Vast amounts of stimulus have underpinned the markets after the initial shock of the COVID-19 crisis. The question for investors now is whether such support can continue to offset a sharp fall in corporate profits. Below, Pictet Asset Management (Pictet AM) shares their views on fixed income and currencies:
A focus on United States of America:
Global bond markets remain supported by unprecedented monetary stimulus. Pictet AM expects the world’s five top central banks to inject a whopping USD 8.4 trillion of liquidity into the financial system this year, which is equivalent to 14.3 per cent of their countries’ total GDP (1).
All bonds might look attractive against this backdrop. But central bank support must be balanced against the fact that valuations are now exceptionally high – some fixed income asset classes are the most expensive they’ve been in 20 years. Additionally, the global economy appears to be on a path to recovery, which could cause bond yields to reverse course.
Those contrasting signals keep us neutral on fixed income overall. Drilling deeper, among sovereign debt Pictet AM sees the best return potential in US Treasuries. The Fed has been particularly aggressive with stimulus, and Pictet AM expects it to deliver more in the coming months. This will most likely come in the form of yield curve control, which should keep liquidity abundant and Treasuries’ valuations unusually high for a long time.
The stimulus should also be good news for US corporations, which are already beginning to benefit from a pick-up in the economy. The US economic surprise index hit an all-time high in June, for example. Economically, US looks to be in better shape, which supports their overweight stance on US investment grade bonds – particularly as they have the backstop of Fed support should things dip again.
However, Pictet Asset Management is mindful that the economic recovery is still in the early stages, and there are many risks ahead, including the US election and the possibility of a second wave of the pandemic. Pictet AM therefore remains underweight US high yield. Although it is the only fixed income asset class that is not expensive relative to its 20 year history, according to their model, they believe such valuations do not factor in the potential for future defaults. The market is pricing in a default rate of just 7-8 per cent, while Moody’s expects it to reach nearly double that, at 13 per cent.
In the currency market, Pictet AM thinks the euro should benefit from an improving economic backdrop, helped by increased stimulus. The ECB’s TLTRO 3 bank funding programme and the EU’s economic recovery plan are big positives. The former has seen a very good take-up and will boost banks’ earnings as well, while the latter can potentially prove a game-changer for fiscal unity within the bloc. All in all, Pictet AM thinks the euro’s 14 per cent undervaluation against the dollar (see chart) is no longer justified, and upgrade the currency to overweight. Technical trends, such as seasonality, are favourable, too.
Pictet AM also sees potential for a rebound in emerging market (EM) currencies, which are extremely cheap and have lagged the broader ‘risk-on’ rally so far. That, in turn, should benefit EM local currency debt.
To guard against any renewed market volatility, Pictet AM keeps defensive positions in the Swiss franc (whose haven status is complemented by a strong uptick in the domestic economy) and in gold. Although gold has enjoyed a very strong run (up 15.5 per cent since the start of the year), it is still not in overbought territory according to their technical indicators, which makes it a good hedge. Indeed, Pictet AM believes fundamentals – including the possibility of an inflation spike over the medium term, persistently negative real rates and the prospect of a further weakening in the dollar – more than justify the precious metal’s apparently stretched valuations.
Notes:
(1) Data for US, China, euro zone, Japan and UK. Policy liquidity flow is calculated as net central bank liquidity injection over preceding 6 months as percentage of nominal GDP, using current USD GDP weights.
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Information, opinions and estimates contained in this document reflect a judgment at the original date of publication and are subject to risks and uncertainties that could cause actual results to differ materially from those presented herein.
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This material is for distribution to professional investors only. However it is not intended for distribution to any person or entity who is a citizen or resident of any locality, state, country or other jurisdiction where such distribution, publication, or use would be contrary to law or regulation. Information used in the preparation of this document is based upon sources believed to be reliable, but no representation or warranty is given as to the accuracy or completeness of those sources. Any opinion, estimate or forecast may be changed at any time without prior warning. Investors should read the prospectus or offering memorandum before investing in any Pictet managed funds. Tax treatment depends on the individual circumstances of each investor and may be subject to change in the future. Past performance is not a guide to future performance. The value of investments and the income from them can fall as well as rise and is not guaranteed. You may not get back the amount originally invested.
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The Bank of New York Mellon Corporation announced that Mitchell Harris, CEO of BNY Mellon Investment Management, which includes the Wealth and Investment Management businesses, has announced his intention to retire effective on October 1st. Consequently, the company has appointed Hanneke Smits as new CEO of BNY Mellon Investment Management, and Catherine Keating will continue in her role as CEO of BNY Mellon Wealth Management.
The corporation stated in a press release that both Smits and Keating will report to Todd Gibbons, CEO of BNY Mellon. Furthermore, Smits will join BNY Mellon’s Executive Committee.
“Mitchell has been instrumental in driving our Investment Management business over the last four years as CEO and we wish him all the best in retirement. During a period of tremendous change in the investment landscape, he helped reposition our multi-boutique model and launch new investment capabilities, leaving us well positioned to meet the evolving investment needs of our clients,” said Gibbons.
He also claimed that they are “delighted” to elevate Hanneke into the CEO role for Investment Management. “She has spearheaded Newton’s business momentum and client-centric culture, and we look forward to her leadership within Investment Management. Mitchell has cultivated a strong bench of leaders, including Hanneke and Catherine, who will continue to drive the execution of our strategic priorities to deliver leading investment solutions to our clients underpinned by exceptional investment performance.”
