CC-BY-SA-2.0, FlickrPhoto: Glyn Lowe. Columbia Threadneedle Investments to Acquire Emerging Global Advisors
Columbia Threadneedle Investments announced on Wednesday an agreement for Columbia Management Investment Advisers, LLC to acquire Emerging Global Advisors, LLC (EGA), a New York-based registered investment adviser and a leading provider of smart beta portfolios focused on emerging markets. The acquisition will significantly expand the smart beta capabilities of Columbia Threadneedle Investments. Terms of the EGA acquisition were not disclosed. The transaction is expected to close later this year.
With $892 million in assets, EGA has an established presence in the smart beta marketplace. It is the investment adviser to the EGShares suite of nine emerging markets equity exchange-traded funds (ETFs) that track custom-designed indices:
Beyond BRICs (BBRC)
EM Core ex-China (XCEM)
EM Quality Dividend (HILO)
EM Strategic Opportunities (EMSO)
Emerging Markets Consumer (ECON)
Emerging Markets Core (EMCR)
India Consumer (INCO)
India Infrastructure (INXX)
India Small Cap (SCIN)
“The experience and knowledge of the EGA team and strong emerging markets ETF products will complement our existing actively managed product lineup,” said Ted Truscott, chief executive officer of Columbia Threadneedle Investments. “The EGA acquisition will allow us to reach even more investors and accelerates our efforts as we build our smart beta capabilities.”
Since launching its first ETF in 2009, EGA has had a dedicated focus on providing rules-based, smart beta strategies designed to provide investors with diversification and growth opportunities in emerging markets.
“The team is excited about joining Columbia Threadneedle Investments and building on our complementary strengths to deliver smart beta strategies across asset classes to investors,” said Marten Hoekstra, Chief Executive Officer of EGA. “Now our clients gain access to Columbia Threadneedle’s rich investment expertise, while continuing to benefit from EGA’s experience converting investment insights into rules-based, smart beta strategies.”
“Columbia Threadneedle Investment’s expansive footprint across global markets provides an opportunity to accelerate the growth of our smart beta platform,” said Robert Holderith, President and Founder of EGA.
As part of their efforts to enter the smart beta marketplace, in the first quarter of 2016 Columbia Threadneedle Investments filed with the SEC a preliminary registration statement relating to multiple equity smart beta ETFs, including Columbia Sustainable Global Equity Income ETF, Columbia Sustainable International Equity Income ETF and Columbia Sustainable U.S. Equity Income ETF (referred to as the Columbia Beta AdvantageSM ETFs).
CC-BY-SA-2.0, Flickr. Credit Markets: Confidence Returns, but is it Sustainable?
Stephen Thariyan, Global Head of Credit at Henderson, reviews the credit markets in Q1 highlighting the ‘two-thirds—one-third’ nature of the markets. Financials came under particular pressure over the quarter exemplified by Deutsche Bank’s ordeal. While investors are happy to be back in the markets for now, as central banks have acted effectively to bring confidence back, challenges lie ahead in 2016. Thus, Stephen believes investors should be prepared for volatility to resurface.
Can you give a brief summary of corporate bond markets in Q1 2016?
It was a tough start to the year. It seems that in the first two months, particularly in February, the markets were discounting all the possible bumps in the road for 2016: concerns about central bank policy, illiquidity, Brexit, the oil price, China and growth in general. This led to quite a major sell-off across all capital markets, both debt and equity.
The end of February and March then saw a strong recovery, essentially based on the oil price, rallying from a low of US$26 upwards. That resulted in good returns, especially in high yield and emerging markets; total returns being positive across most currencies, across most credit markets, and excess returns again being broadly flat across most credit markets. So, a quarter of two thirds/one third: a very poor start and a strong recovery that continued into Q2.
Can you explain why the financial sector underperformed, particularly Deutsche Bank and subordinated banks/insurers more broadly?
