Interview published in Allnews.
“Markets aren’t efficient, and tackling them through behavior offers interesting arbitrage situations,” explains Michel Dominicé of Dominicé & Co.
Born from a rather original idea, Dominicé & Co Asset Management has been in existence for over 20 years. After completing a doctorate in political economy with a specialization in monetary economics at the University of St. Gallen, founder Michel Dominicé began his career working for a number of financial institutions in Geneva, London, New York and Hong Kong. It was while heading up the US and global equities department at Lombard Odier in Geneva that he began to take an interest in volatility and its relationship with mass behavior on the equity markets. This led to the key idea behind the Cassiopeia fund he launched in 2003: exploiting market “myopia”. A strategy reinforced by the arrival of the first VIX futures in March 2004. Today, he reproaches market participants for not integrating the paradigm shift represented by the knowledge economy, which he sees as the fundamental reason for the long-term decline in interest rates.
What do you call market myopia?
Market myopia is the widespread tendency among investors to attach too much importance to short-term risk, while the asset’s value unfolds over the long term. Markets are not efficient, and approaching them through the lens of behavior leads to arbitrage situations.
What do you see as the impact of the “knowledge economy”?
Following the 2008 crisis, we entered a zero-interest-rate world. There are two main reasons for this: the knowledge economy and a demographic shift in which life expectancy is increasing savings (and inequality), while investment opportunities are shrinking due to a slowdown in world population growth. In the West, this has led to talk of deflation – and even Japanization. The increase in central bank balance sheets is generating excess liquidity, but banks are not extending credit for lack of opportunity. It’s not enough to have capital, you also need ideas. 40 years ago, 40% of credit went to businesses. Today, it’s just 10%. The time it takes to go from start-up to mega-capitalization has shrunk (20 years for Facebook) with very little capital. More generally, I’d say that the world has changed so much that the size of central banks’ balance sheets today has little impact, whereas 40 years ago, it would have caused a credit boom and explosive inflation. In short, with the knowledge economy, capital is no longer a force.
What do you think of interest rates in Switzerland?
In Switzerland, partly for the reasons mentioned above, real interest rates became negative and policy rates followed. Under the pressure of inflation, rates have recently risen again, but I believe they will soon turn negative again, due in particular to current account surpluses which have generated a surplus of domestic savings. The Swiss franc is under permanent upward pressure and will continue to appreciate, which will encourage the SNB to use negative rates.
What is the basis of your mass behavior strategy?
It operates on several sets of parameters: market myopia, seasonality and monetary illusion. Take seasonality; it’s said to be simplistic, yet most of the positive performance on equity markets takes place between the end of October and the end of April, and most of the risk is concentrated between May and October, hence the saying “Sell in May and go away”, which turns out to be true on average. Take the case of a stock like Caterpillar: over 40 years, if you held it between the end of October and the end of April, you would have multiplied your capital by 300. Conversely, if you held it between May and October, you would have divided it by 10. This phenomenon affects cyclicals more than defensives, but in a way, the dice are loaded. Note that the majority of stock market crashes occur in October, a month when risk aversion is at its highest and VIX indices are on average at their highest.
Bonds won’t even cover inflation any more, so we’ll have to replicate them, but with a positive yield, which is why we’ve launched a Swiss real estate fund.
Are your equity strategies based on the same principles?
Yes, we don’t do company analysis, because there’s a whole host of analysts who do that already. But over the last 10 years, we’ve outperformed the benchmark index, whereas 90% of active funds underperform.
Don’t you have any competitors in these strategies?
There are a lot of players working with volatility, but they don’t make the link with mass psychology. Moreover, volatility funds often have a fairly short life expectancy, whereas we’ve had 18 positive years over 20 years.
What impact do interest rates have on financial assets?
Bonds won’t even cover inflation, so we’ll have to replicate them, but with a positive yield, which is why we’ve launched a Swiss real estate fund.
Doesn’t a fall in demographics mean a fall in real estate?
It’s going to be some time before demographics become a pejorative factor in Switzerland, because regional polarization attracts the wealthy and the skilled. The population is increasing towards the upper classes, who are looking for quality real estate in highly dynamic areas such as the Lake Geneva basin, Basel and Zurich. Our fund focuses on residential real estate in the Lake Geneva region, where prices are rising faster than the global average, and we have outperformed the Swiss real estate fund index by 17%. It’s worth noting that the rise in interest rates was very modest compared with inflation. When inflation reached 3.5%, the SNB rate was 1.75%. At the same time, rents rose by 6%, protecting investors from inflation.
Where does alternative investment fit in where interest rates can reach 5.5%?
We do better with volatility and market derivatives. On the dollar, it’s possible to make over 10%. In the event of a panic – as in March 2020 – volatility skyrockets, and it was possible to achieve a performance of 20%. 2023 was a quiet year, but quiet in the short term with a lot of uncertainty over the long term, and performance was around 10.6% on volatility and market futures and options. Please note that we’re not talking here about arbitrage on erroneous prices, but about continuous opportunities arising from the fact that investors focus on short-term risks rather than long-term value. Since this behavioral bias is permanent, we have been able to make continuous gains over the past 20 years.
What about a capital increase?
Dominicé Swiss Property Fund, a listed Swiss real estate fund, will be carrying out a capital increase of CHF 40 million. The subscription period will run from March 15 to March 28. For further information, please click here.
The fund focuses primarily on residential properties with high value-creation potential. The fund’s strategy is to acquire residential rental properties offering affordable housing close to amenities and transport links. The fund owns its properties directly. This strategy allows Swiss resident unitholders to benefit from a tax exemption.