Meanwhile Smits stated that she is “deeply honored” to serve as CEO of BNY Mellon Investment Management. “We have made great progress in building a diversified investment portfolio to help our clients achieve their investment goals. We will build on this strong foundation to continue to drive performance and innovation across our investment products, while also serving as a trusted partner for our clients in today’s rapidly changing investment environment”, said Smits.
Smits will continue as CEO of Newton until October 1st and the company revealed a search is currently underway to replace her. Over the next several months, Harris will work closely with her and Keating to ensure a smooth transition of leadership.
Smits has been CEO of Newton Investment Management, a subsidiary of The Bank of New York Mellon Corporation, since August 2016. Her career spans close to three decades in financial services, including serving as a member of the Executive Committee at private equity firm Adams Street Partners from 2001 to 2014, and Chief Investment Officer from 2008 to 2014. Hanneke is a non-Executive Director to the Court of the Bank of England and serves on the board of the Investment Association.
In addition, she is Chair of Impetus, a venture philanthropy organization that supports charities that aim to transform the lives of disadvantaged young people, and as part of this appointment, she is Trustee of the Education Endowment Foundation, founded in 2011 by The Sutton Trust in partnership with Impetus. She is co-founder and former Chair of Level 20, a not-for-profit organization set up in 2015 to inspire women to join and succeed in the private equity industry. Originally from the Netherlands, Hanneke has a BBA from Nijenrode University and a MBA from the London Business School.
Of the 114 CKDs that exist, 19 achieve an IRR greater than 10% net in pesos, while of the 32 CERPIs there are only 11 have an IRR greater than 10 percent. Together, it means that 21% of CKDs have IRRs greater than 10%, where 17% correspond to CKDs and 34% to CERPIs. These results are those we have, considering capital calls and distributions at the end of May 2020.
These numbers are explained by the corresponding valuations where many of them, being valued in dollars, reflect the movement in the peso dollar exchange rate. As CKDs and CERPIs are private equity vehicles listed on the Mexican stock exchanges (BMV and BIVA), these gains are only book gains at the date of the analysis.
Of the $29,653 million dollars of committed capital, 74% are CKDs and 26% are CERPIs. The market value is $11,353 million dollars. For CKDs, the figures show that 70% of resources have been called while for CERPIs they barely reach 24%, so capital calls will change IRRs, just as distributions do.
When reviewing the CKDs (private equity funds listed on the stock market that invest in Mexico) in amount and number, the real estate, infrastructure, energy, private equity and debt sectors stand out.
With an IRR greater than 10% in pesos, the real estate, private equity and infrastructure sectors stand out with the highest number of CKDs. In the real estate CKDs (7), those of IGS (3), FINSA (1), FINSA / Walton (1), Artha (1) and Alignmex (1) stand out. Private equity (4) includes IGNIA (1), Dalus (1), Northgate (1) and ACON (1). In the Infrastructure CKDs (3) those of RCO (1), GBM Infrastructure (1), as well as Infrastructure Mexico (1) stand out.
With the lowest number of CKDs with IRR greater than 10% in the energy sector (2) is one of BlackRock (1) and Artha Energía (1). Altum (2) is in the credit sector and PMIC Latam (1) is in the fund fund sector.
Among the 32 CERPIs with an IRR higher than 10% are those of the fund of funds sector and those of private equity. Of the 21 CERPIs in the fund of funds sector, 10 of them have an IRR of more than 10% where those of BlackRock (8), Lexington Partners (1) and Blackstone (1) stand out. Among the 6 private equity funds, Glisco Discovery stands out. It is important to mention that the vast majority of these have barely called capital by 20% and the ones that have been the most are Lexington and Glisco Discovery (33 and 30% respectively).
The two CKDs that have amortized so far (AMB Capital and Promecap) neither achieved an IRR higher than 10% net for the investor in pesos. Both CKDs were born in 2010. A total of six additional CKDs to these two will expire in the coming months where only in three cases their IRR is between 8 and 9%. These IRRs will continue to change with the independent quarterly valuations made by CKDs and CERPIs.
Foto cedidaJeremy Roberts, nuevo responsable global de distribución de GAM.. GAM ficha a Jeremy Roberts y le nombra responsable global de distribución
GAM Investments announced the appointment of Jeremy Roberts as Global Head of Distribution. Roberts will join the asset manager in September from BlackRock, where he was Co-Head of EMEA Retail Sales and Head of the UK Retail Business. He will report directly to Peter Sanderson, Group Chief Executive Officer, and will be a member of the Senior Leadership Team.
GAM has announced in a statement that this is a role recently created as Tim Rainsford, current Head of Sales and Distribution, is leaving the company “to take up a new opportunity”. That’s why a new role of Global Head of Institutional Solutions will also be appointed to assume the responsibilities of Rainsford together with Roberts.
“I’m thrilled to be joining GAM as Global Head of Distribution in September. GAM has an extremely strong management team, a great suite of active products and an innovative, client-centric culture and therefore I’m really looking forward to joining such a talented group of people”, said Roberts, who has 20 years of experience in the industry.
