ISSUE 41 SPRING 2019
MILLENNIALS Is the investment ecosystem ready?
BEHAVIOURAL FINANCE Battered beans hold the answer
INVEST
IN A FUTURE POWERED BY
EXPERTS IN ACTIVE FUND MANAGEMENT
This financial promotion is issued by M&G Securities Limited which is authorised and regulated by the Financial Conduct Authority in the UK and provides ISAs and other investment products. The company’s registered office is Laurence Pountney Hill, London EC4R 0HH. Registered in England No. 90776. DEC 18 / 332921
CONTENTS & WELCOME
CONTENTS 4. Finding the World’s Outstanding Businesses 8. The First Three Years 12. Effective Diversification for a Changing World 16. The Party is Back on, but When will the Music Stop? 20. Rich Pickings in an Unloved Market
WELCOME
23. Millennials: Tomorrow’s Investors 24. Rise and Shine 26. Income: the Engine that Drives Returns 28. Deliberately Active 32. Looking Across the Pond for Dividend Growth 34. Behavioural Finance: Why Some Battered Beans Might Hold the Answer 37. Indian Elections: a Threat to Reform 38. Alpha Opportunities 40. Talking With... Best Chats 42. Inescapable Investment Truths for the Decade Ahead 44. A New Dawn for Emerging Markets
Markets have turned on a sixpence since the start of 2019. The markets have casually set aside ongoing trade tensions, weaker economic data and geopolitical tensions, and have made progress against all expectations. Emerging markets have been particularly strong as investors concluded that valuations more than reflected the inherent risks. Is this new-found confidence a sign that markets can continue to run further, notwithstanding the length of the bull run? It would seem that the party can continue a little further, even if it is with a little less vigour. The Federal Reserve’s pause on interest rates has buoyed up market confidence and earnings have kept pace. Valuations don’t look particularly challenging and, with cash rates still low, investors still have few alternatives.
This month’s Hub News discusses opportunities in this directionless environment. Justin Oneukwusi at LGIM looks at the important considerations for investors in this late cycle environment, while John Weavers, manager of the M&G North American Dividend Fund and Chris Murphy, manager of the Aviva Investors UK Equity Income Fund discuss the role of dividends. Bill McQuaker, portfolio manager, Fidelity Multi Asset Open range, looks at whether the party is really back on, or whether investors should be more circumspect. As always, we hope you find it an illuminating and insightful read. Please send any thoughts or feedback to enquiries@adviser-hub.co.uk. Cherry Reynard Editor www.adviser-hub.co.uk
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SPONSORED BY BAILLIE GIFFORD
SCOTTISH MORTGAGE
FINDING THE WORLD’S OUTSTANDING BUSINESSES
“A handful of truly exceptional businesses” - Catharine Flood of Baillie Gifford explains how Scottish Mortgage aims to build a portfolio of tomorrow’s winning companies.
There is no shortage of fund managers who claim to be long term, benchmark agnostic and to focus on uncovering outperforming companies. But scratch the surface and many of these claims look weak: managers nervously stick close to benchmark weightings, supporting low-growth companies, or get spooked by periods of short-term weakness. Either way, they miss the real, long-term highgrowth companies that can produce outstanding returns over time. The importance of finding these companies should not be underestimated. Research from Professor Hendrik Bessembinder at Arizona State University shows that from 1926 to 2016, all of the net wealth created in the US stock market was equal to the best performing 1,092 stocks. Half of that net wealth was created by just 90 companies ( just 0.3 per cent of companies). The returns which drive the growth in stock markets are not universally distributed across all companies. The extraordinary returns come from a small number of companies. Catharine Flood, Client Service Director at Baillie Gifford, believes this is where investors should focus their attention. This is where Scottish Mortgage comes in: “Absolutely everyone says they are long-term investors, but our turnover statistics – a 11.4 per cent average for the past five years – demonstrate our commitment to this,” she says. “This approach changes the information that’s relevant. It means we have to look at what drives value in a company. For Scottish Mortgage, we are trying to get to a portfolio of long-term winners. We want to see deep competitive advantages being built over time. This shows that a company is really good at what it’s doing.”
