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India’s Prospects Brighter as Modi Gets Serious about Reforms

El impulso reformista de Modi mejora las expectativas sobre la India — Photo: Dennis Harvis. India’s Prospects Brighter as Modi Gets Serious about Reforms

India offers many investment opportunities but is often stymied by its perceived hostile business climate. Since taking office in May last year ending ten years of a Congress-led government, Prime Minister Narendra Modi has demonstrated that he is eager to revive India’s economy, which has been in the doldrums suffering from a large current account deficit, spiralling inflation, poor infrastructure, as well as having unfriendly business laws and regulatory environment.

While the reforms introduced have so far been incremental, Modi has now promised “unlimited” economic reforms. Recently, the PM opted to push through reforms via ‘ordinances’ – a temporary executive order while parliament is in recess. Six weeks after parliament reconvenes, an ordinance must be approved by parliament or be reissued. We think this could be a game changer for India as Modi is showing he means business and will not be deterred by parliamentary obstruction.

Key reforms include:

Insurance: Raising the foreign investment limit in insurance to 49% from 26%. This could potentially attract up to US$ 7-8 billion from overseas investors, providing a major boost to the industry.
Land acquisition: Making it easier to acquire land for projects such as power,defence, industrial corridors, social infrastructure and housing for the poor. These projects no longer require consent of 80% of landowners during acquisition.
Coal mining auction process: The repromulgation of the ordinance on coal will facilitate e-auction of coal blocks for private companies and allot mines directly to the state. This removes a big overhang for the sector and will boost coal production.
Auction of minerals: All minerals other than coal will be allocated through auctions instead of an allotment basis. This will aid transfer of leases and allow a bigger scale of operations for mining companies and attract global majors.

In our view, India is one of the most positive markets in Asia. From a macroeconomic perspective there are reasons to be cheerful. GDP is forecasted to grow at a respectable 6.4% this year, while inflation appears to be under control, with the CPI remaining within the RBI’s target of 6% retail inflation by January 2016. Additionally, the manufacturing sector has been strengthening over recent months. While this more optimistic view for India is reflected in stock prices, following the recent market correction Indian equities appear to be reasonably valued now relative to historical valuations.

In the short term, lower commodity prices should be positive for corporate earnings. Lower oil prices would significantly benefit India as an oil importing country; resulting in more savings for consumers, reducing imports, improving the fiscal deficit and increasing foreign exchange reserves. Longer term, progress on reforms could provide a boost to equity markets and support the already positive macroeconomic investment case for India. Similar to many other countries within Asia, demographics, relative fiscal strength and a higher rate of growth should ensure India’s attractiveness to investors.

The Henderson Horizon Asian Growth Fund remains overweight India as we believe our investments in selected financial, consumer, pharmaceutical and IT services companies can continue to generate significant profit growth and superior returns over the next few years. Clearly the risk is that the economic reforms stall but the companies that we hold have delivered impressive returns even in a weaker political environment. Our current favoured holdings include HDFC and affiliate HDFC Bank, Tata Motors, fast moving consumer goods manufacturer Dabur, and software business, Tech Mahindra. We have also initiated a position in Lupin. The pharmaceutical has broad geographic exposure and a strong pipeline, and is also one of the fastest growing major generics companies in the key US market.

Andrew Gillan and Sat Duhra are Portfolio Managers of the Asia ex Japan Equities team at Henderson Global Investors. Andrew Gillian will be speaking in Miami Beach in the investor’s brunch, which will precede the II Funds Society Golf Tournament, on March 13th, 2015. If you are a professional investor and would like to register for this event, please contact info@fundssociety.com

Fear of the Foreign

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Buenas noticias para los mercados emergentes — CC-BY-SA-2.0, FlickrPhoto: Honest Reporting. Fear of the Foreign

Investors are on edge. We’re barely into the New Year and markets have been left shaken by the Swiss franc’s biggest ever one-day move; an election win for a populist party that’s demanding to renegotiate Greece’s relationship with the European Union; more evidence of a slowdown in China; and worries that cheap oil reflects weak global demand rather than a turf war between producers. Against this uncertain backdrop investors are looking again to central bankers for coordinated action, yet policymakers look set to move in opposite directions.

Stock pickers hoping this year will herald a painless transition back to a world in which central bankers and liquidity play reduced roles in determining investment returns will most likely be disappointed. All this uncertainty is making it harder for the US Federal Reserve to decide when best to raise interest rates in the first step of so-called monetary policy ‘normalisation’, even as Europe and Japan remain committed to further stimulus.