Meanwhile, Sanderson claimed to be delighted with Roberts joining the company. “His leadership experience, enthusiasm and his passion to deliver outcomes for clients make him a great fit for GAM. I am excited to welcome Jeremy to the firm to help us further build on our strong distribution capabilities. I would also like to thank Tim for his contribution to the firm and to wish him all the best for the future”.
Allianz Global Investors announced a strategic partnership with Virtus Investment Partners that will focus on enhancing both firms’ growth opportunities in the U.S. retail market to existing and potentially new clients.
AllianzGI stated in a press release that Virtus will become the investment adviser, distributor and/or administrator of their approximately $23 billion in open-end, closed-end and retail separate account assets. Meanwhile, AllianzGI’s teams will continue to manage the strategies in a subadvisory capacity, providing continuity for their U.S. retail clients.
Also, their Dallas-based Value Equity team, which manages approximately $7 billion of the assets, will join Virtus as an affiliated manager. The partnership also provides for future joint product development of investment solutions for retail clients in the U.S.
The asset manager pointed out that partnership will enhance Virtus’ offerings, giving it access to AllianzGI’s “deep, global investment expertise while expanding AllianzGI’s access and presence in the U.S retail markets”.
“This new partnership is strategically meaningful for us in terms of scale, fit and growth potential,” said George R. Aylward, President and Chief Executive Officer of Virtus.
Tobias C. Pross, Chief Executive Officer of AllianzGI stated that the partnership is “truly complementary” and will allow them to focus their U.S. distribution efforts on the Institutional, Insurance, Sub-Advisory and Non-Resident markets, “which are more closely aligned with our strengths in other markets”, he said.
Based on current asset levels, the partnership will increase Virtus’ mutual fund assets under management by approximately 40% to $54 billion and its total to $128 billion.
Sometimes, setting goals is the easy bit. The hard task is actually implementing them. Over the last two years, we have been examining how to integrate Sustainable Development Goals (SDGs) into our investment-decision-making approach for listed markets. This work has taken place against the backdrop of broader efforts to set aspirations and targets for economic development, social inclusion and environmental sustainability around the world.
Building on its previous Millennium Development Goals, the United Nations (UN) has set 17 SDGs, including Affordable and Clean Energy (SDG7), Climate Action (SDG13) and Good Health and Well-being (SDG3), the areas where the most prominent SDG investment opportunities are typically concentrated. Achieving them require governments, businesses, investors and civil society to join together in taking action.
Unlike the predecessor framework of the UN’s Millennium Development Goals, the current SDG agenda explicitly calls on the private sector to deliver solutions. Many companies around the world have already started to incorporate sustainability into their business activities. The SDGs take this commitment further, calling on companies to incorporate the SDGs into their business models, innovations and investments.
In its 2017 “Better Business, Better World Report,” the 35 chief executives and civil-society members of the Business and Sustainable Development Commission identified 60 major market opportunities across the food and agriculture, urban-development, energy and materials, and health and well-being sectors.1 Examples of business opportunities are reducing food waste, new farm technologies, affordable housing, energy-efficient buildings and public transport.
Which is all well and good, but how can such thinking be integrated into a coherent investment approach? Having done so for quite a while, we can tell you that it is by no means straightforward. Our work included research originally published in April 2018 outlining our proprietary methodology as to how best to invest through an SDG lens.2 During the current year, we have enhanced that methodology to deliver more granularity and asses not just issuers’ positive contributions but also their negative ones. With it, we believe that we can now deliver a more complete picture of an individual issuer’s overall net contribution to the SDGs.
Our investment universe for this analysis is the MSCI AC World Index. Within this index, we assess where companies’ product and services are contributing the most to specific SDGs. We find that company activities are typically clustered around five SDGs, namely Climate Action (SDG 13), Quality Education (4), Good Health and Well-being (3) as well as Responsible Production & Consumption (12). However, within the sectors, the exposure to the different SDGs varies substantially.
We start identifying companies with revenues positively linked to SDGs and they then face additional scrutiny through a risk-control layer designed to identify true leaders. Our analysis shows that most of the industries focus their efforts on contributing to SDG 13 (Climate Action). However, this reveals significant variations both within and across sectors.
When examining the results from our in-depth analysis, we find that the sub-sectors that have the highest contribution to the SDGs are within healthcare, technology and real estate. By contrast, the sectors with the lowest share of “True SDG leaders” and “SDG leaders” are energy and communication services.
In spite of norm violations in product safety which penalizes the SDG rating across the healthcare sector, both the sub-sectors of pharmaceuticals, biotechnology & life sciences and health care equipment & services have high proportions of “true SDG leaders” and “SDG leaders” (81% and 82% of the market cap in their sub-sectors respectively).
In the IT sector, all three sub-sectors have a high proportion of SDG leaders. We find that IT products are typically deployed for energy-efficiency purposes and are associated with SDG13; the same also applies to certain devices in the semiconductor sub-sector.
In the food and beverages sub-sector, we often observe a lower exposure to the SDGs than one might have expected. These companies are contributing to the SDGs, but nevertheless have disappointing ratings due to their net negative SDG contribution particularly to SDG 2 (Zero Hunger – Nutrition). This includes companies producing soft drinks, confectionary, desserts, red-meat-based products and highly processed foods products.
Last but not least, most of the companies in the communication-services sector have little to no positive SDG revenue. As a result, and even though many companies may score highly in terms of ESG quality they will be marked down on an SDG basis, achieving an SDG rating of “D” at best. By contrast, SDG leaders are rated “A” or “B.”