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“We are looking for a handful of truly exceptional businesses. We know that these share certain common characteristics – founder or family ownership, a sustainable competitive advantage and a large market opportunity. We know that the market is not good at valuing these deep competitive advantages. Every company in our portfolio has to have the potential to become a lot bigger over our investment horizon. We sold Apple not because it is a bad company, but because it was the largest company in the world and there were limits to its growth potential. Amazon, in contrast, has lots of new areas into which it can move.”
“For Scottish Mortgage, we are trying to get to a portfolio of long-term winners. We want to see deep competitive advantages being built over time. This shows that a company is really good at what it’s doing.” It is tempting to focus on the technology names in the portfolio – Amazon, Illumina and Tencent are all in the top 10 holdings – and conclude that this is the trust’s focus, but Flood says this misses the point. “Technology is about building a better business model. Technology underpins the business model, but it is not about technology in itself. In healthcare, for example, we are building a better understanding of how biology works. Technology means that larger-scale studies can be done that couldn’t have been done before, but the technology is only part of the change.
“There is a new generation of diagnostics and therapeutic companies coming through that are using this computing power to their advantage. At the same time, groups such as Spotify or Airbnb simply provide a better system to the one that existed before. A single app is more convenient than a bag full of CDs. A variety of elements go into a great business model.” Alignment is important and a key part of the team’s research. They want a committed management team, with plenty of ‘skin in the game’. These are likely to be founderowners or family-run businesses. This gives them a longerterm horizon and ensures they are thinking about how to build long-term value. It also means looking beyond listed equity markets. As it stands, the trust has around 16 per cent in private equity (with an upper limit of 25 per cent). Flood says: “We realised there were a group of younger companies that would previously have become public companies a lot sooner. The benefit of investment trusts is that you have a pool of invested capital. You don’t need the liquidity, so you are agnostic on the type of company. You can just look for the best businesses.” Over time the team would expect most of these businesses to become publicly listed, but in the meantime they are happy to wait. It also helps build long-term relationships with companies. Usually investors will only invest in the private or public side, but Baillie Gifford can continue to invest through a company’s journey. Flood gives the example of Alibaba, which it held while private and now holds as a public company: “That’s valuable
access, allowing us to learn about other very attractive companies such as Ant Financial (Alibaba’s payment subsidiary).” This relationship with the company is important to the Scottish Mortgage team. Companies know that they will be supportive shareholders and that they won’t withdraw funding at a moment’s notice. This should enable business owners to plan and make decisions based on the value they will bring to the business over the long term, rather than worrying about short-term earnings numbers. Flood believes that Scottish Mortgage offers something genuinely different: a portfolio of the world’s strongest businesses. She says that ‘actual’ investors look to the future when deciding where to invest. Only then can they find those businesses with sustainable competitive advantages. Past performance is not a guide to future returns. As with any investment, your clients’ capital is at risk. The views expressed in this article should not be considered as advice or a recommendation to buy, sell or hold a particular investment. The article contains information and opinion on investments that does not constitute independent investment research, and is therefore not subject to the protections afforded to independent research. Some of the views expressed are not necessarily those of Baillie Gifford. Investment markets and conditions can change rapidly, therefore the views expressed should not be taken as statements of fact nor should reliance be placed on them when making investment decisions.
ANNUAL PAST PERFORMANCE TO 31 DECEMBER EACH YEAR (%) SCOTTISH MORTGAGE INVESTMENT TRUST PLC
2014
2015
2016
2017
2018
21.4
13.3
16.5
41.1
4.6
Source: Morningstar. Share price, total return.
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SCOTTISH MORTGAGE INVESTMENT TRUST
SCOTTISH MORTGAGE ENTERED THE FTSE 100 INDEX IN MARCH 2017.