The financial sector came under particular pressure in the first quarter. This was based on a combination of issues. Deutsche Bank in a way personified this with a situation that led to a significant sell-off in its bond prices, CDS and equity price. In a negative interest rate world, the core way the banks make money is challenged (ie, use short-term borrowing to lend for longer periods). This means significantly reduced returns from investment banking, especially in trading, fixed income, commodity and currency.
Banks, such as Deutsche, reported their first major loss in around eight years and there is a huge degree of outstanding litigation surrounding these banks, totalling billions. The last point was, especially with respect to Deutsche, concerns about the AT1 securities, contingent capital notes, which are complex subordinated financial securities, in existence to increase the capital buffer. There was a rumour that Deutsche would not pay its coupon, and even though these securities are designed to protect the public, the potential triggering spooked investors. Deutsche did recover the situation, but for the first time it felt a bit like 2008.
So financials generally took an awkward situation largely on the chin, given that central banks, especially in Europe, are trying to make banks lend money. Banks, however, are deleveraging, carrying lots of liquidity and struggling to find borrowers to borrow that money.
What is the outlook for credit markets and what themes are likely to drive the markets?
We are at an interesting point. We have suffered from a difficult first few months in 2016. The central banks have come in and almost acted in unison, with the European Central Bank subtly talking about a movement in monetary policy, but more importantly, the purchase of corporate bonds in the next few months. They haven’t given any details but the sheer fact that they are prepared to do it has given the markets confidence that there is a bidder for bonds.
It is debatable how effective that would be but the markets have rallied as a result. That combined with the Fed being a little more dovish a week later gave the capital markets, debt and equity, a huge fillip. Equity markets strengthened, bond markets strengthened, new issuance has started and the oil price steadied. A combination of all those events and generally benign data means that the investor seems happy to be back in the market again.
There is a degree of suspicion about how long this will last, but I think as we have said ever since the back end of last year, given all the different events that could occur in 2016, we are in for a volatile time. Certainly central banks have acted effectively so far in giving investors the confidence that they should be back in the markets buying both debt and equity.
CC-BY-SA-2.0, FlickrPhoto: Heribert pohl. Misperceptions of Thailand
On a recent research trip to Thailand, I had the chance to evaluate some commonly held misperceptions about the long-term outlook for the country’s economy.
One common misperception about Thailand, for example, is that its rapidly greying population makes its markets and companies relatively unattractive for investments compared to neighboring countries like the Philippines, Vietnam, Myanmar and Indonesia. We believe that this generalization discounts the dynamism of several Thai companies. The opportunity set for many companies extends beyond the country’s population of about 68 million. Thai companies have made progress, branching out to nearby countries to participate in their growth and to take advantage of more youthful populations. Similarities in culture and business practices have made it easier for companies to expand profitably in the surrounding region.
Another misperception is that Thailand, with its GDP per capita at approximately US$6,000, is stuck in a middle-income trap. The fear is that Thailand might not be able to graduate from an economy based on manufacturing and agriculture to one more specialized in services. The Thai economy does indeed need to restructure its workforce since roughly 42% of the population works in the agriculture sector, contributing less than 11% to GDP.
However, we believe that policy frameworks to enable the country to graduate to a knowledge-based economy are in place. For example, the government’s continued investment in education, which accounted for over 21% of the national budget in 2012, has resulted in a tertiary education enrollment rate amongst the highest in ASEAN.
A common mistake amongst foreign investors in recent years is to divide Thailand regionally along “Bangkok” and “Upcountry.” The inference is that the “Upcountry” is significantly under-developed and heavily dependent on agriculture. But based on our research, we believe that this division is, perhaps, too simplistic. For instance, our analysis of shopping mall operators has uncovered “rural” malls that are, in fact, in large towns thriving due to tourism and cross-border trade.