More recently emerging markets have suffered. Within six months what had been a narrative of slow recovery has turned once again into an exercise in spotting the weakest link. Like predators isolating the weakest member of the herd, short-sellers are already said to be rounding on the currencies, bonds and equities of selected emerging markets.

Many of the arguments that sustain the critics have been around for a while: a rising dollar makes assets in ‘riskier’ parts of the world less attractive to international investors; countries that rely on foreign capital to plug gaps in current account deficits will come under pressure; higher US interest rates force emerging economies to follow suit despite sluggish growth.

All of which is true, to a degree. But emerging economies are still growing faster than most developed ones and will do so for many years to come; emerging economies are in better shape today because they began reducing current account deficits after the ‘taper tantrum’ of 2013, when the suggestion of an end to Fed stimulus policies caused a panic; and emerging markets hiked interest rates following the taper tantrum and so, with the collapse of oil prices driving deflationary pressures, actually have room to cut. At the country level, most emerging countries are well- positioned to handle the latest tempest.

Yet, now there’s a new concern – the level of corporate debt denominated in foreign currencies. The argument goes like this: ever since the global financial crisis, emerging market companies have gorged on cheap debt, especially dollar debt. So with the dollar (and now the Swiss franc) surging higher, corporate borrowers face ever more expensive debt repayments, even as revenues slow and show no sign of imminent recovery.

The numbers certainly look scary. From 2009 until last year, dollar- denominated borrowing by the private sector in the emerging markets increased more than 100 per cent, or by more than $1 trillion. With memories of the global financial crisis still fresh for many people, it is only right that the risks of excessive debt shouldn’t be lightly dismissed.

However, these numbers need to be reappraised within the proper context. While some economies may still be ‘emerging’ in terms of governance and market liberalisation, they now rank in size with the biggest. The obvious example is China which, by one measure, overtook the United States last year as the world’s largest economy.

All emerging markets grew rapidly over the past two decades and once the size of these economies is taken into consideration, a very different picture emerges. In fact, external emerging market debt as a percentage of gross domestic product (GDP) has been remarkably stable – around 40 per cent – since 1995. Meanwhile, external emerging market debt (as a percentage of GDP) that’s attributable to the private sector has been almost flat over the same period and remains well under 10 per cent.

That’s not to say it isn’t an issue. Debt levels – the total level of all borrowing – need to be carefully monitored. Let’s not forget that the lion’s share of debt in emerging markets is still denominated in local currencies and there has been an expansion of all debt. But we don’t think that existing levels of foreign debt specifically represent a systemic risk.

Another reason for our view is because a lot of this foreign currency debt is linked to borrowing by commodities companies, especially those in the oil and gas sector. Sharp falls in commodity prices are a problem, but it is also an industry in which dollar borrowing is matched by dollar revenues, so the danger of a currency mismatch of the type we saw in the 1997/98 Asian crisis is greatly reduced.

Of course, high-yield Chinese property bonds are now in the spotlight with Shenzhen-based Kaisa Group Holdings having missed a coupon payment and its creditors scrambling to protect their interests. Chinese companies have become some of the biggest issuers of foreign currency bonds as they sought to sidestep credit curbs at home. But investors still recognise that, on this occasion, the problems are company-specific and panic hasn’t spread to the larger developers. We’re still confident in the ability of the authorities to manage debt levels.

The coming year will be challenging for many markets, not just those in the developing world. However, we feel that most emerging markets are set to benefit from oil prices at current levels (although oil exporters are obviously big losers) and companies will continue to make steady progress trimming fat to operate more efficiently. Sure, investor sentiment remains poor and this won’t help with capital outflows, but with price-to-book valuations well below the five and 10-year averages we think there is plenty of value.

Column by Devan Kaloo, Head of Global Emerging Markets, responsible for the London based Global Emerging Markets Equity Team at Aberdeen AM

Imagine! Impact Investing Can Make a Positive Difference for Society and Shareholders Alike

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As the song goes, “You may say I’m a dreamer, but I’m not the only one.” For those who invest in projects with the potential to make a positive difference in society – so-called “impact investing” – there is an opportunity both to change the world and to achieve positive returns on investment.