So, what does it all mean? Our analysis illustrates the usefulness of having a formal framework to assess issuers across consistent criteria sets in deriving our global outlook for our sector-allocation and security-selection processes. By including ESG information in general and SDG information in particular, we aim to reduce our investment risks, capture investment opportunities and facilitate efforts to improve environmental and social challenges faced by society.
Column by Petra Pflaum, EMEA Co-Head of Equities & CIO for Responsible Investments in DWS
1. Business and sustainable Development Commission (January 2017). Better Business, Better World
This information is subject to change at any time, based upon economic, market and other considerations and should not be construed as a recommendation. Past performance is not indicative of future returns. Forecasts are based on assumptions, estimates, opinions and hypothetical models that may prove to be incorrect.
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For investors in Peru / Argentina / Chile: Without limitation, this document does not constitute an offer, an invitation to offer or a recommendation to enter into any transaction neither does it constitute the offer of securities or funds. The offer of any services and/or securities or funds will be subject to appropriate local legislation and regulation.
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La presente oferta privada toma vigencia el date y está sujeta al Reglamento General No. 336 de la Superintendencia de Valores y Seguros (SVS), conocida como la Comisión de Mercados Financieros (CMF). Esta oferta cubre aquellos instrumentos que no están registrados en el Registro de Valores o Registro de Valores Extranjeros de la Comisión de Mercados Financieros (CMF), por lo tanto, dichas acciones no están sujetas bajo la supervisión de la CMF. Debido a que no están registrados, el emisor no tiene la obligación de proporcionar información sobre dichos instrumentos en Chile, los mismos no pueden ser ofrecidos bajo una oferta pública hasta que estén registrados en el Registro de Valores que corresponde.
Additional disclaimer for Peru: The Products have not been registered before the Superintendencia del Mercado de Valores (SMV) and are being placed by means of a private offer. SMV has not reviewed the information provided to the investor. This Prospectus is only for the exclusive use of institutional investors in Peru and is not for public distribution
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For investors in Mexico: The funds have not been and will not be registered with the National Registry of Securities, maintained by the Mexican National Banking Commission and, as a result, may not be offered or sold publicly in Mexico. The fund and any underwriter or purchaser may offer and sell the funds in Mexico, to institutional and Accredited Investors, on a private placement basis, pursuant to Article 8 of the Mexican Securities Market Law.
Without limitation, this document does not constitute an offer, an invitation to offer or a recommendation to enter into any transaction neither does it constitute the offer of securities or funds. The offer of any services and/or securities or funds will be subject to appropriate local legislation and regulation.
For investors in Brazil: The shares in the Fund may not be offered or sold to the public in Brazil. Accordingly, the shares in the Fund have not been nor will be registered with the Brazilian Securities Commission – CVM nor have they been submitted to the foregoing agency for approval. Documents relating to the [shares in the Fund], as well as the information contained therein, may not be supplied to the public in Brazil, as the offering of shares in the Fund is not a public offering of securities in Brazil, nor used in connection with any offer or subscription or sale of securities to the public in Brazil.
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For investors in Brazil: The shares in the Fund may not be offered or sold to the public in Brazil. Accordingly, the shares in the Fund have not been nor will be registered with the Brazilian Securities Commission – CVM nor have they been submitted to the foregoing agency for approval. Documents relating to the shares in the Fund, as well as the information contained therein, may not be supplied to the public in Brazil, as the offering of shares in the Fund is not a public offering of securities in Brazil, nor used in connection with any offer or subscription or sale of securities to the public in Brazil.
Foto cedidaBaruc Sáez . Baruc Saéz ha sido nombrado nuevo CEO de Itaú Corpbanca Colombia
Itaú Corpbanca announced the resignation of Álvaro Pimentel as Chief Executive Officer of our banking subsidiary in Colombia effective November 1, 2020. Baruc Sáez has been appointed as his replacement.
Sáez is currently director of investment banking for Itaú BBA for Latin America, based in New York. With 10 years of experience in the Itaú group, he has been responsible for consolidating and leading the regional investment banking team.
He also directed the international fixed income platform for debt capital markets, loan syndication and credit structuring. Before joining Itaú, he worked at Marathon Asset Management, Deutsche Bank, ABN AMRO and ING Barings, always in positions linked to the wholesale and investment world. He has a Master in International Economics and Finance from Brandeis University and a Bachelor from Bard College.
Pimentel will return to Itaú Unibanco in Brazil as Executive Director of Itaú Latam based in São Paulo, leading the operations in Argentina, Paraguay and Uruguay, after developing a successful process in Itaú Corpbanca Colombia for four years. This included the introduction of the Itaú brand in the Colombian market, concluding the process of technological and operational integration, and implementing the Itaú culture in the bank’s operation in the country.
Over the next few weeks and until November 1, Pimentel and Sáez will develop a splicing process, in order to carry out a successful transition. Until that date, Pimentel will continue as CEO of Itaú Corpbanca Colombia until this process is completed.
