A New Order in the Oil Industry?

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¿Un nuevo orden en la industria del petróleo?
Pixabay CC0 Public DomainPhoto: StockSnap. A New Order in the Oil Industry?

At the end of July, the UK government announced plans to ban the sale of new gasoline and diesel vehicles from 2040, being the fifth country, with Holland, Norway, India and France, to end the sale of cars with traditional internal combustion engines. Noting the rapid changes taking place in the industry, many of the major car manufacturers have in turn announced their plans to focus on electric powertrain technologies in developing their product plans and launches. What’s more, in Volvo’s case, it has been announced that from 2019 the vehicles released into the market will be either electric or hybrid.

However, while much of the market narrative focuses on electric vehicles, the destruction of demand and the end of the oil era, the energy team at Investec Asset Management believes that global demand for crude oil continues to grow at a decent rate.

The International Energy Agency continues to alter historical data, distorting the picture, but the projected growth rate of demand is at 1% to 1.5% per year and shows no signs of slowing down. With this in mind, we expect the price of oil to remain at between 10% and 15% of current prices in the short and medium term. Even more important, for the energy companies that we have in our portfolios, we have behind us four consecutive quarters (from June 30th, 2016 to June 30th, 2017) in which the price of a barrel of Brent has averaged $50. This gives us a good understanding of the company’s profitability in the new oil order. In fact, we can find companies that are in the process of becoming more profitable at this price level than they were at the highest peak of the last cycle: given cost cuts, in asset classes, debt reduction and strategic focus on ‘value over volume’, which is perhaps not surprising. The main gas and oil companies have historically had no difficulties in generating liquidity; their errors have been committed from a poor allocation of capital and a search for growth.”

Fred Fromm, an analyst and Portfolio Manager at Franklin Natural Resources, a Franklin Equity Group fund, argues that while a small number of countries have announced plans to eliminate sales of internal combustion vehicles, given a time frame, which is often measured in decades, they do not see an impact in the oil markets. “These goals are long term and aspirational, with little foresight given the physical limits and practical implications of that shift. In the medium and short term, there simply is not enough infrastructure to facilitate a complete shift towards electric vehicles, while gasoline-powered vehicles have decades of infrastructure to withstand them, even with increased electric vehicle penetration, it will take years, if not decades, before the global base of vehicles, and therefore the demand for oil, is significantly affected,” says Fromm.

“The move to electric vehicles will require an upgrade of the existing electricity grid, the creation of new public recharging stations, the refurbishment of homes to equip them with charging capacity, and an increase in the production of batteries and associated minerals. While we see the increase in electric vehicle usage as a long-term trend, we do not think it is so short-term as to threaten global demand for crude oil. In any case, the Franklin Natural Resources fund is a diversified portfolio, with significant exposure to the energy sector, but which also invests in diversified metals and mining companies, so that it can invest in companies positioned to benefit from growth in demand for electric vehicles. In addition, the fund’s energy investment is spread among several sub-sectors and among oil and natural gas producers, the latter is likely to benefit, as it is a cleaner fuel in generating the electricity needed to recharge electric vehicles. While part of this potential increase in demand for electricity can be met from renewable sources of energy, such as wind and solar energy, these alone will not be sufficient and will depend on battery technology and large capacity storage solutions,” he adds.

Likewise, Pieter Schop, Lead Manager of the NN (L) Energy fund, agrees that the impact of the electric vehicle on the demand for oil is exaggerated. “Demand for crude oil is expected to continue to grow at around 1.5 million barrels per day for the next few years, reaching peak demand within a decade or two. Demand for gas-powered passenger vehicles in the developed world will be affected, but growth in demand will come from China and other emerging countries. There are still 3 billion people without access to a car, and the first vehicle they are going to buy is probably not a Tesla. Secondly, the other half of the demand for transport comes from demand for aircraft, trucks and buses, where it is much more difficult to switch to electric motors. Industrial and residential demand is also expected to be more resilient.”

According to Eric McLaughling, senior investment specialist at BNP Paribas Asset Management Boston, while he is aware of the forecasts for the long-term demand for fossil fuels, short-term prospects for oil prices are positive. Lower investment by oil producers will weaken supply growth throughout the latter part of this decade. “Through the lens of our investment horizon, the gradual introduction of the electric vehicle does not alter our valuation thesis.”

When it rains, it pours

In an industry that has been affected by the volatility and uncertainty surrounding oil and energy prices, a negative sentiment persists despite the fact that Brent’s average price so far this year is US$ 52 per barrel, surpassing the US$ 45 per barrel average of 2016; the devastation caused by Hurricane Harvey in Texas and adjacent states is now the immediate focus of investors.
“There are numerous repercussions in refineries, as well as in the upstream and midstream sectors, however, we believe that the impact will be transitory, given past experiences, and the operational strength and resilience of these sectors and businesses,” the team at Investec Asset Management comments.

In that regard, Schop, Manager at NN IP claims that the direct effects of the storm are limited. “The affected refineries will suffer cuts for a limited period of time and afterwards will continue production. We have seen some weakening in the price of WTI, but the Brent has not been impacted. This has resulted in an expansion of the spread between the WTI and Brent barrel. For most European oil companies, Brent is more important. The indirect effect of the storm is that it can result in lower GDP growth in the United States as damage costs are expected to exceed $ 10 billion. In turn, lower GDP results in lower demand for oil.”