WANTED. DREAMERS, VISIONARIES AND REVOLUTIONARIES. Visionary entrepreneurs offer opportunities for great wealth creation. The Scottish Mortgage Investment Trust actively seeks them out. Our portfolio consists of around 80 of what we believe are the most exciting companies in the world today. Our vision is long term and we invest with no limits on geographical or sector exposure. Our track record as long-term, supportive shareholders makes us attractive to a new breed of capital-light businesses. And our committed approach means we can enjoy a better quality of dialogue with management teams at transformational organisations. Over the last five years the Scottish Mortgage Investment Trust has delivered a total return of 136.5% compared to 74.9% for the sector*. And Scottish Mortgage is low-cost with an ongoing charges figure of just 0.37%**. Standardised past performance to 31 December* 2014
2015
2016
2017
2018
Scottish Mortgage
21.4%
13.3%
16.5%
41.1%
4.6%
AIC Global Sector Average
8.8%
10.9%
22.6%
24.1%
-4.9%
Past performance is not a guide to future returns. Please remember that changing stock market conditions and currency exchange rates will affect the value of the investment in the fund and any income from it. Investors may not get back the amount invested. For a farsighted approach call 0800 917 2112 or visit us at www.scottishmortgageit.com A Key Information Document is available by contacting us.
Long-term investment partners
*Source: Morningstar, share price, total return as at 31.12.18. **Ongoing charges as at 31.03.18. Your call may be recorded for training or monitoring purposes. Issued and approved by Baillie Gifford & Co Limited, whose registered address is at Calton Square, 1 Greenside Row, Edinburgh, EH1 3AN, United Kingdom. Baillie Gifford & Co Limited is the authorised Alternative Investment Fund Manager and Company Secretary of the Company. Baillie Gifford & Co Limited is authorised and regulated by the Financial Conduct Authority (FCA). The investment trusts managed by Baillie Gifford & Co Limited are listed UK companies and are not authorised and regulated by the Financial Conduct Authority.
GSAMFUNDS.com
me l-Ti Rea
n Disruptio Emerging Markets
Sust aina bility
Le arn ing
Ma ch ine
Dem ogra phic s Na tur al La ng ua ge Pro ce ssi ng
w ies rro log mo hno To Tec ed anc Adv
tion Diversifica
ent nm o r i Env ity til a l Vo
Risk Management
Flexibility
We believe investors today are faced with a series of trends that are likely to redefine the investment landscape over the next five years. While trends evolve over time, we think that investors are able to position themselves in anticipation of many of these today. Contact your GSAM representative for more information on the key trends that we believe investors should consider when constructing their portfolios.
For Third Party Distributors Use Only – Not For Distribution to your clients or the General Public. This material is provided at your request for informational purposes only. It is not an offer or solicitation to buy or sell any securities. In the United Kingdom, this material is a financial promotion and has been approved by Goldman Sachs Asset Management International, which is authorized and regulated in the United Kingdom by the Financial Conduct Authority. THIS MATERIAL DOES NOT CONSTITUTE AN OFFER OR SOLICITATION IN ANY JURISDICTION WHERE OR TO ANY PERSON TO WHOM IT WOULD BE UNAUTHORIZED OR UNLAWFUL TO DO SO. Prospective investors should inform themselves as to any applicable legal requirements and taxation and exchange control regulations in the countries of their citizenship, residence or domicile which might be relevant. Views and opinions expressed are for informational purposes only and do not constitute a recommendation by GSAM to buy, sell, or hold any security. Views and opinions are current as of the date of this presentation and may be subject to change, they should not be construed as investment advice. Confidentiality: No part of this material may, without GSAM’s prior written consent, be (i) copied, photocopied or duplicated in any form, by any means, or (ii) distributed to any person that is not an employee, officer, director, or authorized agent of the recipient. © 2019 Goldman Sachs. All rights reserved. 163557-OTU-952840
DEMOGRAPHICS
THE FIRST THREE YEARS
We believe that the potential of the world’s largest demographic cohort to reshape the global consumer and industrial landscape could be one of the most powerful secular investment themes for many years – possibly decades.
We saw the convergence of rising millennial spending power, different lifestyle priorities and increasing technological innovation as a force for considerable disruption across industries, a catalyst for corporate innovation and a potential source of exciting investment opportunities for investors.
Technology has facilitated an ‘asset-light’ business model where asset ownership is no longer the imperative; cost-effectiveness, experiences, service and sustainability become the modus operandi. Millennials have been the drivers of these platforms, but everyone is now a passenger.