Foto cedidaBertie Thomson and Mick Dillon, portfolio managers of the Global Leader fund of Brown Advisory. Brown Advisory: "We Have Recalibrated the Models to Include a Global Pandemic Within Our Core Portfolios"
According to Mick Dillon and Bertie Thomson, portfolio managers of the Global Leader fund of Brown Advisory -the asset manager that MCH Investment Strategies represents in Spain, Italy and Portugal-, this is a unique market event. As long-term investors with a bottom-up style, they argue that the crisis generated by the coronavirus will have a huge impact on economies worldwide. In this interview with Funds Society, both managers explain their view on the equity market.
Q. What conditions need to be in place for us to start seeing a recovery in the global stock markets?
A. As I write this in mid-June 2020, the NASDAQ and the MSCI All World index are close to pre-COVID levels so it seems that stock markets have recovered already. However, there have been delays in when companies might get cashflow, so shortcut valuation multiples have actually gone up.
Q. After the records that the US stock market registered over the last year, was this adjustment in valuations necessary?
A. The shock to demand means cashflows have been delayed and this recalibration of the IRRs means valuations needed to adjust. Whilst we recognize the cost of capital for the companies we invest in may have come down as interest rates have fallen, our investors still need a good return above long-term market averages. We use a 10% WACC for all investments in developed markets as we believe this is the return which our investors need per annum.
Q. What kind of stocks are best resisting this shock?
A. We believe some businesses with non-deferrable demand might be better positioned to weather this shock, or you need straight out pricing power. We have certainly seen some of our companies adapt and rise to the challenges that the pandemic has created, for example our biggest investment, Microsoft, has seen its cloud and office apps benefit from enormous take-up due to work from home sanctions as has Google’s cloud business. Roche, one of our top 10 investments, is seeing a benefit from COVID-19 testing within its diagnostics business. In financials, we have seen Deutsche Boerse benefit from a large uptick in trading volumes and volatility spiking across asset classes where it provides the leading trading, centralised clearing and settlement platforms in Europe.
Q. Is this a good time to buy?
A. It is incredibly difficult to time the market, and that is not our aim. If you have a portfolio of companies with a 25% RoIC that you own for 4 years you will get 100% return on capital. So long as the supply-side isn’t disrupted by competition and your customer keeps coming back, then over time that should deliver. We believe that long-term outperformance is possible with a concentrated portfolio of good quality companies allowing them to compound their excess economic return over a full market cycle.
Q. What is your approach in that sense? Have you made any changes in your portfolios?
A. We maintain a rigorous focus on valuation so that if you buy them cheaply enough, this should deliver attractive long-term (5 years) returns. We also view ESG research as an essential part of our investment strategy and we are now witnessing the increasing focus on these considerations by investors around the world. Recently, we have significantly added to our exposure to emerging market financials, such as Bank Rakyat and HDFC Bank, as their share price valuations started implying enormous value. As an example, Indonesia’s Bank Rakyat has played a critical role in promoting the government’s social agenda by advancing subsidized credit for rural enterprises.
Q. When taking advantage of these opportunities, special attention will have to be paid to risk management. How are you managing portfolios in this coronavirus crisis?
A. We have recalibrated all our models to include a global pandemic within our base case for all our holdings. For some companies, this can even be a benefit, for others it is a terrible disruption to their business. Using a probability weighting system helps to calibrate our IRRs to a better expected return with both base and bear cases. Nonetheless, we see a number of our investments with double digit IRRs over 5 years.
Q. We have also seen an oil crisis in the first quarter of the year. In your opinion, are there more risks on the horizon?
A. There are always more risks on the horizon, but the magnitude varies significantly. We have held no investments categorised in the energy sector since the launch of this Fund. However, we have recently added Aspen Technology to the portfolio, which gives us some exposure to the energy sector. We do believe volatility can create opportunities for long-term investors and we have found in the middle of the crisis the chance to invest in a couple of new companies –like Autodesk and Intuit– that had been on our ‘ready-to-buy list’ for years but we really didn’t think we would get the right price. Suddenly in the midst of the crisis they reached prices giving us tremendous protection and we are now the proud part-owners of two terrific businesses.
Q. What is your outlook for global equities this year?
A. We are absolutely long-term investors and for us that means 5 years. We consider multi-year IRRs and have a 10 year DCF to take us away from short-term swings and to a more steady state environment. Whilst we don’t know about the rest of this year, we have tremendous confidence in our portfolio of high RoIC companies over a 5-year horizon.
Pictet Asset Management (Pictet AM) has been investing in environmental themes for more than two decades. In 2014, the firm decided it was time to step up their capabilities in terms of investing in environmental solutions. For this purpose, Pictet AM adopted the Planetary Boundaries framework. This framework was developed over a decade ago by by a group of 28 leading Earth System and environmental scientists led by Johan Rockström from the Stockholm Resilience Centre and Will Steffen from the Australian National University.
The Stockholm Resilience Centre (SRC) is an international research center on resilience and sustainability science that is a joint initiative between Stockholm University and the Beijer Institute of Ecological Economics at the Royal Swedish Academy Sciences.
What is the Planetary Boundaries framework?
The Planetary Boundaries framework evaluates the current human footprint for nine dimensions of planetary health, -including biodiversity loss, biochemical flows, chemical pollution, land-system change, freshwater use, ocean acidification, ozone depletion and atmospheric aerosol loading-. It then attempts to establish their safe operating space, in other words, how far each of these dimensions can change without risk of provoking sudden, irreversible damage to the environment.