Finally, from Franklin, they point out that in terms of impact on global markets, changes in production on the Texas and Louisiana Gulf Coast have resulted in a shift in trade flows, where Latin American markets have sought to import products from Europe and Asia to replace those typically received from the United States, and recent exports have also suggested that refineries in Asia are looking to secure US crude because of the discount at which it trades against Brent. “Although changes in production are the primary impetus that has led to the expansion of the differential, this was expected to occur at some point given the growth in US production, the limited ability of US refineries to expand their processing capacity in the short and medium term, and the need to encourage a decrease in net imports (through lower imports and higher exports).”

Ruben Lerner and Manuel Uranga Join Bolton’s New York Team

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Bolton continúa su expansión en Nueva York con el fichaje del equipo de Ruben Lerner y Manuel Uranga
Photo: Bolton. Ruben Lerner and Manuel Uranga Join Bolton's New York Team

Independent broker-dealer Bolton Global Capital has ramped up its expansion in New York City with the addition of Morgan Stanley international advisors Ruben Lerner and Manuel Uranga.

After nine years as managing directors at Morgan Stanley, where they advised on an international client book of $550 million, Lerner and Uranga have launched A Plus Capital, which will be headquartered in Manhattan at 515 Madison Avenue, Bolton has announced.

Junior partner Ariel Materin, client associate Jennifer Ramos and office manager Olga Lopez also join from Morgan Stanley. Materin will manage client acquisition and investment strategy for the team while Ramos will be based in A Plus Capital’s Miami location and Lopez will manage the New York office.

Lerner, originally from Venezuela, and Uranga, from Spain, service clients across Europe, Latin America and the US.

The duo joined Morgan Stanley from Smith Barney, which was then still part of Citi, in 2008 with sales assistants Dolores Alcaide-Mendez and Jennifer Ramos. Alcaide-Mendez remains with Morgan Stanley.

Custody of client assets will be held through BNY Mellon Pershing. Bolton will be providing compliance, back office, and marketing support as well as the wealth management and trading technologies for the A Plus Capital team.

Morgan Stanley confirmed the team’s exit, but declined to comment further.

Bolton’s big plans

The Bolton, Massachusetts-based business is looking to continue to acquire more than $850 million in client assets in New York City market before the end of 2017. It entered the region in May when former HSBC private banker Ethan Assouline joined the broker-dealer.

Over the last two years Bolton had been targeting advisors in Miami, adding international teams that had left wirehouses and private banks due to internal policy changes during that period. It now has over $4 billion in assets under management from non-US resident clients.

Terry Simpson: “We Continue to be Overweight in Equities Relative to Bonds, Even Eight and a Half Years into the Cycle”

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Terry Simpson: “Continuamos sobreponderando la renta variable frente a los bonos, tras ocho años y medio en el ciclo”
Photo: Terry Simpson, a multi-asset investment strategist at BlackRock / Courtesy. Terry Simpson: “We Continue to be Overweight in Equities Relative to Bonds, Even Eight and a Half Years into the Cycle”

In an environment where volatility levels are at a minimum, partly because of the widespread measures of QE by central banks and the low volatility of macroeconomic variables such as GDP, and the employment and inflation rates, the Black Rock Investment Institute is committed to maintaining current risk exposure, and even to increasing it. From here, the question that makes sense is: Given the present conditions, where do you take that risk within the capital markets? Terry Simpson, a multi-asset investment strategist, met in Miami in mid-July to resolve this issue and to share the firm’s expectations about the different markets.

Over the next five years, they expect US large-cap equities, as well as small- and medium-cap equities, to deliver an average return of 4 %. Also, for the same time horizon, they expect developed global equities, excluding US, to achieve an average yield of 6.2% and emerging market equities to reach 7%.

“These differences in returns are due to the high valuation levels in the US equity market, which are vulnerable to mean reversion. But we also believe there is an opportunity in the growth of global volatility within this economic cycle and we want to tilt our portfolios to where growth will emanate from. We know that the US economic cycle is much more mature than that of the Eurozone, emerging markets, or Japan, so these economies have scope for catch up,” said Terry Simpson.

“Thinking about valuations and rethinking asset allocations, we often get the question about the high valuations in financial markets, which is true whether you look across equities or you look across bonds. Bonds valuations are at historically high valuations. While equities also are at high historical valuations, they are not as expensive when compared to bonds. Thus, the key is relative value,” he added.  

A Clear Commitment to Equities

The issue here is betting on relative value: If we invest in equities, how much premium are we offered in relation to investment in bonds? For the firm, these questions make more sense than to think about equities in absolute terms, as the vast majority of clients have positions in multi-asset portfolios. In addition, we are already eight and a half years into the cycle, so valuation levels are high: “If you compare the earnings yield of the S&P 500 index with the premium provided by equities- it can be calculated as the earnings yield of US Equities minus the real bond yield in the US markets- it can be seen that stock market valuations are high, but if the same yield is compared to bonds, one will see equities are still relatively cheap, and that is why we continue to maintain an overweight in equities in relation to bonds, even eight and a half years into the cycle.”

Another reason why the BlackRock Investment Institute favors equities is because earnings growth is now becoming a sustained part of this market: “We have long understood that this is a multiple expansion bull market, lacking an earnings growth recovery, yet we are at point of solid earnings growth. Q1 in 2017 was the first quarter since 2010, when all the major global regions recorded double digit positive EPS growth. So, it’s confusing that clients are taking money out of markets now that we are getting earnings growth. It is likely that growth in the first quarter of this year will not be recorded again because in some regions currencies have risen which may act as a headwind for earnings, but we still think that in Europe and Japan double digits earnings growth is feasible for Q2, while in the US we expect it to remain at the top end of single digits. In any case, this is a marked improvement from years past.”