EVOLUTION
“The future’s already here, it’s just unevenly distributed.” William Gibson
WELCOME TO THE FUTURE Even with our expectation of increasing technological innovation, and greater adoption across the millennial generation, the rate of technological change and its current disruptive power has been remarkable. What we now take for granted is, in an historical context, exceptional. However, it is not just the degree of innovation that makes this era remarkable; it is the global rate of adoption of technological change that applies the real disruptive pressure on industries. This velocity of change in the digital era is the key reason why many commentators believe we now stand on the brink of the Fourth Industrial Revolution*. But it is, perhaps, where technology has facilitated lifestyle priorities that the impact of the millennial generation has shown its greatest power to transform the business landscape. Lifestyle priorities borne either of the financial crisis (particularly in developed markets), or pronounced generational differences (especially in developing markets) have given rise to a ‘sharing economy’ that will soon match the traditional economy in terms of global financial importance.
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“Now, here, you see, it takes all the running you can do, to keep in the same place.” The Red Queen (Alice through the Looking Glass by Lewis Carroll) In evolutionary theory, the Red Queen hypothesis refers to the concept that organisms need to adapt and evolve in order to survive, let alone gain any advantage over other species. The same theory can be applied to the corporate environment. However, such is the degree of technologyled disruption to traditional business models that many companies have to accelerate their rate of change and innovation just to maintain the status quo. Much of this acceleration is caused by the growing dominance of the millennial generation as technology adopters and consumers. Evolution and innovation take time; companies in danger of losing ground are often compelled to acquire to keep up.
CASE STUDY: GENOMICS
OUR POINT IS THIS
The subject of our July 2018 Millennial thought-piece The world is changing at an unprecedented rate. We was the future revolution in health care that genebelieve that investors need to think further ahead editing techniques will catalyze. We highlighted in than they have ever done to identify future trends that August the fact that the millennial generation could be companies can benefit from now. Complacency and the first generation to be able to predefine certain traits lack of vision will sow the seeds of corporate failure, and in their offspring through gene editing – also noting the underperformance amongst investors. By looking at profound ethical issues that society will have to confront the world through a millennial lens, we believe we can as a result. capture these future opportunities for our clients today. At the time of writing, as well as with subsequent conversations with clients, this seemed pretty futuristic. It has transpired that the future is already here: Richard Wiseman, Senior Client Portfolio Manager for Goldman Sachs Asset Management’s Fundamental Equity team BIOSHOCK In November 2018 the global scientific community was horrified by the revelation that a seemingly rogue Chinese scientist had created the world’s first gene-edited babies. He used YouTube to announce the birth of Lulu and Nana, the products of IVF treatment, whose single gene CCR5 was altered to make the girls less susceptible to HIV infection (which their father has). Moreover, the gene editing was conducted at an embryonic stage that enabled the alteration to be inherited. This procedure contravened all existing laws and scientific conventions; The Economist described the subsequent uproar from the scientific community as ‘volcanic’. One commentator put it to the perpetrator of the experiment that he had ‘opened Pandora’s box on behalf of the entire human race’.
Disclosures In the United Kingdom, this material is a financial promotion and has been approved by Goldman Sachs International, which is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. © 2019 Goldman Sachs. All rights reserved. Confidentiality No part of this material may, without GSAM’s prior written consent, be (i) copied, photocopied or duplicated in any form, by any means, or (ii) distributed to any person that is not an employee, officer, director, or authorized agent of the recipient. 9
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Important Information This advert is for the use of professional advisers and other regulated firms only. It is published by, and remains the copyright of, Square Mile Investment Consulting and Research Ltd (“SM�). SM makes no warranties or representations regarding the accuracy or completeness of the information contained herein. This information represents the views and forecasts of SM at the date of issue but may be subject to change without reference or notification to you. SM does not offer investment advice or make recommendations regarding investments and nothing in this presentation shall be deemed to constitute financial or investment advice in any way and shall not constitute a regulated activity for the purposes of the Financial Services and Markets Act 2000. This presentation shall not constitute or be deemed to constitute an invitation or inducement to any person to engage in investment activity. Should you undertake any investment activity based on information contained herein, you do so entirely at your own risk and SM shall have no liability whatsoever for any loss, damage, costs or expenses incurred or suffered by you as a result. SM does not accept any responsibility for errors, inaccuracies, omissions or any inconsistencies herein. Past performance is not a guide to future returns.