Economic Restructuring
We have also discovered that locals, especially bureaucrats, still believe Thailand to be quite resilient to various internal and external shocks. They call it “Teflon Thailand,” to suggest nothing can stick to it. But they may be overestimating that level of resiliency. Thailand still has not recovered from the 2014 national coup d’état. The replacement of the democratically elected government and appointment of a junta-led government has led to a period of both uncertainty and policy inaction. A consequence of this has been the loss of foreign direct investment market share to countries such as Vietnam, the Philippines and Indonesia.
We believe a restructuring of the economy is necessitated by Thailand’s aging population, slower global growth and competition from neighbouring countries. The government seems to understand the urgency of the situation and has unveiled a series of policies to improve the country’s basic infrastructure. Over the short to medium term, this should help. Over the longer term, we would like to see an environment that accommodates a more sustainable governance system that inspires confidence from local and foreign investors to commit long-term capital to the country.
Tarik Jaleel is research analyst at Matthews Asia.
CC-BY-SA-2.0, FlickrPhoto: Glenn Waters. Abenomics is Alive and Well
Despite the disappointment that the Bank of Japan (BOJ) did not act this week, one should not listen to those proclaiming the death of Abenomics. Indeed, it is alive and well.
Many people somehow suggest that Abenomics has so far been a failure, but this is only partially true if you were expecting miracles. The truth is:
Even after its recent rise, the current level of the Yen compares favorably with the 78:USD level before Abenomics;
TPP (the Trans Pacific Partnership) was successfully negotiated, which requires substantial economic reforms, especially in the heretofore heavily protected agricultural sector.
The 2% CPI target was ambitious, but CPI ex food and energy is now near 1% compared to flat or negative prior to Abenomics
Japan now believes in shareholder value, share buybacks and improved pretax profit margins, which have soared to record high, especially in the non-Yen sensitive service sectors
Corporate taxes were lowered by a massive amount, so recurring net profit margins are improving even faster than pre-tax margins
When looking at the overall economic picture, not the macro-economic statistics, which likely do not accurately reflect the new economy and often get revised, one sees full employment, stable or rising property values (after decades of wealth-sapping declines), and solid international competitiveness in advanced industries
Political stability reigns whereas previously the prime minister was an annually revolving door; and lastly (although there are many more examples)
Women are increasing their share of the labor force and over 200,000 kindergarten slots have been created in the last two years.
As for the BOJ, the likely reason why it decided to wait this week was to make certain that its next step was perfectly organized logistically, compared to its negative-rate decision in January. Certainly, the logistics for an ECB-style TLTRO (Targeted Longer Term Refinancing Operations)-like program is much more complicated than simply increasing QE purchases, and requires much more planning and transparency. But delay does not mean surrender, and if anyone thinks that Governor Kuroda is not fully dedicated to achieving positive inflation expectations, they are gravely mistaken and will likely be unhappily surprised when the BOJ takes its next large action, likely in June.
TLTROs, which provide negative-rate funding to banks if they can prove that it is going towards increased lending, are necessary, as in January, negative rates on excessive reserves led analysts to cut banks’ earnings estimates, which led to a broader equity sell off. Since price (including asset prices like real estate and equities, in order create the “wealth effect”) inflation is a key part of Abenomics, banks must not be penalized too much, or else lending and equity prices will not rise steadily.
Besides TLTROs, the next BOJ move will also likely increase the amount of bank reserves that are not subject to negative interest rates. We also expect an increase in ETF purchases to a level that will start to have monetary policy implications instead of just being symbolic of the BOJ’s desire to increase risk appetite by the Japanese people.
As for the fiscal “arrow,” “Helicopter money” is a vague and controversial term. If it means a hazard and extraordinary surge in fiscal spending financed by monetary injection, then such is not likely. However, Japan is soon going to increase fiscal spending substantially, especially due to the earthquake, and the BOJ will indirectly finance much of this.