Furthermore, one could consider Wall Street’s expectations, since there is a trend that began around 2010-2011. Since then, analysts broadcasted very high expectations in terms of earnings per share at the beginning of each year, yet as the year progressed, those expectations were adjusted downwards becoming more and more pessimistic. However, 2017 is the first year in which the expectations broadcasted at the beginning of the year remained practically flat, something that according to Terry Simpson should be interpreted as an encouraging fact, since it breaks with the previous pattern and in addition is being supported by an improvement in profit recovery.

Opportunities are Outside the US

At BlackRock, they began to think that there would be investment opportunities in the international markets at the tail end of last year, a position that at that time was identified as contrarian to market consensus. The rest of the market is now just getting on board, so their contrarian call is no longer contrarian. Will they adjust their position? Not quite yet.   

“When we analyze the fundamentals of certain regions, our takeaway remains positive. For example, in Europe, the percentage of countries that have PMIs above their historical average is at its highest level since 2011”.

“Prior to 2009, EPS in European equity markets, excluding the UK, was virtually in line with that of the United States, as was earnings growth, obviously as a result of increased globalization. After the Great Financial Crisis, US earnings continued to increase somewhat, but in Europe they basically remained flat or declined. We think that the gap has potential to close as the global economy picks up. This is a fundamental story, there is an opportunity that Europe is going to catch up to the US”, he explained.

Regarding the need to protect and hedge the portfolio against currency risk, Simpson argued that it depends on risk tolerance and the client’s time horizon. “If you are looking for exposure to the European or Japanese equity market and the local currency is at a positive moment, you would be adding alpha to the portfolio with a direct exposure to currency risk, as is currently the case with the Euro and the Yen. Conversely, if the local currency is in a weak moment, as was the case during the past two years, it is convenient to opt for currency hedging strategies. With a high-risk tolerance and with a short time horizon, you can invest without currency hedging and take currency risk, but if the client does not want so much volatility in their portfolio, it is better to hedge the position. The same happens with the time horizon, over the course of 20-25 years, the effect of the local currency is washed out, there is basically no difference in terms of total return, but if you only want to invest for one or two years, it is better to hedge the risk”.

Finally, Simpson reviews the fundamentals that support investment in emerging markets. The differential between the growth of emerging and developed markets began to narrow in 2010. The growth of emerging markets started to converge with that of developed markets. It happened with China, which went from registering an annual growth of 10% to one of 6%, but this was also the case in Brazil and Russia. “In the last two quarters, we are seeing a rebound in the differential; emerging markets are restarting their growth. If this trend firms, we believe that EPS will grow and we will see better performance by emerging markets in relation to developed markets.”

From a technical perspective, Simpson recalled what happened in 2013, in the episode known as the “Taper Tantrum.” Ben Bernanke was Fed Chairman at a time when yields in developed economies were depressed; a massive flow of funds had invested in emerging market equities seeking higher yields. “At that moment Bernanke told global investors that they had reached the peak in the influence of QE measures, and that it may be optimal to withdraw the stimulus. A miscommunication that saw investors respond with a strong exit from emerging markets. Money has returned to this asset class, but there is still a lot of money waiting on the sidelines to reenter emerging markets, another positive point for this asset class,” he concluded.

How Did the Top Private Banks Worldwide Fare in 2016 and Who Are They?

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Cuáles son las entidades de banca privada más importantes del mundo y cómo les fue en 2016
Photo: Urbanrenewal. How Did the Top Private Banks Worldwide Fare in 2016 and Who Are They?

Scorpio Partnership’s latest edition of the highly anticipated Global Private Banking Benchmark shows a tale of two halves for the global wealth industry. The leading assessment of KPIs in wealth management highlighted that private banks successfully navigated regulatory and political upheaval in 2016, with assets under management rising by almost 4% on average.

The results, based on the publicly available information provided by over 200 wealth institutions, indicate that cost income ratios also fell below 80% for the first time since 2012, reflecting wealth managers concerted efforts to cut costs despite continued compliance pressures. Strong profitability growth masked the industry’s underlying struggle to improve revenues, with operating income rising just 0.04% on average.

 

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“As advanced technology continues to reshape the wealth management industry, firms will be able to recognise cost savings through process optimisation,” said Caroline Burkart, Director at Scorpio Partnership. “The challenge going forward will be managing the revenue side of the profits equation. These firms are experiencing pricing pressure, driven by regulations, the trend for passive investing and the wave of lower-fee competitor models entering the market. Solving the equation will require increased focus on enhancing the proposition with advisory capabilities and improvements to the client experience,” she added.

This year the largest 25 firms in the Benchmark managed USD13.3 trillion of HNW AUM, representing a 63.2% market share. The list was lead by UBS, followed by Bank of America, Morgan Stanley, Wells Fargo and Royal Bank of Canada.

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 Of the top ten operators, seven had a North American focus. However, Asia’s private banks gained momentum in 2016. China Merchants Bank stands out in the ranking, having added over CNY400bn to AUM in 2016 as a result of enhanced customer acquisition efforts, as well as upgrading it’s private banking proposition. Another contender from Asia, Bank of China, entered the ranking this year, managing over CNY1 trillion on behalf of its wealth management and private banking customers.

By contrast, many of Europe’s key operators experienced negative AUM growth due to a combination of internal restructuring initiatives, decisions to scale back from non-core markets and reputational challenges.

