Discover our latest article on the strategy behind our Long Short fund !
In a context of rising interest rates, which investment strategies are the most relevant?
Falling asset prices, increased yields on cash holdings, and a rationalisation of valuations are three consequences of rising interest rates. This uncertain and challenging environment makes it difficult to generate performance, but it also signals a return to greater rationality.
During these periods of change, opportunities arise. A Long Short fund enables investors to take advantage of these new market conditions. The strategy has proven its value during the many crises of recent decades, and could truly reveal its full potential in this current situation.
Here is how…
The Long Short strategy consists of buying companies that are considered undervalued (long portfolio) and selling those we see as overvalued (short portfolio). The long portfolio bets on a rise in the share price of undervalued companies in relation to their quality. Conversely, the short portfolio anticipates a fall in the price of overvalued companies.
For example, when the market falls, the long portfolio (BDL Convictions) can be cushioned by alpha generated by the short portfolio. Since the Long Short fund strategy focuses on the valuation gap between the two portfolios, it is particularly well-suited to this environment of rationalising valuations.
Fundamental company analysis is once again relevant as their operating prospects return to being the main driver of share prices.
As the first Long Short fund in France based on this type of strategy, BDL Rempart relies on its expertise and offers a savings solution in the current environment.
Long/Short Strategy Recap
This is a product that has proved its worth over several decades. The first Long Short fund is reputed to have been launched by American Alfred Jones in 1949. If this product has existed for over 70 years, it is because it has often provided attractive performance while partly cushioning major market declines. As explained earlier, the originality of the product is this: buying shares (the "long" book) while also selling other shares (the "short" book). The Long Short fund is therefore much better placed than equity, bond, or property funds to deal with a general fall in asset prices caused by rising rates.
Capitalising on valuation dispersion
Finally, the return of a valuation anchor point is a fundamental reason for the existence of a Long Short fund. The product's strategy is to select "undervalued" stocks for the long portfolio and identify "overvalued" names for the short portfolio. When rates are at zero, investment becomes speculative, and the "valuation benchmark" disappears. Financial bubbles emerge in segments that are temporarily favoured by investors. We saw this with Tesla, whose market capitalisation exceeded $1.3 trillion, more than the entire automotive sector, while its profitability remains uncertain. The same was seen in the tech segment, where all the share prices soared exponentially, be they established, profitable businesses or startups with no evidence of a viable business model.
There are numerous similar examples, illustrating how this zero-rate policy led to a misallocation of capital and an improper assessment of risk relative to expected returns. For a Long Short fund to work effectively, an environment where capital allocation is rational is needed. With rising interest rates, the cost of capital is normalising and this necessary rationality in capital flows returns.
Many Long Short funds faced difficult times during this decade of zero rates. But those that adapted are now finding very attractive conditions for generating performance.