Impact investing has been expanding throughout the Latin American region, including in markets whose governments encourage such investments. In many Latin countries, investment capital for small- to mid-size businesses is limited and not easy to access, requiring owners to seek non-traditional sources of capital.

Here is where the opportunity lies. Identifying well managed but under-capitalized businesses, without the ability to fully realize their potential, can create positive change and can provide positive returns for investors who choose correctly.

One such opportunity comes in the form of renewable power projects that promise to transform Latin America’s energy markets in the coming decades. With dramatic declines in technology costs in this industry, investors can participate in explosive growth in a sustainable sector. In particular, both wind and solar power are poised to grow rapidly, given the region’s great, untapped natural resources.

The $425 million Penonome wind energy project in Panama, backed by InterEnergy and financed by the International Finance Corporation (IFC) and other lenders, is expected to begin to produce power in early 2015. In Panama, the price of power is extremely high, and blackouts and brownouts are endemic. The power market is currently driven by hydroelectric energy, but during the so-called “El Niño” dry seasons – such as the one we are currently in – this becomes problematic. The Penonome wind project, which is expected to be the largest in Central America, provides great opportunity: for the Panamanian people, by re-balancing sources of electricity and reducing power prices; and for InterEnergy and its investors, who expect to achieve above-average returns on their investment.

Wind power is increasing prevalent in the Latin America markets. From 2010 to 2012, Brazil, Chile and Mexico added 3.7 GW of wind projects, collectively. Solar power is heating up as well, and the ceiling for growth is high, considering that Latin America only constitutes just 2 percent of the global demand for solar power.

Another opportunity is in businesses that provide non-traditional forms of financing, targeting people at the base of the pyramid, the “brotherhood of man” in Latin America that traditional banks don’t serve. And the knowledge of how these businesses work comes not from developed countries but from other emerging markets, whose people have the same needs. Bayport Finance, which has microfinance businesses across Southern Africa, sees a great opportunity to serve the large unbanked population in Colombia, which has the fewest bank branches per person of any country in Latin America.

Development Financial Institutions play a key role in supporting businesses that provide non-traditional sources financing. For example, the Inter-American Development Bank (IDB) has a specialist division, Opportunities for the Majority (OMJ), is leading what will be a $50 million financing for Bayport in Colombia, designed to spur just this kind of impact investment. The OMJ’s goal is helping to “promote and finance market-based, sustainable business models that… develop and deliver quality products and services for the Base of the Pyramid in Latin America and the Caribbean. ”[1]

And time is on the side of the impact investor. Timelines are more forgiving, and, given the stature and clout of supporting institutions such as IFC and IDB, impact investments often have protections against competitive constraints on their success. Developers of renewable energy projects, protected by guaranteed revenue contracts, can offer very long tenured financing, in order to provide adequate returns to their investors. Impact investors working with these international organizations can afford to give businesses that make a positive difference the time to mature.

Impact investing can yield above-average returns, including (but not only) in the renewable energy and non-traditional finance sectors, and leading global investors are beginning to see the light. Each of these areas of investment can make the Latin American and Caribbean region a better place, while also providing a still untapped opportunity for impact investors.

Article by Ben Moody, President and CEO of Miami-based Pan American Finance, a specialized investment banking advisory firm providing world-class advisory services in Latin America, the Caribbean and the U.S. markets, including for renewable energy and financial services.

[1]IDB Opportunities for the Majority – Serving the Base of the Pyramid in Latin America – Inter-American Development Bank. (n.d.). Retrieved December 4, 2014, from http://www.iadb.org/en/topics/opportunities-for-the-majority/idb-opportunities-for-the-majority-serving-the-base-of-the-pyramid-in-latin-america,1377.html

Occupy Wall Street in Qing Dynasty, China

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Occupy Wall Street en la dinastía china Qing — Photo: Dennis Jarvis. Occupy Wall Street in Qing Dynasty, China

What if a banker’s family could be taken as slaves to repay losses arising from the banker’s malfeasance? This is no fantasy from Occupy Wall Street. Such a system actually existed 200 years ago in the Shanxi banking system.

The possible enslavement of a bank employee’s relatives is the most severe instance of policies and operating methods that aligned employee and shareholder interests. Because the principal/agent wedge lies at the heart of corporate governance, Shanxi bank governance has much to recommend to modern banking (well, except for the slavery part).