As well as posting strong financial KPIs for 2016, wealth managers were also able to move the dial on client experience, with Scorpio’s annual client engagement tracker, which focuses on the three pillars of a wealth management relationship – Service, Proposition and Relationship, indicating an improvement of 5.72%. “Our research indicates that there a relationship between client perception of the firm and the AUM growth rate.” They added.

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As evidenced by Figure 2, some firms faired better at converting enhanced quality of the client service into improved financial performance. North American banks are leading the ranks of wealth managers, with only one European bank among them in a top quadrant by CES vs AUM growth metrics.

“North American operators tend to have a more forensic approach to tracking, measuring and monitoring the client experience across multiple metrics. As such, we see them consistently move the dial on client engagement and, as a result, their financial results,” commented Caroline Burkart, Director at Scorpio Partnership. “The commitment to active listening to the needs of the clients will be imperative to a strong advice-led model.”

For the full report, follow this link.
 

 

Bill Gross: “A “Less Flat” Curve Could Signal the Beginning of a Possible Economic Reverse””

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¿Se van a mantener los tipos eternamente bajos?
CC-BY-SA-2.0, FlickrFoto: Lunita Lu. ¿Se van a mantener los tipos eternamente bajos?

In his latest monthly outlook, titled Curveball, Bill Gross mentioned that to his mind, free will is the key to our unique position among life’s animals. Without it, this business of living is reduced to a meaningless game.

He also makes the case that monetary policy in the post-Lehman era has resembled the gluttony of long departed umpire John McSherry – they can’t seem to stop buying bonds, although as compulsive eaters and drinkers frequently promise, sobriety is just around the corner. In his opinion, “The adherence of Yellen, Bernanke, Draghi, and Kuroda, among others, to standard historical models such as the Taylor Rule and the Phillips curve has distorted capitalism as we once knew it, with unknown consequences lurking in the shadows of future years.”

“But the reliance on historical models in an era of extraordinary monetary policy should suggest caution. Logically, (a concept seemingly foreign to central bank staffs) in a domestic and global economy that is increasingly higher and higher levered, the cost of short term finance should not have to rise to the level of a 10-year Treasury note to produce recession.” And notes that commonsensically, a more highly levered economy is more growth sensitive to using short term interest rates and a flat yield curve, which historically has coincided with the onset of a recession.

“Just as logically, there should be some “proportionality” to yield curve tightening. While today’s yield curve would require only an 85 basis increase in 3-month Treasuries to “flatten” the yield curve shown in Chart 1, an 85 basis point increase in today’s interest rate world would represent a near doubling of the cost of short term finance. The same increase prior to the 1991, 2000 and 2007-2009 recessions would have produced only a 10-20% rise in short rates. The relative “proportionality” in today’s near zero interest rate environment therefore, argues for much less of an increase in short rates and ergo – a much steeper and therefore “less flat” curve to signal the beginning of a possible economic reversal.

How flat? I don’t know – but at least my analysis shows me that the current curve has flattened by nearly 300 basis points since the peak of Fed easing in 2011/2012. Today’s highly levered domestic and global economies which have “feasted” on the easy monetary policies of recent years can likely not stand anywhere close to the flat yield curves witnessed in prior decades. Central bankers and indeed investors should view additional tightening and “normalizing” of short term rates with caution” he concludes.

“We are Underweight US Financials, but the Pending Deregulation Could be an Interesting Catalyst”

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“Estamos infraponderados en el sector financiero en EE.UU. pero la desregulación podría ser un interesante catalizador”
Grant Cambridge, courtesy photo. “We are Underweight US Financials, but the Pending Deregulation Could be an Interesting Catalyst"

To avoid companies that are overvalued in a stock market such as the US, which since February 2009 has revalued 280%: is the goal of Grant Cambridge, fund manager at Capital Group, which explains in this interview with Funds Society its management keys. He says that this American strategy, which has recently been offered to European investors with the launch of its Luxembourg version, offers long-term returns through a fundamental analysis of companies. And that he is not afraid of the Fed, which he hopes will continue with his gradual upward path, and that it will remain as transparent as possible to avoid surprises.

1.    The first thing which nowadays comes to my mind when speaking about US equities is high valuations. Do you agree? If not, or at least partially not, in which sector valuations are still attractive?

When I think about the US, I actually don´t necessarily think about high valuations. Although there are companies in the US which are getting a tremendous amount of attention that do have high valuations. That´s why it is important to think about diversification through a fund like ICA and avoid areas that are overvalued.

If I had to guess what the best industries were over the last twenty years, they are a highly diverse set of sectors. This is to show that I can find in all sectors companies that are attractively valued. But I can also find in all sectors companies that are not attractively valued. The real objective is to try to avoid the names which are overvalued.

Right now, a lot of attention is put on large tech companies and the top five stocks right now, in terms of market cap, are equal to the bottom 250 stocks.  That speaks about how concentrated is the market. This fund can invest in growth, but also looks for growth and income. So we have the flexibility to invest in a company like Amazon, with no dividend income, but we also might invest in a company like Verizon, which has lower growth but a really attractive absolute yield, almost 5%. ICA provides a dividend yield of around 2.2%, which is better than the S&P 500.   Most of the companies we have in the fund are domestically domiciled and we can invest up to 15% outside the US. However, we actually get our exposure through US companies that have revenues and earnings around the world. 

2.    Which factors could support the continuation of the rally in the stocks you have in your portfolio? Will it come from earnings, from economic growth or from Trump fiscal policies?