Thus, the monetary and fiscal “arrows” will accelerate soon, while the economy is likely to continue growing at a moderate rate. It would be helpful if the US would pass TPP, but even if it does not, Japan will likely implement most of the reforms anyway, as such are obviously necessary, especially in the demographically challenged agricultural sectors. Other reforms, including in the labor markets, will also help prove that Abenomics is alive and well. It is critically important, however, that Japanese corporations are pro-active in this effort. They need to invest more locally, rather than abroad, and to be more creative, along with entrepreneurs, in creating new ventures, especially in green technologies. Abenomics is not just about the Prime Minister and his team, it is about Japan’s future as a whole.
CC-BY-SA-2.0, FlickrFoto: e_mole
. Jemstep, SigFig and Vanare Added to Pershing's Platform
Invesco recently announced that it will collaborate with Pershing to offer Jemstep Advisor Pro, the firm’s digital advisor-focused digital solution, to Pershing’s clients. Jemstep Advisor Pro will enable RIAs and broker-dealers on the Pershing platform to seamlessly onboard prospects and effectively service investors. It is expected to be available on Pershing’s NetX360 platform in the third quarter of 2016.
“Pershing serves a wide range of investment firms including RIAs and broker-dealers, and the Jemstep Advisor Pro platform offers the capabilities to satisfy the needs across our spectrum of clients,” said Jim Crowley, chief relationship officer at Pershing. “Jemstep Advisor Pro is distinct in that it combines Invesco’s leading world-class investment capabilities with best-in-class digital technology to enhance the financial experience for advisors and end investors.”
Jemstep Advisor Pro is open architecture which allows investors to access a variety of professionally selected investment options across mutual funds and ETFs. Unlike peer tools that focus on market-cap-weighted indexing, Jemstep Advisor Pro also gives home offices new and differentiated insights to help track advisor progress, view client data in aggregate, enhance portfolio management offerings and services, manage risk, and an opportunity to broaden their client reach to address intergenerational needs.
CC-BY-SA-2.0, FlickrPhoto: Neal Fowler. Time To Take A Step Back?
As a disappointing first quarter earnings season rolls on, I am beginning to feel more cautious about the markets in the months ahead. We’re in the midst of a third consecutive quarter of poor profits and cash flows, and what’s most troubling is the weakness that’s spreading beyond energy and exporters to a broader swath of companies in the index. To me, this is a signal to reduce risk in many portfolios.
Why the increasing level of concern? The three previous earnings recessions of the last 50 years that were caused by a combination of tumbling oil prices and a strong dollar tended to last two quarters. But this pronounced downturn in earnings has now stretched into a third quarter. By now, I would have expected sales and profits to have rebounded, with consumers responding to the “energy dividend” that has accompanied the tumble in oil prices. And the pass-through from lower input costs should have driven an increase in overall economic activity, fueled by higher real consumer incomes. That has not yet happened. I find it both discouraging and an ominous sign for risk assets.
Reevaluate your asset mix
With new money, investors may want to contemplate standing aside for now. An appropriate response for existing diversified portfolios could be to reevaluate their quality mix, and to consider favoring a tilt toward shares in companies with sustainable dividend yields and toward high-quality bonds, perhaps US corporate credits.
Although I don’t believe the present backdrop signals the beginning of a US recession, it does mean that we are now experiencing a protracted earnings recession. To resume favoring risk, I’d need to see the following:
A recovery in capital expenditures
An improved revenue line for US-based multinationals
A sustained improvement in emerging markets
Improved pricing power on the back of an increase in global inflation
Additional concerns
Aside from the concerns expressed above, there are a number of other issues that the market needs to confront. In particular, because of the growing weakness in earnings, the current price-earnings ratio for the S&P 500 is too high, at 16.3x.
Seasonal trends are not particularly favorable in the months ahead. The May–October period is historically characterized by sideways market movements, delivering indifferent returns to investors when viewed over many decades. As the popular saying goes, “Sell in May and go away.” This year, in particular, investors can afford to wait for more clarity from the data flow.
