At Exchange, Evan Harp sat down with John Davi, founder, CEO, CIO at Astoria Portfolio Advisors.
Evan Harp: Thanks so much for joining me, John. Let’s talk about Exchange. We’re here in Florida, at the most important ETF conference of the year. What are your big highlights or takeaways so far?
John Davi: My big takeaway from the conference is more interest in active management. I see Capital Group, DFA, Avantis, and Morgan Stanley at the conference. Those are big active management firms that recently got into the ETF space, and some of them have had very notable success so far. At the same time, I don’t see anybody from crypto or the speculative, disruptive growth space. That’s interesting!
I think the ETF industry has definitely matured. I see a lot of new faces and some new entrants, as I mentioned. I think, to stand out, there’s three things you have to do. One is performance — this is crucial. You have to have a research and content presence. And three — digital marketing and distribution, of course. If you want to be in the ETF space, you have to nail these three things in order to succeed.
Evan Harp: I’d love you to just drill in a little bit more into why you think 2023 is going to continue to be a big year for active management.
John Davi: We’re at an interesting point in the cycle. Passive worked so well for the last 10 years. Why? You had an embedded Fed put, low interest rates, and deflation. So much money went into low-cost, buy-and-hold ETF strategies. Trillions poured into S&P 500 index strategies, and it has distorted valuations. And we’re still in a bear market. Usually, you don’t have the S&P trading at 18 times forward earnings in a bear market. It makes me worried that there’s more downside left for the S&P.
The good news for investors is that once you strip out the S&P, the rest of the U.S. market is pretty attractive, and the rest of the world is even more interesting. Active managers can help navigate investors through all these cross currents. In short, if you want better investment outcomes in the next three to five years, you’ll want an active manager, as our firm thinks we’ll be living in a higher interest rate, higher inflation, and more volatile world. The days of an embedded Fed put are behind us. Plus, the S&P is still pretty expensive, as mentioned.
Inflation has been stubbornly high, and that’s a call our firm made two years ago. For us at Astoria, we had our best year ever in 2022 when comparing our dynamic ETF models vs. their benchmarks. Obviously, past performance is not indicative of future results. We think the next few years will be a good time to be active, and that’s why I think you see these large asset management firms entering into the ETF space. Moreover, if you look at year-to-date ETF fund flows, you’ll notice that active ETFs are taking in more assets than passive. This is new and quite notable.
Evan Harp: That makes a ton of sense. You talked about how outside of the S&P 500, other U.S. stocks are actually looking pretty good, as is the rest of the world. Can you just take a moment to give your kind of mile-high view on China, emerging markets, and maybe even frontier markets?
John Davi: Good question. I think with a strong U.S. dollar, emerging markets struggled, plus China was in lockdown. China is key for emerging markets to work. However, the U.S. dollar has been weaking of late, so there has been a bit of a tailwind for EM equities of late. Moreover, some parts of EM are also commodity- and inflation-sensitive so they can help portfolios from an inflation hedging standpoint.
So, we at Astoria are very biased because obviously we manage an inflation ETF, the AXS Astoria Inflation Sensitive ETF (PPI).
We think about some of these countries like Brazil, China, and so forth — they are natural resource-heavy. There’s more interest now in commodities than in the prior 10 years. Commodities and emerging markets needed a little bit of a catalyst, which is now as inflation has risen. Moreover, we think we can be entering into a new cycle towards non-U.S. investing. So I do think you want to own some emerging markets in your portfolios. The U.S. has had a tremendous run the past decade, and we think a new cycle is under way. No investment style lasts forever.
As far as frontier markets, it’s a little more nuanced compared to what our expertise is, but for the broad emerging markets like Brazil, China, India, you want to be nibbling in those countries.
Evan Harp: Here we are in early to mid-February 2023, what’s one thing that you think not enough investors are paying attention to right now?
John Davi: I think the yield curve being inverted and getting more negative. A lot of the leading economic indicators are not showing a sign of a trough. With the market being up so much in the first five, six weeks a year, I think people are forgetting the weakening macro and earnings environment. Many big tech companies are laying off huge amounts of workers. Earnings are deteriorating, and the Fed has communicated their desire to hike rates further. I mean, there’s implications for that. At Astoria, we think there’s a hard landing, and I think the market is pricing in a soft landing.
We talked about some of this last year, with investors and the market as a whole, but investors have such a short-term investment horizon. So, in a span of six to eight weeks, the market rallied quite a bit, and suddenly investors have forgotten the fundamentals. Actually, the rally has lasted longer than five to six weeks — it’s been rallying since early October. But I think there’s more rough times ahead for investors, which is the reason why we’re arguing to be global, to be diversified across factors, own alternatives, and get back into U.S. bonds.
I see a lot of speculative behavior, and it’s almost like the bubble has been re-inflated in disruptive growth and in bitcoin. Bitcoin is up 30% to 40%, and many disruptive growth stocks are up around that much as well. I’m very skeptical of that market segment. As mentioned, I think some investors aren’t acknowledging the challenging macro and earnings environment.
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