Just to put in perspective, since February 2009, the US equity market is up 280%. So I look for companies that have reasonable earning growth, with that you need fundamental analysis to make sure you have that fundamental growth. In other words, I´m worry about the macro, I mean I can worry on the top down, but I build the portfolio on a bottom-up basis. One company at a time. And all of the companies that we invest in are analyzed on fundamental basis. Many times we meet with the companies. Many of them we have met with the companies in their local activities around the world. So, we are doing a true global fundamental research. This gives us the confidence to invest in those companies for a long term period. 

The turnover of ICA is around 25%. That means that 40% of the fund asset has been in companies we held of more than eight years.

3.    Based on your long experience, would you say macro or fundamentals are more important in the performance of your portfolio? What do you need to find in a company to invest in it?

I look for ethical management.  I look for reasonable valuations. I look for companies that have attractive capital allocation strategies and usually what it does mean is an orientation to return cash to shareholders through dividends or even better, dividends which are progressively growing over the time.

This fund is oriented towards larger caps companies.  What we do is we think about the objective of this fund and we orient our investment universe towards that.

4.    Are Fed rates hikes impacting on in any way in the equity market in general and in your portfolio in particular? What do you expect from the Fed? Will you implement any change in your portfolio accordingly?

For the Fed, I expect a continued measured pace of interest rates increases and I think up until now we have seen that. They have been increasing rates for the right reasons. The market has tolerated the increases in interest rates. And actually if you see interests rising for the right reasons is not a bad backdrop for equity markets.  So I expect the Fed to continue to be measured, to be as transparent as possible and to not have any surprises.

If you go back to 1994-1995 time frame, rates gone up very rapidly, there were a lot of surprises and impacted both the fixed income and the equity market. Right now I see the Fed ´patrons being very transparent; they are trying to give as much indication of direction as possible. 

In sum, I don´t expect interest rates to go up and up an up.

5.    What are the keys for being able to protect investors’ capital in down markets? For instance, in the current environment, is it better to have a more defensive bias or a more aggressive one? Why?

We have already talked about this, but for us, the key is the diversification. In our Capital System we do not only apply diversification within the portfolio but we have diversification of styles. We have eight portfolio managers in this fund; we have a variety of styles. We have been able to find general defensive sectors which in weak market, these kinds of companies have hold up very well. Two of our larger sectors now are consumer staples and consumer discretionary, both of which are defensive sectors overall.

For us this not only diversification per se, is diversification but with convictions. We do not add companies just for the purpose of diversifying. Every single position in the portfolio is a conviction. Our investment process involves more than one decision maker. We have eight portfolio managers assigned to this fund and we also have a research portfolio, which is managed by the specialists or industry analysts. The industry analysts are looking for high conviction ideas. They only make a small number of decisions per year and when they invest, the portfolio managers who are in the fund will also co-invest. This process is very transparent, it is granted in trust, in communication and in collaboration. 

6.    Which sectors do you like the most from a fundamental standpoint? Which ones are you currently overweighting?

We are slightly overweight energy. As said before, consumer staples, energy and telecommunication companies we are overweight relative to the S&P benchmark. We are underweight financials.

7.    Energy and financial sectors, which have been in trouble, are they an opportunity now?

Energy is a cyclical commodity and we have seen an ample amount of supply which offsets the demand. So, basically, as a result, the commodity has weakened. We don´t have a wide company view on oil. Each person has his own opinion. My opinion is it will take some time before the supply and demand comes back into balance. Demand has been fairly stable and supply has been ample. OPEC has shown they wanted to set a floor on price and the US is producing more energy, natural gas and oil than it has historically.

It was only a few years ago when we were worry about peak oil and we were discussing oil at $200 a barrel. So this goes to prove that this is a commodity cyclical and where there is more supply there is pressure on the commodity. One thing we are particularly interested in are the low cost providers and the companies that can earn their dividend thanks to this weakness of the commodity.

Concerning the financial sector, we have been underweight in ICA, there may be a general feeling that interest rates will be lower for longer and you really need interest rates to go up two-three hundred basis points to make a meaningful impact on earnings. So we haven´t had enough increase in interest rates to make a material impact to earnings. We also have a tremendous amount of regulation in the US and the new Trump Administration is talking a lot about deregulation and we will have to see whether or not it really ends up impacting, particularly the banks.

The discussion around the Trump Administration considering deregulation will be one that we will continue to watch because it could be an interesting catalyst after having a period in which regulation was put on the market since the financial crisis.

Deregulation is a theme which goes beyond the financial sector and that could impact a number of sectors. President Trump has talked about removing two regulations for everyone that is audited, that goes very broadly across the economy so we will have to wait and see which areas are most affected. We do a lot of research about regulation and right now it is too early to tell what could be his priorities. The financial regulation is one which seems to be a priority.  

8.    Why do you overweight large caps and underweight small caps? Does it help to the portfolio stability?

This is a conservative fund launched by our founder. This is a lower volatility, larger cap fund.  We refer it as core fund which invests in seasoned companies; companies which stability and which are leaders, many of them, in their fields. They are liquid companies and most of them have an income as contribution to total return. CGICA’s 83-year average return of 12% has proved rewarding for long term investors.

In other words, this fund, because of its nature, has been relatively conservative and is currently overweight large caps. Around 10% of the fund is in mid caps today. We do not have any small cap in the fund. It does help with portfolio stability and it also contributes to have liquidity in the company we invest in. Besides, it gives you exposure to earnings and revenues around the world.

We are managing the fund with a longer term horizon and our approach to investing in larger caps, stable, seasoned companies, as said before, helps to maintain a stable portfolio. Small and mid caps can go through dramatic changes, some times in the short term, some times in the long term and larger caps tend to be more stable. It does not mean they not move around, but generally they provide stability.