Bordering Mongolia, Shanxi is a desolate region in central China best known today for coal mining. It is a surprising birthplace for a banking system that served elite citizens and the treasury of the Qing dynasty. Shanxi banks thrived amid wars and pervasive corruption in the merchant economy. They started by providing bank drafts to traveling merchants, but soon established regional branches that took deposits, provided loans, exchanged currencies and recorded peer-to-peer loans, for which certificates were issued.

They had a peculiar class share structure that distinguished between asset ownership, operational control and cash flow rights. “Capital” shares conferred a pro rata ownership stake in the assets of the bank. However, they did not come with a say in how the bank conducted daily operations. Most fascinating of all, a Shanxi bank capital shareholder had unlimited liability, in the same way as a Lloyds name.

Therefore, Capital shareholders had to hire carefully and structure thoughtful compensation policies. On “assessment days,” Capital shareholders conducted a performance review of bank employees and allocated “Expertise” shares, which came with the right to receive dividends. Expertise shareholders (i.e. employees) had a pro-rata vote in bank operations. The general manager functioned as a one-man board of directors and could ratify or reject recommendations. The general manager was himself periodically re-appointed or replaced, based on a vote of Capital shareholders.

Expertise shareholders who retired or died on the job had their shares converted to “Dead shares,” which had cash flow rights, no management vote and a finite term. In this way, the problem of managerial entrenchment was mitigated.

Given the unlimited liability of Capital shareholders, they also relied on cultural and tribal enforcement to safeguard financial interests and mitigate their unlimited liability. Shanxi banks hired from only within the Shanxi province. Job candidate family histories going back three generations were scrutinized. Candidates needed affidavits of personal integrity and a guarantee letter from prominent citizens. No marriage was allowed during a branch tour of duty, and family members were not permitted to accompany the employee during branch postings. Family members of bank employees were a kind of “performance bond,” and Capital shareholders liked to keep this collateral nearby.

In return for enduring such conditions, Expertise shareholders, such as employees, enjoyed a stable job with pay for performance, and a handsome pension in retirement. Over the 100 years during which the banks were active, no case of significant employee misbehavior was documented.

By the beginning of the 20th century, the Shanxi bank empire had become the government’s banker. So what happened to it? First, political turmoil hurt both loan performance and loan growth. Some of the instability was homegrown and some was introduced by Western intrusion. Secondly, competition intensified among local and foreign banks using telegraphs to dramatically cut operating costs. As if this disruptive technology was not bad enough, the newcomers also operated with limited liability, which translated into bigger balance sheets and less risk aversion. Profitability for Shanxi banks disintegrated as a government banking franchise and its strong reputation were not able to offset a higher cost structure and operational inflexibility.

Chinese banking today is dominated by state-owned enterprises. While they serve an important public utility function of taking public deposits and allocating capital, their struggles with the biggest economic transition in history have been well-documented. The bank sector in countries growing much more slowly have not been immune from the same problems that Chinese banks face. Fast-growing economies present their own set of challenges and dangers for the highly levered bank sector. Compounding these difficulties in China is the sheer geographic, demographic and economic scope of bank operations.

We are certain to see more turmoil in the years ahead, but it is worth keeping in mind that banking discipline and robust corporate governance were once well-established in China, and may yet come again.

Opinion column by Gerald Hwan, Portfolio Manager at Matthews Asia.

The views and information discussed represent opinion and an assessment of market conditions at a specific point in time that are subject to change. It should not be relied upon as a recommendation to buy and sell particular securities or markets in general. The subject matter contained herein has been derived from several sources believed to be reliable and accurate at the time of compilation. Matthews International Capital Management, LLC does not accept any liability for losses either direct or consequential caused by the use of this information. Investing in international and emerging markets may involve additional risks, such as social and political instability, market illiquidity, exchange-rate fluctuations, a high level of volatility and limited regulation. In addition, single-country funds may be subject to a higher degree of market risk than diversified funds because of concentration in a specific geographic location. Investing in small- and mid-size companies is more risky than investing in large companies, as they may be more volatile and less liquid than large companies. This document has not been reviewed or approved by any regulatory body.

Investors will Move out of Armageddon Mode and Focus on the Massive Benefits of a Lower Oil Price

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There are certain things that the month of January is traditionally noted for. Post the excesses of the Festive Season, the de rigeur New Year fitness regime. For those who enjoy such things, a half-decent pantomime, none of which would be complete without the presence of an arch villain and, of greater importance to the investment community, a fund manager’s outlook.