LATE-CYCLE INVESTING
EFFECTIVE DIVERSIFICATION FOR A CHANGING WORLD
As market conditions change, investors not only need to look beyond traditional asset classes, but also to be more flexible and dynamic in their asset allocation approach. LGIM fund managers Andrzej Pioch and Chris Teschmacher discuss how the success of the L&G Multi-Index range gave rise to the L&G Multi-Asset Target Return fund, which has been designed as a ‘go anywhere’ fund to provide diversification and long-term capital growth.
Until recently, fund managers had grown increasingly focused on benchmarks rather than investor outcomes. It became increasingly clear that this was not particularly helpful for clients, with labels such as ‘cautious’ or ‘defensive’ sometimes revealing little about what was going on beneath the surface. The regulator responded and LGIM followed suit. It saw the need to match risk more closely to client requirements and sought to build its range to focus on outcome-orientated solutions. In 2013, it built a nimble and dynamic fund range (Multi-Index), which uses the full range of its risk targets, while employing regular rebalancing to ensure they stay within these targets. For Andrzej Pioch, fund manager in the Asset Allocation team, this played to the group’s existing strengths. The team runs over £50bn* in assets and uses dynamic asset allocation in many funds as a way to deliver returns over time. He says: “Post RDR, we saw the rise of the digital adviser and centralised investment propositions. The concept of risk-targeted funds grew very quickly. The key factor was the ability to match the risk profile to the client more accurately to ensure suitability. This accelerated after the Pensions Freedom Act and MiFID, when the importance of client outcomes was re-emphasised in regulation.” However, there were still problems. Many multi-asset funds were highly concentrated, which over the longterm further distorted client outcomes. While designed to be multi-asset, there were often significant weights in US equities, for example, or a major home-country bias. Pioch said: “For us, that’s quite dangerous; it limits the diversification benefits.” Some managers took a very one-sided view of risk targeting and only focused on the maximum allowable level of volatility. The danger, says Chris Teschmacher,
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also a fund manager on the team, is that a fund manager may keep taking less and less risk: “There are always scary scenarios out there and something to worry about, from Trump to Italian politics. It is easy to tell investors there is less risk in the fund in light of upcoming events. But if you do that year in, year out, you will end up not taking enough risk to hit the return targets. With limited risks, there can only be limited rewards. We label it ‘reckless prudence’.” It can see fund managers fail to seek out opportunities and return sources for the fund. Also including a lower risk limit therefore makes sense to ensure a fund manager keeps looking for attractive investments.
“There are always scary scenarios out there and something to worry about, from Trump to Italian politics. It is easy to tell investors there is less risk in the fund in light of upcoming events. But if you do that year in, year out, you will end up not taking enough risk to hit the return targets.” More recently, financial markets created some further problems. It was clear that at a time when bond and equity returns were lower, and potentially more highly correlated, greater diversification was necessary. Multiasset managers needed to look beyond traditional assets. For example, LGIM has recently added frontier markets and commodities to its Multi-Index range. It believes investors also need to be more nimble and dynamic in the way they approach asset allocation, responding to different market conditions. This is particularly important now that volatility has returned.