9.    Why active management and having a high active share are key factors when investing in US equities?  How does it help to long term results?

We look to focus on fundamental research into companies and consider their long term future prospects -their weighting within the index is not a primary consideration.

When we are investing we almost rarely use the words index, underweight and overweight. In our vocabulary, in our day to day jobs, we are not using them. But when we are sitting with advisors, we can describe the fund using these words despite this is not the way we describe it in our meetings internally. In other words, we are aware about the benchmark but don´t use it as a way to build our portfolios.

Apart from that I would like to highlight that because of we are looking for companies with dividend characteristics, we are many times invested in the higher dividend quintiles and that is an area which gives the stability of the fund ´returns. It also provides downside protection in the event of a correction.   

We tend to be in the upper quintile of our peer group for consistent risk-adjusted returns, but we are in the lower volatility category of our peer group. Actually, we are in the lowest quintile of volatility of our peer group.  What is exactly what we want to do for our long term shareholders: provide superior returns with lower volatility.  We must not forget our mission which is to improve people´s life through successful investing.  It is important also to bear in mind the investment management is our only business. We are focus on the long term interest of our clients. Finally, I would like to remember another key feature of CG is that portfolio managers invest their own capital in the funds they are managing.

10.    Finally, is the Luxembourg strategy being well received in Europe? What does it strategy offer to European investors?

Yes. It provides to European investors the same thing we have been providing to US investors for 83 years. It provides long term investment returns through fundamental analysis of companies.

Now European investors can access to one of the most successful strategies and it represents what they are looking for a US equity fund: it is a conservative, first quartile, low volatility, easy to understand fund. And more than proved, with 83 year track record.  
 

Emerging Within the Emerging: The Potential of the Asian Frontier Markets, According to Allianz GI

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Emergentes dentro de emergentes: el potencial de los mercados frontera asiáticos, según Allianz GI
CC-BY-SA-2.0, FlickrDennis Lai, Senior Manager at Allianz GI. Courtesy Photo. Emerging Within the Emerging: The Potential of the Asian Frontier Markets, According to Allianz GI

One of the core messages from the Asia forum recently held in Berlin by Allianz Global Investors is that investing in the Asian continent goes far beyond China. Although the Asian giant offers investment opportunities that cannot be ignored, and has risen strongly in recent months in tune with other markets such as India, a market which asset manager Siddharth Johri spoke about, or Korea, all of them revalued by about 30% in the last twelve months, there are also others that offer great potential.

Therefore, beyond the more developed Asian countries, there are emerging countries within the continent, emerging within the emerging, or frontier markets. Dennis Lai, Senior Manager at Allianz GI, spoke about the opportunities in Asian frontier markets, growing markets with very favorable demographic characteristics, consumption opportunities, infrastructure, and GDP growth.

Without taking into account the beneficial effects generated by China (and other more developed Asian countries) on some of these markets, the boom in development and research policies, and the improvement in their fundamentals and credit quality from an investment point of view (which improves the perception of risk).
The Allianz GI strategy that invests in emerging and frontier Asian markets harnesses the potential of these markets and focuses on growth segments (such as consumption, services, technology, and infrastructures, which are less present in the indices but will be gaining traction) and avoids the traditional ones (utilities, financial, health…), in a strategy with conviction that selects between 60 and 80 names.

And it is also based on themes: for example, the asset manager likes the investment in automation theme, and the fact that Asia is a fundamental part of the supply chain for Western robotics firms; also the sale of automotive components to the OECD industry theme; or the aerospace theme, as the continent also provides components to large Western firms.

According to the asset manager, Pakistan, Vietnam or Sri Lanka are some of the next economies that will be among the fastest growing.

The Allianz GI strategy invests in names that also bring great diversification to the portfolios by their decorrelation with other Asian markets, since their fundamentals and their cycle are at a different, earlier stage, than that of other more developed Asian markets.

In addition, they are little-known markets and emerging outflows affect much less:

“We are positive in Asia and in the smaller markets, where we see very interesting opportunities,” remarked the asset manager.

Asia’s Potential

Stefan Scheurer, Asia Pacific Economist at the asset management firm, also pointed out during the event that Asia is not just China, but a vast continent stretching from Japan to Australia and including many, and varied, markets. Between them, the population is larger than that of Europe plus America together, with 4 billion people, 60% of the world’s population, and accounting for more than 35% of the world’s GDP… a trend which is rising, as by 2020 it could account for 42%.

In this context, China has become one of the major standard-bearers and advocates of globalization, and despite Trump and his protectionist attempts, experts estimate that international trade (intra regional and interregional) will continue to grow, driven by TPP (of which the United States is not a party).

According to the expert, the continent will continue to grow, driven by productivity and innovation in China’s or India’s case, with large amounts of patents; regarding the debt problem, he points out that there is potential to increase leverage, since it is a problem in China but not in other economies in the continent. In addition, the population and demographic profile is more favorable in countries such as India, Indonesia or the Philippines than in China, which leaves greater potential for growth in these economies. With all these factors, the expert predicts continued growth in Asia, above that of developed markets, and also driven by the continent’s status as a “relative winner of de-globalization”.

 

 

Interest Rates, Oil, and the Dollar: the Three Factors that Convert Emerging Debt Into an Investment Opportunity

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Tipos, petróleo y dólar: los tres factores que convierten la deuda emergente en una oportunidad de inversión
Federico García Zamora, Director of Emerging Markets at Standish (part of BNY Mellon) / Courtesy Photo. Interest Rates, Oil, and the Dollar: the Three Factors that Convert Emerging Debt Into an Investment Opportunity

In 2017 the return of investors towards emerging market debt after several years of inactivity has become evident. The drop in oil prices, lower growth in China, and political problems were behind this disillusionment, which this year has been almost completely wiped out.