Generally, market participants tend to be cautious in the months leading up to major elections. And with this year’s US election likely to be contentious, that caution may be justified. Further risks that may warrant caution are the Brexit referendum on 23 June and a Spanish general election days after, as well as concerns about Greece’s ability to meet its financial obligations over the coming months.
The macroeconomic environment has proven less dynamic than expected in recent months. US government income tax receipts have slowed despite still-robust employment data. New single family home sales, though solid, have not met my expectations. Auto sales are losing momentum after a very strong 2015. And most importantly, the profit share of gross domestic product, one of the most important forward indicators I follow, has started to slide.
While the current US business cycle remains strong by many measures, like job and wage growth and corporate profit margins, the equity markets are laboring to produce the earnings and margins that we’ve come to expect in recent years.
Our job will be to follow the shifts in the markets and the economy, and it’s our hope that our current concerns will be temporary.
But for now, it might make sense to take a step back.
James Swanson is Chief Investment Strategist at MFS Investment Management.
CC-BY-SA-2.0, FlickrPhoto: InvertmentEurope. Roderick Munsters Appointed Global CEO Asset Management of the Edmond de Rothschild Group
The Edmond de Rothschild Group has decided to entrust the management of all of its Asset Management business to Roderick Munsters from May 10, 2016. He replaces Laurent Tignard who leaves the Group to pursue new professional opportunities.
Edmond de Rothschild confirms its willingness to accelerate the development in France and abroad of one of the Group’s flagship business, representing over CHF 85 billion (€78 billion) in assets under management (at 31.12.2015).
Roderick Munsters (1963) has both a Dutch and a Canadian nationality. He was Chief Executive Officer of Robeco Group from 2009 to 2015 (EUR 273 billion AUM at end-2015). He also headed Robeco’s subsidiaries RobecoSAM (Sustainable Investing) in Zurich and Harbor Capital Advisors (US multi-manager) in Chicago. From 2005 to 2009 he was a member of the Executive Committee and Chief Investment Officer of ABP and APG All Pensions Group.
Roderick Munsters will report to Ariane de Rothschild and is part of the Group Executive Committee as Global CEO Asset Management.
“We are very pleased to welcome Roderick Munsters. He will bring a wealth of experience, strong knowledge of international financial markets, entrepreneurial spirit and recognised ability to generate long-term performance” said Ariane de Rothschild, Chairwoman of the Edmond de Rothschild Group Executive Committee.
“I am very pleased and proud to join the Edmond de Rothschild Group and its teams in France and abroad” said Roderick Munsters. “Edmond de Rothschild is a leading reference in Asset Management. The Group is a forerunner of alternative multi-management since 1969, high-yield bonds in the 70s and currency overlay more recently. It is an honour to have the opportunity to take part in the Group’s European and international development and to support the further growth of its reputation”, adds.
CC-BY-SA-2.0, FlickrPhoto: Ron Mader
. International Wealth Protection Launches LIFE, Portable Life Insurance
Celebrating 25 years of servicing the international insurance marketplace, Mary Oliva, Founder of International Wealth Protection launches LIFE – Life Insurance For Executives. LIFE is the result of the exponential growth the company has experienced over the last several years and will combine advanced technologies with dedicated protection advisors to empower and service professionals that are seeking affordable and portable life insurance solutions.
“After many years of working closely with the U.S. based trusted advisor of our International clients, we were constantly being approached with inquiries relating to insuring their own lives. Whether it be the client’s financial advisor, attorney or accountant, Executives today are looking for mobility and have expressed concern about limiting their life coverage to the group plans offered by their employer. We found that mostly are under insured and many don’t realize that if they leave their employer their life insurance is not transferrable. With this specific population in mind, I created LIFE tooffer both personalized and automated services. In other words access to experts when you need them and technology when you don’t.” said industry veteran, Mary Oliva.
