. I became a professor at Columbia, was there for 15 years and then was 10 years at Blackrock and just recently stepped down. But it was only recently that I think I learned something about myself. Where one of the reasons why I got interested in finance and investments was, was principally because we didn't have that much of it growing, growing up. And unlike natural sciences, our entire economy, our financial system, the investments that we make, it's entirely created by us. It's like the societal construct. And that's absolutely fascinating that we can build things out of nothing, but at the same time, they're enormously important to how people work and live, the way in which we live, how society operates. And I can't think of a better area that as a researcher and as an academic, having that research just impact directly. There are very, very few fields like this.
- [05:22]
Allison Adams
And you're giving back now too, back to your home country, right? Is that right?
- [05:25]
Andrew Ang
Oh yeah. I'm an advisor now to a small, just recently started sovereign wealth fund of Sarawak, which is a state of Malaysia.
- [05:38]
Allison Adams
Excellent, great. Let's talk a little bit about your research. So moving along, value investing is an established strategy, right? Your research showed that Value went through its worst downturn, 2018-2020. What happened in that period and what do you see as the future of Value?
- [06:01]
Andrew Ang
Oh yeah. This was the worst drawdown in approximately 100 years of data that we have. And you're absolutely right in saying that value is a tried and true strategy. Warren Buffett just recently announced that he's stepping down from heading investments at Berkshire Hathaway. And there is really no greater example than him of a value investor. But it traces all the way back to Graham and Dodd in the 1930s. And they were the first investors to use alternative data or big data for financial statements and do it in a very systematic way fashion to look for underpriced companies. By going back to this value drawdown, it was severe, Very, very, very severe. And there are three parts to the drawdown. I wrote about this in a paper called. It has this grandiose title called Trends and Cycles of Style factors in the 20th and 21st centuries. But the three parts are, first, we started to see a drawdown in 2018 and that is consistent with late cycle. Value tends to underperform during those periods. You can think about a value company as having a lot of physical capital and when a downturn comes, you'd really like to produce some other thing on your production line, but you just can't. It's just very hard to adjust. And that's called an investment theory of value in the literature. So it's not surprising that value started to decline then. And if you actually stopped it at the end of 2019, the value drawdown would have been pretty bad. But certainly there would have been others that are worse, including the late 1990s and during the 1930s. But what sends it off the edge horrifically is Covid in 2020. Right. And if you're stuck, full of physical capital and you have no physical interactions, yeah, you're going to get absolutely hammered. And that's exactly what happened to value. Now the turning point was in late 2020 and you can actually pinpoint it pretty closely in data. It really stands out. And that's November and that's the time that we had the first announcement that there was a COVID vaccine that was originally Pfizer. Now no one's receiving this vaccine yet, but markets are forward looking and so you can see this light at the end of the tunnel and markets will open up and we will go back eventually to normalcy. And that's reflected in stock prices. And there is roaring comeback for value. Value beat growth decisively in 2021. There were some hiccups as we had various different mutation streams, variants of COVID but that was the comeback. But hopefully we will not experience anything like this again. It was the most severe drawdown both by duration and by severity in the history of financial investing for value.
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Allison Adams
So you're addressing turbulent times. Right, so let's stay on that for a minute. So during turbulent times, what do you recommend for portfolio construction or Selection.
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Andrew Ang
Oh, great question. And there is a lot of turbulence now. I think we see geopolitical instability. We see a lot of questions about higher inflation. Structurally, there's climate change. Great pieces that the CFA has done on net zero, all on investment aspects of that, too. So what should you do during turbulent times? So the first thing, it's sort of like the Douglas Adams thing of don't panic, stay the course, don't make major changes unless you absolutely have to rebalance and ride it out. And that's the first way that you can actually take advantage of those turbulent times is just to reap the rebalancing premium and stay the course. If you really want to, you can look at tilting your portfolio. I don't recommend wholesale, very large changes to portfolio. But at the margin, you tilt towards defensive assets, including cash. But you can tilt within every asset class. So in equities, you might hold more defensive securities. Often people talk about defensive sectors like defensive factors like quality and minimum volatility. You can tilt towards defense in fixed income by holding shorter duration, higher quality assets there. And some of the other asset classes, like hedge funds, CTA strategies have historically proven to have higher returns during these very, very turbulent market downturns. So I would suggest those are at the. At the margin. The third thing I recommend for investors to do is just, I think really comprehensively that it's not just your own personal financial portfolio, but there are things that we can adjust our consumption. We can also think about other sources of financing which may include credit. And so sometimes we might have a line of credit on a house, we might be able to borrow some money. And in some cases, it's actually better to do that than to touch retirement funds, for example. So the last point is think holistically. It's not just about the narrowness of a financial portfolio, as important as that is by itself, but we also should think of the bigger picture as well.
- [12:23]
Allison Adams
Yeah, no, thank you. And back to your research. I'm also thinking, as we're talking about the times we're in right now, at that time, crypto wasn't quite as popular as it is now. And so now we have a crypto etf. It's gaining tract, certainly with institutional investors. Many people own it in their own personal portfolios. What's your view on crypto? How much crypto should someone own? I mean, I love your perspective on that.