According to Dr. Sarah Cornell, Research Scientist at the Stockholm Resilience Centre, the framework provides a summary overview of how the planetary system changes due to human activity. It is a scientific evaluation of long-term, large scale planetary dynamics and it points out several threats for humanity.
“The Planetary Boundaries framework flags a set of global sustainability critical issues. It is a compilation of the issues that collectively are changing Earth’s system dynamics most profoundly. There is a strong scientific consensus that we are already in a red alert state for several issues. The list of the nine processes and the fundamental justification of the Planetary Boundaries framework itself have turned out to be really robust over this decade of research and application, and actually quite a lot of debate,” explained Dr. Sarah Cornell.
The framework was launched in 2009, updated in 2015 and it is currently undergoing a new updating process. This time the priority among this international science network is to work hard on providing more clarity about the global importance of chemical pollution created by novel human made entities and ultra-fine particles in the atmosphere. The updates have been focusing on what could happen if current economic intensity on the nine dimensions of the Planetary Boundaries framework moved outside of the safe operation space for humanity. The 2015 update included space mapping with some preliminary analysis of interaction between the processes, and right now the SRC is much more focused on functional interactions, working on ideas like the nexus approach to understand the interactions among climate, biodiversity and resource use.
“For most of the Planetary Boundaries, we are not only already in the red alert state, we are also heading on the wrong trajectory. The human drivers of change are intensifying, they are entangling the risks. Even though, for many of the Planetary Boundaries, there is already a global policy consensus that action is needed now. So, the framework provides a long-term global view within our system and it sets today the rapid human changes into the context of non-negotiable dynamics, which are long-term. The precautionary boundaries are defined in terms of avoiding unwanted shifts in our system functioning. They should be considered as a global complement to local impact indicators, and not as a substitute for good practices and policies to deal with local sustainability problems. This framework is scientifically defined and is of interest to business and policy makers,” she said.
Under the 2015 UN Sustainable Development Goals Paris Agreement on Climate, governments agreed that there is a need for a shift towards sustainability and that it must be a priority in this decade. Although policy structures provided to support the change have been around for decades already, there is a huge implementation gap and the world relies to a large extent on corporations for this action to happen.
The scientific community has provided already so much information to governments and authorities, but why is so little happening? The Planetary Boundaries metrics need to be translated into measures of economic intensity of industry activities. This challenge was tackled a few years ago in the research paper “Towards defining an environmental investment universe within planetary boundaries”, written by Christoph Butz (Senior Investment Manager at Pictet AM), Jurg Liechti (CEO and Managing Director at Neosys AG), Julia Bodin (Researcher at Ecole Polytechnique Federale de Lausane) and Sarah Cornell.
“In our scientific publication, we applied some assessments that combined economic flows with estimates on materials and energy resources use, as well as environmental emissions and waste. This life cycle approach gives us a relative impact, being able to compare different types of products, materials, services or industries,” she observed.
For example, the Planetary Boundaries framework measures human impact on climate change in atmospheric concentrations of greenhouse gases on parts per million. However, this measure is not useful for investors, because it focuses on the end state, not the amount of greenhouse gas emitted per unit of economic activity. Instead, the environmental impact for every million US dollar of economic activity can be calculated by dividing the allowable emission level (14.25 billion tonnes of CO2 per year globally, according to United Nations Framework Convention on Climate Change) by the annual economic output (USD 75.6 trillion) to obtain an economic intensity boundary threshold equivalent to 188.5 tonnes of carbon dioxide per million of US dollars of output, 70% lower than the current level of emissions to the atmosphere, which was 639 tonnes per million of US dollars output in 2018.
The application of the Planetary Boundaries framework research provides Pictet AM with an absolute benchmark for comparison, being able to assess if a company’s environmental impact is good enough from a planetary perspective.
“In our work with Pictet AM, we have tried and tested a method to bring global environment megatrends better into the world of investments”, commented Dr. Sarah Cornell.
How is the Planetary Boundaries framework applied in Pictet AM’s portfolios?
As stated by Dr. Steve Freedman, Senior Product Specialist within Pictet Asset Management’s Thematic Equities team, Pictet AM feels it is becoming increasingly urgent to invest in environmental solutions that lead into action on several environmental challenges.
“The Planetary Boundaries framework is one way to visualize the urgency of changes, but information is not enough to create value. Information needs to turn into awareness in a broader portion of the population which leads to pressure on government authorities and ultimately into action. This chain of value has already been played out a number of times in the past”, explained Freedman.
For example, in China, between 2011 and 2012, the so-called air apocalypse episode took place. The levels of pollution were so high in the major cities, that even in a non-democratic regime like China this led to enough pressure to improve in terms of environmental policy making, becoming in many ways a leader in terms of the priorities on the environment. Something similar is happening in Europe, where the European Commission was elected with a green mandate based on the popular awareness of these topics. Global society is going through a phase in which these changes are happening quickly. This is creating both risks and opportunities for investors.
For Pictet AM, the Planetary Boundaries framework is a source of inspiration at three levels. First, the framework is used to build portfolios both in terms of applying a “do no harm” risk perspective on environmental aspects, but also in terms of looking for solutions to environmental challenges. Secondly, Pictet AM also uses the Planetary Boundaries framework as a reporting framework for environmental impact.