“I am very proud and enthusiastic about this new offering. As a group, we are now in a position to cater to both our international clients and those professionals that we work so closely with. I know from personal experience that in today’s changing employment landscape, planning at an individual level is integral to meeting your financial goals. Just like we bring peace of mind to our clients, we are now in a position to do the same for our colleagues” said Patricia Carral, Senior Vice President.
This offerwas created exclusively for Senior Executives or those on the path to success. The busy lives of these individuals leave them little time to explore product alternatives that meet their personal financial needs. This launch simplifies this process by providing instant access to Protection Advisors and online services that can assist in implementing the life insurance solution that is appropriate and transferrable. These solutions are all supported by highly rated and globally recognized insurance companies.
CC-BY-SA-2.0, FlickrPhoto: Frontriver. Mirage or opportunity in the ‘beta desert’?
High yield bonds were one of the principal beneficiaries of the adoption of quantitative easing (QE) by the US’ and other central banks in response to the global financial crisis. This new wave of monetary policy provided little incentive for savers to deposit cash as long-term interest rates were forced down to unprecedented low levels, unleashing powerful ‘reach for yield’ dynamics as investors searched far and wide for higher returns. This pushed global high yield credit spreads down to lows of 3.6% and absolute yields to 4.9%, in June 2014 (source Bloomberg).
The fallout from the orgy of credit that characterised the run-up to the global financial crisis was mitigated by aggressive central bank policy, which ensured a surprisingly orderly refinancing of the banks’ highly indebted balance sheets. As such, the level of distress was actually quite low compared to earlier cycles and given the scale of the 2008 crisis. In the end, the market reached absurd valuation levels and, with the winding down of the QE programme (‘taper tantrum’), a bear market cycle began to unfold. This was unusual and due to the disconnection between the market and underlying cyclical fundamentals, a direct result of central bank intervention.
The mispricing of an asset normally creates the conditions that lead to a reversal in its fortune, which allows a move back towards its long-term fair value. The post financial crisis bull market in high yield bonds is a particularly good example. Lower quality companies were able to refinance too easily, and, in many cases, took on too much cheap debt, leaving themselves vulnerable to a sustained low growth, low pricing power environment or to material changes in pricing. An example is the shale oil and gas sector which was able to access a seemingly inexhaustible amount of cheap debt at rates wholly incommensurate with the risks. The energy sector made up 9% of the US high yield bond market 10 years ago and rose to become 15% of the market before the oil price began its freefall.
The sell-off in the high yield bond market, partly triggered by the decline in oil prices, undermined confidence in credit markets, and, by extension, growth assets generally. This, in turn, culminated in the cathartic sell-off in January and February 2016 and propelled high yield bonds, formerly so expensive, to what we considered end-of-cycle levels and relatively cheap. Nominal bond yields reached levels in excess of 10% (in the US) and spreads had gone from lows of 335 to 890 basis points (source Bloomberg).
Such levels discounted a rise in default rates to well above 8%, the equivalent of pricing in a recession. Market price behaviour in this episode was typical of how, over the short term, investors can become detached from fundamental reality. This prompted us to re-establish a position from a zero weight across our multi-asset total return strategies, believing as we did that the current low growth, low interest rate cycle has considerably further to run. Having arguably been among the least attractive growth assets, high yield bonds had become the most attractive in the short space of two years.
We re-allocated to high yield bonds sooner than we had originally anticipated. Circumstances presented an opportunity to buy assets at a risk premium, which arguably offered investors the prospect of very attractive risk-adjusted returns over the medium term, even if this featured a relatively severe recession. Furthermore, through careful ‘bottom-up’ selection of individual securities, we were able to lower the prospective default risk of the position, compared with simply owning a passive exposure to the asset class. As long-term investors became aware of the attractiveness of high yield valuations, markets rallied powerfully. High yield spreads have now fallen sharply from 890 to 700 basis points, rendering the case for high yield less compelling, but given the cyclical dynamics, we still regard it as an attractive asset class over the medium term.