The investment spirit in emerging debt “is blowing in the wind”, as Bob Dylan would say, however, any cautious analysis would lead us to consider whether this trend is sustainable in the medium term or if, on the contrary, it has an expiry date.

This is the first question we asked Federico García Zamora, Director of Emerging Markets at Standish, BNY Mellon, during this interview with Funds Society in Spain. His answer is clear: “The context has changed and will be maintained for at least the next 12 to 24 months due to three fundamental factors: interest rates, the oil price, and the Dollar.”

In his opinion, the Fed’s rate-hike strategy is already embedded in long-term bond prices. “It will not come as a surprise to anyone that interest rates continue rising and, therefore, it will be perfectly accepted,” says the expert.

As for the second fundamental factor, the price of oil and commodities in general, García Zamora explains how they are analyzing both from the production side (companies in the sector) and from the demand side. His forecast is that the price will be much more stable in the next 12 months, at around 40-60 dollars. “The price cannot rise again too far above 55 dollars because the supply of unconventional oil would rise a lot, while below 40 dollars, a lot of the supply would be destroyed,” he explains.

Despite admitting that for investment in emerging markets it would be better for the price of oil to rise, “stable oil is going to be very good without it having to rise. We will see good results with price stability,” he argues.

Good results that, in terms of profitability, translate into 7% -8% annual returns for emerging debt, “which is very attractive when compared to any other fixed income asset in which you can invest worldwide, if nothing changes regarding currency exchange rates.”

As a matter of fact, the third factor that supports this interest for emerging countries is the evolution of the Dollar and here the expert’s forecasts point to a fall of the dollar during the next two years. “This adds appeal to this asset class as opposed to a few years ago when the dollar kept rising,” he explains.

An upward trend that the expert explains as due to the rapid increase of interest rates while they were falling in the rest of the world, as a result of the European crisis, stimulus withdrawal by the Fed, the collapse of oil prices, and Donald Trump’s election. According to García Zamora, all these elements contributed to placing US currency at highest levels during the last five years, but now he is convinced that it will continue to be come down because “that’s how the Trump administration will solve the country’s high trade deficit. Depreciating the dollar has always been his intention, but it was easier to explain to the average American voter that he would solve the problem by raising customs fees.” His forecast is that the dollar will stand at 1.25 to1.30 Euros.

From Russia and Brazil to South Africa and Turkey

Asset allocation from a geographical point of view has varied in the last twelve months. During 2016, Russia and Brazil have been the darlings of the Standish emerging portfolio, in which Colombia has also had some weight, despite being slower in its recovery.

“Another country that we liked a lot is Argentina due to its change of government. Its crisis was self-inflicted with a government that shot itself in the foot as much as it could. With a much more reasonable policy and investment, the potential of the country has changed completely.” In this regard, Garcia Zamora says that they have already taken profits in Argentina and have rotated their portfolio towards other issuers like Mexico, South Africa and Turkey, which are “cheap.”

The investor’s main concern in emerging markets is volatility, which the expert puts between 8% and 12% depending on whether the investment is made in local currency, Euros or dollars. “It is true that these assets have gone up quite a bit, but if you are a long-term investor it remains attractive. The fall that some expect may not arrive and my recommendation is invest now and, if there is a fall, invest further,” he concludes.

Will the Fed (and Other Central Banks) Normalise Monetary Policies?

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¿Conseguirá la Fed, y el resto de bancos centrales, normalizar la política monetaria?
Pixabay CC0 Public DomainC3_0010_shutterstock. Will the Fed (and Other Central Banks) Normalise Monetary Policies?

In mid-2013, the then chairman of the Federal Reserve, Ben Bernanke, suggested that America’s central bank should start to cut back on the purchase of bonds that had started in 2008. The turmoil resulting from this announcement on all markets in general, but on emerging markets in particular, put a curb on his intentions.

The baton was passed on to Janet Yellen, who in December 2015 approved a rise of 25 basis points on interest rates that had remained at 0% for seven years. The last increase had taken place in 2006, but with scant resonance – Twitter was yet to come into its own. In just a little over a month, between 22 December 2015 and 28 January 2016, the Chinese stock market adjusted by just over 27%, and plans to normalise monetary policies had to be postponed once again.

This time around, it seems that not just the Fed, but other major central banks such as the European Central Bank, the Bank of England and the Bank of Canada, are willing to normalise monetary policies, following almost ten years of emergency policies.

Enlarge

The global economy is now more settled. The OECD expects the world’s GDP to grow in 2017 and 2018 to levels of 3.5% and 3.6%, respectively, in comparison with the average of 3.9% between 1987 and 2007. However, developed economies will grow at slower rates, nearer to 2%. The United States has grown by an average of 1.47% over the past eight years, as compared with 3.4% since the Second World War, and the annual real growth rate since the last recession was just 2.1%, in comparison with an average of 4.5% in previous recoveries. Based on figures published to date, it does not seem that growth will even reach 2% in the first half of 2017.

The Federal Reserve’s task is further complicated by two historical facts: since the Second World War, the Fed has triggered 13 cycles of rises in interest rates, ten of which took the economy into recession. Secondly, since Ulysses S. Grant (1869) all republican presidents have experienced a recession during their first term of office. Nevertheless, as athletes often say, if faced with a challenge backed by past results against winning, records are there to be broken.   