The performance of UK equities has not been without its own drama of late. We’re reliably informed that the UK stock market has seen its worst start to the year since 2008. For those needing a gentle reminder, that coincided with the start of the world’s financial crisis. And yet, seven years on and the world is a different place, slowly but surely continuing to heal, with central banks still having to be incredibly supportive.

So which arch villain has been responsible for spooking the markets this time? Look no further than the plunge in the oil price. In early December I noted that the rapid demise of Brent Crude could lead to it going to an almost unthinkable (at the time) US$ 50 a barrel or below, a near halving in six months. Now we are at that level, and for those who are wondering where we go from here, the honest answer is that it doesn’t really matter.

The Saudis have set in motion what they want to achieve. Sooner rather than later investment by the Canadians, Americans and others will result in the higher cost, and more unconventional areas of extracting oil, notably oil sands in Canada, shale projects in the US and deepwater drilling projects in the Gulf of Mexico and elsewhere, being abandoned.

The market is rightly searching for casualties and there are already obvious candidates. The most identifiable are the oil majors, suppliers to the oil industry, some sovereigns and lenders to all of the above. The presence of hedging contracts could delay the pain somewhat, so the real impact on company cashflows will take several months to come through. But casualties there will be.

Yet, at some stage, investors will move out of Armageddon mode and focus on the massive benefits that will accrue from a lower oil price. Western consumers and Western corporations, as well as the Asian economies of China and Indonesia will be amongst the immediate beneficiaries. Already economists are busy constructing models, trying to quantify the benefits. In the US, for example, the advantage of an average earning American doing average mileage should equate to a 2% pay rise as a result of the falling oil price. (Hands up who knows if such a person actually exists).

Let’s not forget the massive benefit a falling oil price has on Europe. All eyes at the moment are on Mario Draghi, I remain deeply sceptical over the impact of indiscriminate bond buying on loan demand. Much more quantifiable are the benefits of a falling oil price, coupled with ongoing weakness in the euro. These two factors could really help growth in the eurozone towards the second half of the year. Watch this space.

And so to the UK. While the momentum of growth is slowing here, the labour market is still supportive and further falls in inflation beneficial. Electoral uncertainty inevitably exists and already appears to be taking its toll on corporate confidence, as evidenced by Deloitte’s quarterly poll of UK CFOs. As a result the UK stock market is likely to be stuck in a trading range for the first half of the year, with sterling drifting gently towards £/US$ 1.40, clearly helpful for overseas earners.

The stiffest headwind in the US, apart from the more obvious stretched valuations and impacts of a stronger dollar on US corporations, is history. The US stock market has risen for six consecutive years now. The odds of that becoming seven are heavily stacked against it. But then again we have to keep on reminding ourselves that we are not in a ‘normal’ stock market cycle. All the academic studies indicate that post a financial crisis, the ‘normal’ economic timeline goes out of the window. Forget the six to seven year cycle. We’re told it could be 15, or possibly even 20 years, before the healing process has restored us to a more familiar world.

And what of the bond market? Just why were so many of us caught out by its direction in 2014 and for the first few weeks of 2015? Well, the answer could simply be that it continues to be a deflation hedge against the uncertain global growth outlook and the continuation of its role as a safe haven asset.

So where does this leave us? We’ll need to see global broadening and strengthening of profits growth. The aforementioned headwinds are likely to act as a brake on profits for the first half of 2015. The second half of 2015 however is shaping up to be more promising in this respect, with earnings growth essential for any share price progression. In essence, more of the same. More healing, certainly more volatility, but probably more progress.

Opinion column by Richard Buxton, Head of UK Equities, Old Mutual Global Investors

Chinese Stars Shine Bright Through Macro Clouds

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Las estrellas chinas brillan entre nubarrones macro — Photo: Gabriel Jorby. Chinese Stars Shine Bright Through Macro Clouds

Investors who obsess and fret about China’s slower headline gross domestic product (GDP) growth may be missing valuable individual equity investments. China is growing at a more measured pace than in the past and in 2015, China will continue to balance the competing needs of growth, reform and deleveraging. As such, official GDP growth targets may need to be revised down. However, a myopic vision that correlates GDP growth to investment returns overlooks the bright prospects for many companies, particularly those that are genuinely innovative, globally competitive, and those companies experiencing multi-year improvements in demand dynamics driven by demographics.