Market dislocations and irrational investor behaviour can present excellent opportunities for medium to longer-term investors who focus on fundamentals and valuations. Of course it is not just about recognising the opportunity, but being able to act rapidly and decisively, because windows of opportunity can, as in this case, close rapidly.
Philip Saunders is Co-Head of Multi-assets at Investec.
Kwok Chern-Yeh, Head of Investment Management at Aberdeen Asset Management in Japan.. "Do We Dare to Invest in Japan?" - Aberdeen
We interviewed Kwok Chern-Yeh, Head of Investment Management at Aberdeen Asset Management in Japan. Chern moved to Tokyo in 2011 from Singapore, where he had worked in management since 2005. Aberdeen currently has a team of 6 people dedicated exclusively to investing in Japanese equities, supported by an Asian equity team of 38 investment professionals located in 10 offices spread throughout Asia and teams around the world.
Why should investors look at a country with a challenging macro environment?
Japan is the second largest individual market worldwide, after the United States, by number of listed companies. This is a very large market with leading companies which are global leaders in their respective industries and very well managed. If we look at the Japanese market, we see it has great depth. It consists of 3,000 companies, of which 1,900 are listed on the first section. Among these, we selected a very small number of well-managed companies with strong and healthy balance sheets and with respect for shareholders. We manage very concentrated portfolios. Both the Large Cap and Small Cap strategies have fewer than 40 companies.
The investor must differentiate between Japan’s economic situation in general and the situation of individual companies. In regards to macro data, there are two facts which for the time being are not expected to change. First, we have the fastest aging population in the world, because life expectancy is rising, and the birth rate is still very low. And secondly, we face a high government debt and a persistent deflation problem. In regards to this second issue, there are certain sections of the market where there is obviously no pressure on prices, but in others, where there are players with considerable market share, a rise in prices is possible.
But if we analyze the micro data, things are much more interesting and different. Unlike the government, companies have large cash flows, and also currently, their growth is not dependent on the Japanese economy. They are multinational companies in which less than 20% of their business is concentrated in Japan. These companies have been increasing their incomes from abroad for some time, and this circumstance enables companies to benefit from growth in other parts of the world, especially in Asian emerging markets with rapid growth, in which the middle class is driving the demand. In addition, many of the best companies have begun to outsource their production to countries with lower-costs. Aberdeen’s objective is to select those companies that are the best performers in a struggling economy.
How does the currency effect affect the results of the export-oriented companies?
The stocks in our portfolios have international exposure, but need not necessarily be exporting companies per se. Many of our companies outsource production and sales outside Japan, this is important from the currency point of view, since this part of the business is not affected by the strength of Japanese currency since production costs are not in yen. The only currency-effect we could find in this case would be at the time of transferring benefits to yen. However, high-end production is usually located in Japan and this section of business itself is affected by the currency effect. Japanese companies are comfortable with an exchange rate of 100-115 yen vs the dollar. With an exchange rate below 100 yen per dollar, it is more difficult for these companies to make money. Regarding the RMB its devaluation does not have to be a problem either for companies that produce in China, which are many nowadays.
Regarding portfolio composition, do you seek the same sectors for Small Cap strategies than for Large Cap strategies?
No, in reality, the opportunities that can be found in both strategies are different, for example, in the Large Cap strategies, there are some good options in automotive companies, while in Small Cap strategies, the most interesting companies are those that produce automotive parts. Another example would be pharmaceutical companies, which are attractive to Large Cap strategies, while for Small Cap strategies we focus more on companies which produce medical devices and equipment.
Is there any improvement taking place within the corporate governance of Japanese companies?
In general, we are feeling encouraged because new measures and improvements in corporate governance are being implemented, but they are still insufficient and the process is very slow. The main problems facing foreign investors have been, and still are, the shortage and low efficiency of the information provided by companies, not looking after shareholders, and not taking into account their profitability, as well as maintaining very high cash levels.