In this environment, the LGIM multi-asset team saw demand for a purer expression of its asset allocation ideas – a ‘go anywhere’ fund that could express an investment conviction more precisely, as well as providing capital preservation – with a cash plus target. The result was the L&G Multi-Asset Target Return fund. Teschmacher says: “Client demand coincided with LGIM’s journey. This was a fund that could move into small, unnoticed spaces if attractive. It can access all areas.” The fund aims to provide returns that are competitive with equities with a cash + 5% return target per year over rolling three-year periods. It is built on four key components: diversified market exposure, alternative strategies, tactical strategies and risk management. MATR builds on the success of Multi-Index by taking the shackles off the views that has led to similar strong performance. According to Teschmacher, the fund was built for three types of clients. The first were those who had a shorter time horizon than was needed for full market exposure. He believes that being unconstrained allows the fund managers to work with a shorter-term horizon and deliver a lower returns volatility. The second group are those clients looking for diversification or alternatives in their broader portfolio. For these investors, the multi-asset target return approach is seen as complementary to their wider portfolios, bringing in new, non-correlated sources of return. The third are those who need capital preservation. The fund aims to put hedges in place to guard against major risks. That said, Teschmacher believes strongly that targeting the lowest possible volatility is not the best approach: “Since launch, the lower limit of risk has been more important to manage the fund than an upper limit of risk. We see some of our peers taking too little risk and not pursuing opportunities as a result.” In terms of how this works in practice, Teschmacher gives the example of a recent position in Mexican equities. The asset allocation team believed there was value in Mexican equities. In the Multi-Index portfolios, exposure to emerging markets is taken via an equity index fund, which tracks the entire universe. To take exposure to Mexico, they introduced a future on the Mexican index to sit alongside this broad exposure.
In the Multi-Asset Target Return fund, they took this one step further. Teschmacher says: “In this fund, we can make the exposure larger and add bells and whistles to the trade. For example, there were some sector issues in Mexico that we wanted to negate and we could do that.” Pioch is clear that LGIM has designed the approach with the needs of clients and today’s regulatory environment in mind. Increasingly, the historic approach to asset allocation looks anachronistic. This is the brave new world of unconstrained investing. Important Notice This is not a consumer advertisement. It is intended for professional financial advisers and should not be relied upon by private investors or any other persons. The views expressed within this document are those of Legal & General Investment Management, who may or may not have acted upon them. Issued by Legal & General (Unit Trust Managers) Limited. This document should not be taken as an invitation to deal in Legal & General investments or any of the stated investments. Remember, the value of investments and any income may fall as well as rise and investors may get back less than they invest. Past performance is not a guide to future performance. Exchange rate changes may cause the value of any overseas investments to rise or fall Legal & General (Unit Trust Managers) Limited. Registered in England and Wales No. 1009418. Registered office: One Coleman Street, London EC2R 5AA. Authorised and regulated by the Financial Conduct Authority.
*Source: LGIM as at 31 March 2019
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Fidelity’s Multi Asset solutions
For investment professionals only
Because no two clients are the same, you need solutions that can help meet a variety of needs. Fidelity’s Multi Asset Allocator, Open and Income ranges offer something that could suit everyone. The value of investments and the income from them can go down as well as up and clients may get back less than they invest. The funds can invest in overseas markets and so the value can be affected by changes in currency exchange rates. They may also use derivatives for investment purposes, which may expose the funds to a higher degree of risk and can cause investments to experience larger-than-average price fluctuations. Whether your clients are looking for income, total return or simply low-cost access to global markets, we can help you put the person into personal portfolios.
No such thing as
average. Let’s talk how. Visit professionals.fidelity.co.uk
Investments should be made on the basis of the current prospectus, which is available along with the Key Investor Inve Information Document and annual and semi-annual reports, free of charge on request by calling 0800 368 1732. Issued by Financial Administration Services Limited, authorised and regulated by the Fin nancial Conduct Authority. Fidelity, Fidelity International, the Fidelity International logo and F symb bolls are trad demarkks off FIL FIL Li Limiit ited d. UKM0219/22399/CSO8804/0519 UKM 0219/2239 9/C SO8 8 04/0 519
MULTI-ASSET
THE PARTY IS BACK ON, BUT WHEN WILL THE MUSIC STOP? The story so far for 2019 has been the dramatic recovery in risk assets, with the S&P 500 producing a year’s worth of returns in four weeks. But does this mean the party is back on after a period of overselling in the late stages of 2018? Bill McQuaker, Portfolio Manager, Fidelity Multi Asset Open range, discusses.
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A CHANGE OF TUNE
RISKY BUSINESS?