When a company’s business model is operating beyond its economic intensity threshold in any of the nine dimensions of the framework, its environmental footprint is greater than the safe operating space. This may not backfire on the company right the way, but taking a long-term view, this is essentially not sustainable. What Pictet AM is ultimately trying to determine here is which companies have an environmental footprint that is compatible with the safe operating space of each dimension. In addition, the firm is looking for types of companies that have products and services that are actively solving environmental challenges, this generally implies a robust business model to resume for the long term.
To obtain the environmental footprint of a company, Pictet AM analyzes every activity in the production of a good or service, from raw material extraction to product use and disposal. They consider the full supply chain and once the sale has been done, they consider the replacement value and their disposal. A comprehensive Life Cycle Assessment (LCA) is performed in more than 200 industries for each of the nine Planetary Boundaries.
“For us, the combination of a Life Cycle assessment with the Planetary Boundaries is really a robust way to incorporate what we think really represents the consensus in environmental science. This methodology is included as part of the screening process when building our environmental solutions portfolios”, said Freedman.
Another aspect of the Planetary Boundary framework is that it can be used as a test of whether a business model is an environmental solution. By using the comprehensive Life Cycle Assessment based on environmental footprints, Pictet AM can check and see what a company’s footprint will be like and whether its business model helps alleviate the pressure on some planetary boundary dimensions. When a company represents an environmental solution, it should be included in the environmental themes of thematic equity portfolios.
For example, the environmental footprint of the global equity markets (MSCI All Country World index) on both freshwater and climate change dimensions is positive. This means that it has an overall negative environment impact. On the other hand, Ecolab, a water company that provides treatment solutions, and Vestas, a company that is one of the key manufactures of wind turbines, have a negative environmental footprint, therefore they contribute for a positive change.
Finally, the Planetary Boundary framework also serves as a reporting method. When Pictet AM talks about investing in environmental solutions, they consider the broader part of impact investing, while they are looking to achieve a positive change. In that sense, Pictet AM believes they need to be transparent about what they are achieving, and they do so by using impact reporting.
Pictet AM looks across portfolios and uses the Life Cycle Assessment methodology to determine their environmental footprint in each of the nine dimensions of the Planetary Boundary framework. The results are then compared to those of a broader global equity index, like the MSCI All Country World Index. This provides an overview of the impact that using a robust scientific framework has on Pictet AM’s investment process.
“Science is evolving, and this is not a static process, but this explanation should give you a glimpse of where we stand as of now”, concluded Freedman.
Photo: Patrick Zweifel, Chief Economist at Pictet Asset Management. Photo: Patrick Zweifel, Chief Economist at Pictet Asset Management
While the sanitary crisis is not over, some countries have done a better job controlling the spread of the coronavirus among their population. The four largest countries in the Euro Zone by population, Germany, France, Italy and Spain, took a firmer approach on reducing the activity in the services sectors that has in turn led to a lower number of COVID-19 cases. While other countries that took a more flexible approach are still struggling with the outbreaks, as it would be the case in the United States, United Kingdom, India, and most of Latin American countries. Signaling that there has been a clear trade-off between the number of COVID cases and the restrictions imposed in mobility during the lockdowns.
According to Patrick Zweifel, Chief Economist at Pictet AM, the new orders to inventory data extracted from the IHS Markit’s World manufacturing surveys shows that the collapse in the supply side of the industrial activity has been very similar to the one that happened during the Global Financial Crisis. What is new this time is the length of the crisis. While it took about a year, from 2008 to 2009, for the World manufacturing surveys to hit the 50 threshold, this time around it has only taken about three months for the industrial activity to recover from a level of 34 to 52.3.
When focusing on the average output and new orders per country as activity components of the World manufacturing survey, the majority of the countries are recovering or accelerating their production, while a third of them are above the 50 threshold, and as of the end of June they are not showing signs of deterioration versus the previous month.
On the demand side, global car sales collapsed during the first months of the year, experiencing a 43% decrease on its 6-years trend levels for 2019. The global demand for cars hit its trough in April and rebounded in May up to 16% below its trend.
Despite the diversity of patterns and measures taken to contain the virus by the governments of the three major economic regions, -United States, China and the Euro zone-, their real retail sales had a rebound in May up to levels that are only 5% below their average levels for 2019. The data from June confirmed the severity of the fall, but considering only the current information, the rebound seems to be quite strong. However, Pictet AM’s forecasts a peak to trough drop of 10% in global GDP.
US growth projections and disposable income
The US retail sales data is another way to obtain a reflection of what happened on the demand side. Their rebound in May suggests that the actual numbers are better than Pictet AM’s estimate on US monthly real GDP projections. It seems that the US economy is now in a better situation than Pictet AM’s base case scenario, which already is a bit more optimistic than the consensus on its forecast for 2020. Although this scenario could change if there is a second wave of coronavirus outbreak.
The two main risks for the US economy are the levels of disposable income for US households and their consumption rate. So far, there has been a huge fiscal policy response in the world, and particularly in the US, in form of government transfers during the months of April and May to offset the decline in normal sources of income. Consequently, the US household income is now 7% above its December levels, but going forward two questions remain unknown: until when are these government transfers and fiscal responses going to be maintained and even if they are extended on time, will they be enough to offset the deterioration of normal sources of income?
Another source of uncertainty is how much of this net government transfer will be used for spending, US household savings as percentage of disposable income peaked at 32% in April and closed the month of June at 23%. These are two uncertainties that make Pictet AM’s to remain cautiously optimistic.