Bright stars

Many Chinese companies have a proven track record of delivering profit and cash-flow growth irrespective of the Chinese economy. The technology sector, particularly internet and software, is one of the few industries in China where research and development (R&D) is a priority. R&D has already led to growing profits, as companies develop products that increase user loyalty, generate incremental revenue and create valuable user bases that attract online advertising expenditure.

Tencent and Alibaba are arguably more innovative than Amazon, Facebook and Twitter as a result of their onnovative applications, huge user communities and early development of payment facilities. Tencent was founded in 1998 and now has more than 815 million monthly active instant messaging accounts. In 2013 it spent CNY 5.1bn on R&D (£0.5bn), which was 8.4 per cent of sales.

Recent IPO Alibaba was founded in 1999 and is now the world’s largest ecommerce company by revenues, in the financial year ending March 2014.

Companies in China’s technology sector are experiencing significant growth. The market capitalisations of internet firms Tencent and Alibaba now rank alongside some of the largest companies in China.

Another bright technology star is Lenovo, a Chinese PC company that through stable and strong management, international acquisitions, and the development of a global manufacturing footprint has become a recognisable global brand. It has been the world’s largest PC vendor for over a year, with a current market share of 19 per cent.

Demographic drivers

The Communist Party controls China but one thing it cannot control is demographic change, where past decisions can lead to future trends. China has had a one child policy since 1979 and consequently China’s population is rapidly ageing just as it is getting richer. This is triggering a multi-year boom in demand for healthcare drugs, therapies and services. China has probably underspent on healthcare, and with greater life expectancy and insurance provision we expect supportive industry tailwinds to benefit domestic healthcare companies such as CSPC Pharma and China Medical Systems.

So do not be frozen in the headlights of China’s macroeconomic slowdown, instead appreciate how far some Chinese companies have come and how the outlook varies dramatically on the ground.

Opinion column by Charlie Awdry, Chinese Equities Portfolio Manager at Henderson Global Investors.

Oil: Pulled Apart or Pushed Ahead?

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Petróleo: ¿impulso hacia delante o hacia atrás? — Photo: Sten Dueland. Oil: Pulled Apart or Pushed Ahead?

At the beginning of 2015, the worry machines of the world are working full time. We hear that China is a bubble, Japan cannot be fixed, Europe is a mess again and the United States is showing signs of slowing.

There may be some truth in all this, but there are other truths that we should also consider.

The drop in oil prices is basically good for 70% of the world’s economies

The biggest economic regions, mentioned above, are all net importers of energy, and now that the price of crude oil has been roughly cut in half, their costs of doing business will also fall. Further, a drop in commodity prices tends to spur overall spending. Historically, going back over 50 years, a 20% decline in oil prices has signaled a 0.5% – 1% rise in the rate of real global GDP growth during the subsequent 12 months. The current drop in oil is about twice that.

The world’s currencies have been going through a dramatic readjustment

Many local-country currencies that were once the darlings of international investors have fallen, while the value of the US dollar has risen. For US consumers, the world’s biggest block of final demand, a stronger US dollar boosts buying power and creates demand for cheaper imported goods, from cars to smartphones. Exporting countries — such as Germany, Japan, China and others in Asia and South America — can sell more manufactured goods in the world market.

The US expansion has not been purchased at the expense of future growth

Though this business cycle — now in its sixth year — has been characterized by low interest rates, no one is rushing to borrow. During the three previous business cycles, US consumers and businesses took on more debt as the US Federal Reserve lowered rates to kick-start economic activity. This time, however, the increase in US private borrowing has been more than offset by even bigger increases in the value of the underlying assets — as well as gains in the income and cash flows that support the repayment of that debt. In other words, the risk to this cycle of higher rates coming from the Fed or the market is not as dramatic as in previous cycles.

The theme of the world consumer may be revived

Admittedly, global growth has been sluggish, but the world population has continued to expand. Household formation, along with its related spending, was deferred during the slowdown. I think the demand for goods driven by growing populations — especially in developing countries — is likely to re-emerge. Thanks to currency moves and lower energy prices, many goods are now cheaper, while world wages are generally rising. The emergence of the global consumer, a popular investing theme a few years ago, has been given an added boost.

On the whole, the mix of data does not suggest any kind of runaway boom in 2015, but at the same time, a global recession seems a long way off. Arguably, the world banking system has been largely repaired since the damage in 2009. For those investors scarred by the drops in global security markets six years ago who have been reluctant to return, it may be worthwhile to reconsider that the realignment of currencies and energy prices could be a long-term positive impulse to world growth.