- [12:51]
Andrew Ang
Yeah, that's a great question. Does crypto have a place in the asset allocation of an investor? And I would say that I consider modest holdings I think 1 to 2% might be appropriate for most investors. They're actually better served just with plain vanilla equities and bonds, particularly index plain vanilla equities and bonds. I just recently wrote a paper in the Journal of Alternative Investments looking at optimal crypto holdings. And there's several very interesting stylized facts about crypto. And one of the things is its uniqueness as a financial asset of having very pronounced right hand positive skewness. Right? And just to give you an idea about just how pronounced that skewness is, the skewness for Bitcoin is of the order about 140%. And if you look at the third central moment for equities, it's minus because equities crash occasionally, but it's minus 0.00 something. I think it's four, right? And bonds, it's almost zero to the fourth decimal place. So it's staggering just how right skewed this crypto market or asset is. Now the intuition for that is that okay, there are most of the times you will lose money in crypto, but occasionally, what if all the prognosticators actually turn out to be correct? So it does revolutionize our entire financial system. We do get all the promises of decentralized Finance or DeFi Web3 comes along and we get this new regime and I'm going to call that a bliss state. So that bliss state has very, very small probability. But if it happens, the payoff is absolutely enormous. Now it's very interesting because crypto with this very pronounced right hand skewness, I said it's unique because most of our assets in finance go the other way. I said equities crash, real estate crashes, high yield draws down every now and then. Even we talked about a value drawdown, right? These very famous and long standing strategies. The value even that has a left hand tail too. So crypto is unique that yes, the volatility is absolutely enormous. It's well above 100%, but it will have this right hand tail. Now this means that you need an investment framework that moves beyond mean and variance and you need something that takes into account these higher moments. But the higher moment is not like equities, like we would avoid equities. All else equal or at least hold less equities just to take into account the fact that it might crash on the downside. Crypto, however, crashes as well, but it crashes on the upside, right? Instead of a meltdown, potentially there's a melt up and it might pay for you to hold just a tiny little bit of crypto in your portfolio because it could just enter bliss and you want some positive exposure to it. So in the paper we go through some calculations. I like Kahneman and Tversky's cumulative behavioral utility functions because that's what actually people do. And the paper shows that appropriate calibrated you can justify very, very modest holdings in an investor's portfolio. But I'll just reiterate that I think the average investor, it's fine to hold no crypto, just stick state of the course rebalance with plain vanilla equity and bond funds.
- [16:57]
Mike Wahlberg
Great.
- [16:58]
Allison Adams
So you've talked about your research, you're very well published and we've talked about your crypto research, your value investing research. We know you've also covered ESG and sustainability. What are you looking at next? What's the next area?
- [17:11]
Andrew Ang
Yeah, the areas that I'm really interested now is tax efficiency. I'm really interested in the joint tax location, asset allocation problems. So tax locations are things like an IRA or Roth. Of course you have a taxable account as well, but equities held in your Roth have a very different return than equities held in your taxable account. Or bonds held in your taxable account look very different from bonds that are held in your, you know, in your, in your ira. In some cases you can do like a Roth conversion, you know, max out all the contributions to your tax deferred things. But because equity returns are very different across these different tax locations, we don't really know how we should optimally allocate across those tax locations. Right. So I want to solve both the question of how much equities you should hold, but also where you want to hold those equities. I believe there's a lot we can do with tax efficient investing in each asset class. And then, you know, we talked about value and some of these other style factors together. We talked about other investment strategies bringing all those together and having tax efficient versions of those. If there's one thing I am certain of, debt to gdp ratios are 120%. They're not declining. They're at the same level as World War II. We probably will be facing higher taxes.
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Allison Adams
This is a very different area than you've covered in the past. What inspired you to go down this path or.
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Andrew Ang
Yeah, yeah, I created some tax manager strategies that my previous employer, BlackRock, I've also written a little bit about taxes too. But you're right that compared to the bulk of my research on asset allocation and alpha systematic investing, it's relatively newer. But I've just really believed that potentially millions of investors individuals can improve their financial outcomes. A dollar of tax saved is far more valuable than a dollar of uncertain alpha. And I believe it's time that we might be able to really improve all of the savings of millions of people by taking into account taxes together with the asset allocation problem.
- [19:47]
Allison Adams
And along those lines now as the onus is being put on the individual, as it had been more on the institution through pension funds, but now people have to save for themselves in most cases, right?
- [19:57]
Andrew Ang
So I think it also even makes a difference when you're retired, the consequences of which account do I fund my consumption from, do I withdraw from? And in the worst case, if you don't actually withdraw enough from some of your IRAs, you will get whacked with penalties. But if you do get the decision right and you withdraw from the optimal place, it allows your money to grow, further extending your retirement savings and allowing you to pass more on to your to your heirs.
- [20:33]
Allison Adams
Excellent. So, wrapping up Enterprising Investor podcast, we always ask the same question at the end, which is, if you could give your younger self some advice, what would that be?
- [20:44]
Andrew Ang
Oh, I think the advice I would give myself is just go and do it.
- [20:50]
Allison Adams
Excellent. Okay, well, great. Well, thank you very much, Andrew. It was wonderful to see you here at Live25, and we're looking forward to your latest research.
- [20:59]
Andrew Ang
Thank you very much for having me.
- [21:00]
Mike Wahlberg
I'm Mike Wahlberg, and this has been the Enterprising Investor.