Activity recovery in China and Emerging Markets
China’s supply and demand, -respectively measured by industrial production and retail sales and investment in fixed assets, have experienced a strong recovery. Its production output is close to its December level, however investing and consumption spending are lagging a bit, 2% and 8% below the year end levels.
The policy response in China has been supportive, and similar in magnitude to the impulse that the country had during the Global Financial Crisis. This in turn, will also serve as support to the entire global economy.
The recovery in Emerging Markets (EM) is at least as obvious as it is in the Developed Markets (DM), if not better in some cases. Pictet AM’s forecast for global activity shows a widening growth gap between Developed and Emerging Markets ahead in the cycle. It is not only that the collapse has been less pronounced in the latter, but that the recovery should be a bit better in as well. The reason that explains this behavior is that Emerging Market economies have a much lower share of services in their GDP, an average of 54% vs the 72% in Developed Markets, and this crisis disproportionately impacts the service sector.
The global fiscal stimulus to fight COVID-19 damage
This time the fiscal response has been stronger than in any other previous crisis. The median response for Development Markets has been about 4.5% of their GDP, this compares to 2.5% of GDP for Emerging Markets for a total of 5% in global GDP, which is about three times the amount of stimulus registered during the Global Financial Crisis.
To all the loan guarantees that have been offered by the governments to large companies, it should be added to all the tax referrals that have been announced by various governments. If all these measures are taken into consideration, the total amount of fiscal packages amounts to 13% of global GDP, a considerably high figure.
This stimulus should have some major consequences in terms of public debt evolution and how much debt that could be developed in the future. For the time being, this enormous fiscal stimulus is sort of what made this crisis different from previous ones.
Moreover, a great part of this fiscal expansion has been monetized. In the United States, the Fed purchases of Treasuries bonds year-to-date covers about 46% of 2020 estimated borrowing needs, which are approximately USD 4 trillion, or around 20% of estimated GDP for 2020.
A similar situation applies to the Euro Zone. Even if there is a sharp increase in the public debt to GDP ratio, most of this new debt will be held by the European Central Bank. Therefore, Pictet AM expects that the overall impact of higher sovereign fiscal deficits will be less dangerous this time than in the previous crisis at least for the short and medium term.
Meanwhile, the fiscal response in Emerging Markets has been appropriate. The countries with the lowest public debt to GDP ratios, -Chile, Peru, and Thailand among others, are the ones that have announced the biggest packages of fiscal spending. Being Brazil the only exception, with a higher public debt to GDP ratio and a relatively high fiscal response.
It is also important to assess how much of this public debt is held by external creditors. In that regard, Turkey or Indonesia could appear to be at risk, less so for Indonesia which has adopted a QE type of monetary responses instead of further reductions in interest rates to avoid dysfunctionalities in their markets.
Overall, the Emerging Market debt is considerably attractive in terms of real yields. Since it is complicated to find positive real yields in developed markets, except for Italy. At least three quarters of emerging debt markets are offering positive real yields returns in their 10-year bonds. The only bonds that are offering negative real yields in the emerging market scope are the Eastern European countries, as they are linked to the yields in the Euro Zone.
Information, opinions and estimates contained in this document reflect a judgment at the original date of publication and are subject to risks and uncertainties that could cause actual results to differ materially from those presented herein.
Important notes
This material is for distribution to professional investors only. However it is not intended for distribution to any person or entity who is a citizen or resident of any locality, state, country or other jurisdiction where such distribution, publication, or use would be contrary to law or regulation. Information used in the preparation of this document is based upon sources believed to be reliable, but no representation or warranty is given as to the accuracy or completeness of those sources. Any opinion, estimate or forecast may be changed at any time without prior warning. Investors should read the prospectus or offering memorandum before investing in any Pictet managed funds. Tax treatment depends on the individual circumstances of each investor and may be subject to change in the future. Past performance is not a guide to future performance. The value of investments and the income from them can fall as well as rise and is not guaranteed. You may not get back the amount originally invested.
This document has been issued in Switzerland by Pictet Asset Management SA and in the rest of the world by Pictet Asset Management Limited, which is authorised and regulated by the Financial Conduct Authority, and may not be reproduced or distributed, either in part or in full, without their prior authorisation.
For US investors, Shares sold in the United States or to US Persons will only be sold in private placements to accredited investors pursuant to exemptions from SEC registration under the Section 4(2) and Regulation D private placement exemptions under the 1933 Act and qualified clients as defined under the 1940 Act. The Shares of the Pictet funds have not been registered under the 1933 Act and may not, except in transactions which do not violate United States securities laws, be directly or indirectly offered or sold in the United States or to any US Person. The Management Fund Companies of the Pictet Group will not be registered under the 1940 Act.
Pictet Asset Management Inc. (Pictet AM Inc) is responsible for effecting solicitation in North America to promote the portfolio management services of Pictet Asset Management Limited (Pictet AM Ltd) and Pictet Asset Management SA (Pictet AM SA).
In the USA, Pictet AM Inc. is registered as an SEC Investment Adviser and its activities are conducted in full compliance with the SEC rules applicable to the marketing of affiliate entities as prescribed in the Adviser Act of 1940 ref. 17CFR275.206(4)-3.