So in 2015, let’s be grateful for organic, slow and steady growth, not leveraged boom-like growth. Let’s hear a cheer for lower, not higher, energy prices. And let’s bear in mind that when low interest rates rise someday, it will be a sign that normalcy is coming back, not that disaster is looming.

Opinion column by James Swanson, Chief Investment Strategist, MFS

From the Peso Oro to The Maquiladoras

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Historically, until the 19th century, the Spanish dollar, the forerunner of the Mexican peso, was used in a number of regions around the world. The “Mexican peso” was legal tender in the United States until the Coinage Act of 1857.

Today, the country once known as New-Spain is still the exception in the “emerging markets” universe. The global economic slowdown has exposed the vulnerability of economies with excessive dependence on commodity exports: Russia, Brazil, Indonesia, Colombia and Venezuela are just a few examples. These low-diversity economies have suffered the backlash of falling commodity prices as well as expectations of a hike in interest rates in the United States.

Fortunately, many countries have learned the lessons of past crises, including the need to adopt a floating exchange rate and, more generally, economic policies aimed at budget surplus and contained inflation. Mexico is one such. Like other countries in Latin America, Mexico lost a decade in the 80s with soft growth (estimated at –0.3% over ten years) and very high inflation. Average annual inflation was 69% between 1980 and 1990 with a peak in annual inflation of 175% on 31 March 1988. The country defaulted on its external debt in 1982. In 1994, just after the signing of NAFTA (the North America Free Trade Agreement), Mexico was subject to increasingly speculative movements of capital whereas the currency was anchored to the dollar, and was forced to devalue.

Mexican peso compared to the US dollar vs. American monetary policy in 1994

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Despite these various destabilising episodes, Mexico remained firmly rooted in its industrial heritage. Contrary to what one might expect, and although it is one of the world’s leading oil producers at the intersection of two worlds (a rich service-based economy in North America and a South America still dependent on its below-ground wealth), Mexico’s economy is less focused on the export of primary products than its more southerly neighbours. Industry and especially services (tourism, telecoms, etc.) have played a vital role in the country for many years although there is huge disparity in terms of development between the Chiapas and the state of Sonora, or the Yucatán and the banks of the Pacific. Between the end of the 19th century and the 1930s, the development of the railway network boosted the integration of the north and north-east and greater economic proximity with the United States. Economic activity was to develop particularly with the maquiladoras, assembly plants and sub-contracting outfits for the United States which would drive the country’s modernisation.

In the 21st century, Mexico, heir to the Aztec administration, becomes increasingly dynamic. In an earlier blog, we mentioned the reforms adopted by the Mexican parliament. In particular, the reform of the energy sector will enable private players to participate thus tempering the bottlenecks that subsist at many levels. This is especially true for the petrochemicals, synthetic textiles and plastics sectors. NAFTA continues to be the driving force for the modernisation of the Mexican economy, with foreign investments no longer exclusively targeting energy but also the automotive industry, electronics, chemical and aeronautics. A number of big names in American and European industry have started to establish operations in the central industrial region: for example, Bombardier, Airbus and GE Aviation are investing in Querétaro. Since the 1980s, foreign direct investment in the aeronautical sector amounts to nigh on 33 billion dollars. According to the FT, in 2014, compared to 2009, Mexico had doubled its automobile production to 3.2 million vehicles. Honda, Mazda, Audi, Kia, Nissan and BMW have already invested or plan to invest several billion dollars to set up assembly lines in the country. All this comes against the backdrop of Mexico not only becoming increasingly competitive but also gaining in expertise versus one of its biggest rivals, China, whose currency has slowly but surely appreciated against the dollar since the summer of 2005.

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Opinion column by Jean-Philippe Donge, Head of Fixed Income at BLI – Banque de Luxembourg Investments. This article is published on its blog: “From the peso oro to the maquiladoras”

Shades of APEC Blue

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Las sombras de aquel cielo azul en Pekín — Photo: Official White House (Pete Souza). Shades of APEC Blue

Just about the time of the Asia-Pacific Economic Cooperation (APEC) summit late last year, my social media feed began filling up with stunningly beautiful images of autumn in Beijing. This made me feel like all my bad memories of the city’s haze and smog were merely delusions. The chatter that week was all about what was nicknamed “APEC Blue,” the clear blue skies that replaced the normally smog-choked atmosphere ahead of the economic summit—a result of intentional government closings of factories and roads. This was done expressly to clear the air before the world leaders arrived.