The desired rate of inflation (for the central bankers that govern us because, I do not know about you, but I like to buy things when they go down in price) closed at 1% in 2016 in developed economies and, unless there are new price rises in oil, it seems unlikely that the target of 2% will be reached.

Finally, global debt, far from dropping, has continued to grow. By the close of the first quarter of 2017, it was 217 trillion dollars, which meant that it increased by more than half a trillion dollars, 46% higher than ten years ago. Developed economies have built up a total debt of 160.6 trillion dollars, 1.4% down on the previous year, whilst the debt of emerging countries reached 56.4 trillion dollars, up by 5.4%.

In light of positive economic growth, although perhaps not sufficiently sound to deal with potential upheavals, a controlled rate of inflation still way off target and higher debt levels in the economy, what has made central banks act like this now?

Even the chief economist of Bank for International Settlements highlighted in its annual report published last month that:
“Policy normalisation presents unprecedented challenges, given the current high debt levels and unusual uncertainty. A strategy of gradualism and transparency has clear benefits but is no panacea, as it may also encourage further risk-taking and slow down the build-up of policymakers’ room for manoeuvre.”

Perhaps central bankers have (at last) realised that inflation is in financial assets – the returns on the oldest bonds in history, those of the United Kingdom and the Netherlands, have seen the lowest in 322 and 500 years respectively, whilst the US had 10-year bond yields of 1.366%, the lowest since 1800. Maybe it has taken them too long to withdraw these measures that are now not only ineffective, but also encourage too much risk-taking, which puts financial stability at jeopardy. It could simply be that they are recharging their arsenal of weapons to shore up monetary policies should they need to use them in the near future. 

Whatever the reason, the reality is that the market has let them get away with this so far. The question is: will this go on like this? Will they stay on course if the market does not take this well? If they do not keep a steady hand, will faith be lost in the omnipotence of central banks? It should not be forgotten that low interest rates have been the main driver behind the upturn of financial markets.

If Ben Bernanke was right about the positive effects of rolling out quantitative easing, he should be equally right about the effects of withdrawing it. Without going into specifics, what is important is that markets believe so, and think that central banks are responsible for the positive performance of markets.

In response to the appearance of another financial crisis, Janet Yellen was clear in a recent interview: “Would I say there will never, ever be another financial crisis? You know probably that would be going too far but I do think we’re much safer and I hope that it will not be in our lifetimes and I don’t believe it will be.”

Overall, the four big central banks have purchased around $13 trillion in bonds ($13,000,000,000,000). It goes without saying that divesting this portfolio without messing things up is not going to be an easy task…

Column by Alfredo Álvarez-Pickman chief economist at Banco Alcalá, part of Crèdit Andorrà Financial Group Research. 

Small- and Mid-Caps: Still Attractive Investments

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El atractivo de las small y midcaps como inversión a largo plazo
Pixabay CC0 Public Domain. Small- and Mid-Caps: Still Attractive Investments

Small- and mid-cap stocks in Europe, Switzerland and the US are being buoyed by solid fundamentals and the improving economic environment, and remain attractive as components of a long-term investment strategy.

Since the start of the year, equity markets have been supported by positive economic developments. Earnings are growing again: on aggregate, earnings per share (EPS) are expected to rise 13% this year as opposed to 2% in 2016. This positive environment is particularly beneficial for small- and mid-cap (“SMID-cap”) companies, although returns have varied between stocks in the US, Europe and Switzerland.

Fundamental strengths amplified by a supportive environment

In particular, SMID-caps currently have stronger balance sheets than large-cap stocks, with average net debt/EBITDA ratios of 1.1x and 3.9x respectively. These low debt levels, combined with the global economic upturn, mean that SMID-caps still have substantial growth potential, justifying valuations that may appear high in some cases. That growth potential is also underpinned on a long-term view by their impressive capacity for innovation and their ability to adjust to economic developments, which should deliver additional returns in the absence of any systemic risk.

SMID-caps also have other fundamental advantages. For example, many of them are family-owned companies, managed according to a philosophy that ensures the sustainability of their business. In addition, small companies are often driven by a highly entrepreneurial spirit, the effects of which can be seen most clearly when economic growth is accelerating.  

Performance drivers that vary between countries

In Europe in particular, SMID-caps are still offering good investment opportunities because they are attractively valued. European SMID-caps slightly underperformed large-caps in 2016, even though their earnings growth remained positive. Their valuation ratios are currently lower than those of the rest of the market, and lower than their historic averages.

Swiss SMID-caps have had to contend with a strong currency for more than two years now. They have managed to do so by focusing on their competitive advantages and on innovation, while keeping costs tightly under control, which has enabled them to improve profitability. They have also continued to expand successfully in emerging markets over the last few years. For investors, therefore, they offer the stability of a developed market together with indirect exposure to emerging-market growth.

In the USA, the renaissance of the manufacturing sector and the upturn in consumer spending should benefit domestic companies for a long time to come. Unlike Switzerland’s internationally oriented companies, US small-caps are mainly focusing on organic growth on their local market.

US corporate tax reforms should be particularly beneficial to SMID-caps, which tend to pay higher tax rates than large corporations. As a result, US small-caps should continue to fulfil their potential, particularly in more cyclical sectors and finance.

Although these stocks have already made significant gains in 2017, they are still attractive investments, particularly for those wanting to put together a balanced portfolio for the long term. On both sides of the Atlantic, the global economic recovery should both support and boost the earnings growth of these dynamic, entrepreneurial companies.