The new corporate governance code based on the OECD’s Principles of Corporate Governance, which came into force in June, aims to address these problems. Regarding the quality of the information provided by the companies, it is still inadequate, and should be expanded. Something similar is happening with the relationship between companies and shareholders. Some companies are taking steps to support this good interaction, even exceeding regulatory standards, and on occasions, legislation itself is later responsible for adjusting these measures. Finally, the problem of excessive levels of cash in companies should be addressed. This is a long-standing problem, motivated by economic events of recent decades. After the banking crisis in the eighties, banks endeavourednot to grant credit to businesses, which led companies to adjust to growing without debt, and to have high amounts of cash on their balance sheets. Companies believe they need this cash because for a long time they were denied credit and now don’t know how to work otherwise. It is clear that these reserves should be returned to shareholders, but this practice will take a long time to become effective.
What are the difficulties that an analyst or investor may encounter when investing in the Japanese market as compared to other markets? Why is it good idea to invest in Japanese companies?
I believe that there is no substantial difference between investing in the Japanese market or any other market such as American or British. Perhaps the greatest difficulty we encountered in the Japanese market is, as I said earlier, that the information offered by companies is not very efficient. The Japanese economy is the second largest by market capitalization; however, the Japanese stock market has not been sufficiently covered by analysts: only 14% of assets invested in Japan correspond to companies with analyst coverage, compared to 71% in Asia-Pacific ex-Japan. This situation favors us because Aberdeen has been analyzing Japanese companies first hand over the past 30 years, and we have been able to find very good opportunities.
An example of these good opportunities in which we have invested and are still investing, are companies with great market capitalization in which dividends have grown substantially in recent years. Companies with stable ROE and EBITDA, strong balance sheets, and good fundamentals, and which do not depend on the evolution of the domestic economy. These are the type of companies in which Aberdeen invests for their Japanese strategies: quality companies, even if it involves having to pay more for them in some cases, because in the medium term, returns exceed the benchmark. If we compare the average P/E of our strategies with the benchmark, we will see that ours is higher. But this should not lead to confusion, because the benchmark is weighted down with very low PERs from banking companies and the automotive sector, and may seem cheap, but it really isn’t, as structurally, these sectors are trading at very low ratios.
What are the technical factors that will affect the Japanese market during the coming months?
In July, we have elections in Japan for the Upper House. Shinzo Abe is trying to reform the economy but has another intention for the long term, which is to reform the Constitution, and for that he needs votes, time, and to gain in popularity by presenting a package of measures to stimulate the economy before the elections, since the Abenomics plan has not worked as it was initially intended to, and the economy remains weak.
And, in regards to the restructuring of the pension funds, is it stimulating investment in Japanese equities?
The GIPF, the world’s largest pension fund, (the Japanese government’s pension fund) has already adjusted its allocation in Japanese equities raising it from 12% to 25%. If small pension funds did the same, it would lead to an increase in investment in Japanese companies in the short term. This remains to be seen, but normally these pension funds often operate by following the steps of GIPF.
How have Japanese investors been acting in recent years?
The Japanese domestic investor mentality is changing very gradually. When markets rise, they feel encouraged to invest in Japanese equities, but the proportion of their wealth in these assets is still very low.
And Latin American and US Offshore market investors?
Japan has been ignored by foreign investors for many years, it is an educational issue. The Latin American investor currently has around a 5% exposure in the Japanese market, the US Offshore investor, however, has been more receptive during the last two years, but despite this, Japanese exposure is not higher than 10%.
Is it possible for the international investor to cover yen fluctuations in the strategy’s net asset value?
Although these strategies are denominated in yen, there is a class denominated in dollars (hedged) which covers the currency effect, and which is the most popular for Latin American and US Offshore market investors.