The APEC meeting was touted as the second-most important event in Beijing after the Olympics, and it was a great feat to clean the air even though results were just temporary. Beijingers have added “APEC Blue” to their urban slang and joke that it stands for “Air Pollution Eventually Controlled” Blue. While some companies may have taken a hit after shuttering their factories, the temporary blue skies also demonstrates that air pollution is controllable and it is not “pollution with China characteristics,” an overused term to explain differences unique to the country. It is just a matter of how much effort and priority one places upon this.

Producing APEC blue is a complicated and expensive task. In addition to shutting factories and closing roads, the government offered additional paid time off to local state workers, closing many businesses and postponing winter heating supplies to reduce coal burning.

In my view, air pollution is symbolic of growing pains. If you consider the history of London, Los Angeles, Tokyo and Chicago, almost all major metropolitans have gone through similar pains as they developed and industrialized. Beijing is not an outlier, even though environment protection was well-discussed in my 8th grade textbooks.

Thanks to President Barack Obama’s trip to China, Chinese President Xi Jinping proceeded to outline a climate change agreement with the U.S. during the APEC summit. The world’s two biggest greenhouse gas emitters have been at opposite ends of the negotiating table during almost two decades of attempts to strike a meaningful global pact to lower emissions. This is the first time China has agreed to cap its emissions, after arguing for many years that it needed to grow richer before worrying about climate change. Progressively, we hope to see more Chinese initiatives, not only aggressive and temporary ones that have led to such literal breaths of fresh air as APEC blue, but those more akin to such efforts as the Clean Water and Clean Air acts that have had more lasting benefits.

At Matthews Asia, we aim to seek firms well-positioned to ride on this wave and benefit from China’s environmental improvements as well as its shift toward a more service- and consumption-oriented economy.

Column by Raymond Z. Deng, Research Analyst at Matthews Asia.

2015: Active Investing!

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2015: Política monetaria, política monetaria y... política monetaria — Photo: Perpetual Tourist. 2015: Active Investing!

The three main themes of the New Year are monetary policy, monetary policy and monetary policy. Far, far down the list is the question of the cyclical trend and – oh yes, there was one more thing, after the political uncertainties that are popping up everywhere.

First, monetary policy: the Bank of Japan is continuing its policy of monetary flooding. Although this policy has not brought about the desired results over more than 20 years, this is the only possible outcome of the re-election of Prime Minister Abe.  

Second, monetary policy: over the Christmas holidays, another “Big Bertha” (“LTRO”)1 from the European Central Bank (ECB) ran out and repayments of the three-year tender of EUR 270 billion are due by February, which will shrink the central bank balance sheet and make the monetary guardian sweat, because the volume of the new conditional long-term tender fell short of expectations. The resulting balance sheet shrinkage is grist to the mill of proponents of extensive purchases of government bonds. This is all the truer as consumer prices are expected to go into reverse in future on the decline in the oil price. Things will not become interesting until 14 January, when the European Court of Justice, on the initiative of the German Federal Constitutional Court, announces its judgment on the OMT(Outright Monetary Transactions) purchases.  

Third, monetary policy: the US Federal Reserve (Fed) is expected to introduce its first rate hike over the summer, but it is making every effort to protect the market as much as possible during this implementation.  

For investors, this means: none of this does any good. Once the price of money is distorted, the result is misallocation of capital, and even macro- prudential measures only help under certain conditions. Some pay for this with negative real interest rates, others battle with valuations that increase with risk, with a tendency towards asset price bubbles.  In addition, the focus is moving to the economy. We still do not expect deflation. The latest data from the US support that view. Furthermore the latest European consumer price indices need to be seen in the light of the oil price.

What remains is a set of geo-political uncertainties. The Russia-Ukraine conflict continues to smolder and shows that the laws of economics cannot be overridden, as indicated by the Ruble. Increased risk demands higher risk premiums. In Greece, new elections at end-January could put the entire reform process up for debate. One item that few have on the agenda: in May there will be elections in the United Kingdom and critics of Europe see an opportunity.

There remains just one thing: use volatility for active investment or make use of multi asset solutions.

Opinion Column by Hans-Jörg Naumer, Global Head of Capital Markets & Thematic Research, Allianz GI