There is no doubt that prices have rallied hard since the beginning of the year, but we have seen limited improvements in the key fundamental drivers of markets. The US dollar is flat on the year, US real rates have decreased by a small margin, and the oil price has spiked by more than 20%. This combination of factors is unsettling against a backdrop of renewed bullishness. Trading activity in the Open range in recent months reflects the unfolding story. After having hedges on risk for much of the final quarter of 2018, we bought back some risk in December by closing short positions in Korea and Japan, and re-cycling some exposure from defensive US utilities into the S&P 500. More recently, we have taken some risk back off the table after the rally in January. This reflects our concerns that fundamentals are not keeping pace with the market. If investors were truly convinced that we were back on a risk-on footing, hedging assets such as gold and US Treasuries would have performed poorly so far this year. But that has not been the case, and there is evidence that market participants aren’t fully on board with the risk rally as both defensive assets are more than holding their ground. We have maintained a healthy exposure to these and other hedging assets that should perform well if markets come under a renewed period of downward pressure in the coming months.
We do see pockets of opportunity beyond risk-off assets, however, and are prepared to take positions as and when they arise. One area that has performed strongly in the new year after taking a battering in 2018 is the emerging markets complex, with the traditional buy signals for the space beginning to rise to present themselves - namely a Federal Reserve that has hit the pause button on its tightening cycle, and a US dollar looking unlikely to continue appreciating as it had in 2018. Combined with attractive valuations after a rough 2018, we believe that emerging markets equities and debt are offering up some attractive opportunities, but maintaining selectivity is important given the wide dispersion between regions and asset classes in this heterogenous space.
“If investors were truly convinced that we were back on a risk-on footing, hedging assets such as gold and US Treasuries would have performed poorly so far this year. But that has not been the case, and there is evidence that market participants aren’t fully on board with the risk rally.”
MOVING TO THE BEAT In order to take advantage of the price action within regional markets at present, we are not removing hedges in the Open range, but are rotating within risk assets instead. We characterise our positioning as cautious given the recent re-rating of risk assets to the upside, and are closely watching corporate earnings growth as a proxy for the direction of growth expectations. While the dovish stance taken by the Federal Reserve has calmed the waters for now, markets may have to force a more robust response from the authorities if growth slows. Many investors seem content to assume that the trajectory of growth won’t falter - but we are not so sure.
Important information: This information is for investment professionals only and should not be relied upon by private investors. The value of investments and the income from them can go down as well as up and clients may get back less than they invest. Past performance is not a reliable indicator of future returns. Investors should note that the views expressed may no longer be current and may have already been acted upon. These funds use financial derivative instruments for investment purposes, which may expose the funds to a higher degree of risk and can cause investments to experience larger than average price fluctuations. These funds invest in overseas markets and so the value of investments can be affected by changes in currency exchange rates. There is a risk that the issuers of bonds may not be able to repay the money they have borrowed or make interest payments. When interest rates rise, bonds may fall in value. Rising interest rates may. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. Issued by Financial Administration Services Limited, authorised and regulated by the Financial Conduct Authority. Fidelity, Fidelity International, the Fidelity International logo and F symbol are trademarks of FIL Limited.
GOLD AND US TREASURIES HOLDING UP AS RISK ASSETS RALLY 12
9
6
3
0
-3
-6
-9
-12 Nov 18
Dec 18
Jan 19
Feb 19
S&P 500 Bloomberg Barclays U.S. Treasure USD S&P GSCI Gold Total Return
Source: Refinitiv, February 2019
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For professional clients only
Navigate rate rises, seek a steadier yield
Prepare your clients’ portfolios with the AXA IM short duration range Rising interest rates could unsettle markets. But as pioneers in short duration strategies with over 15 years’ experience, we believe that reducing interest rate sensitivity can help to deliver steadier yield. Our 10 strategies cover global investment grade, high yield and inflation, across Europe, US, Asia and emerging markets.* Today’s markets may be unsteady; tomorrow’s yield needn’t be. Investment involves risks, including the loss of capital. Learn more about our short duration range at:
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*AXA IM, as at 31/12/2018 For Institutional/Qualified Investors and Wholesale/Professional Clients only, as defined by applicable laws and regulation. Not to be relied upon by retail clients. Before making an investment, investors should read the relevant Prospectus and the Key Investor Information Document / scheme documents, which provide full product details including investment charges and risks. The information contained herein is not a substitute for those documents or for independent advice. Issued in the UK by AXA Investment Managers UK Limited, which is authorised and regulated by the Financial Conduct Authority in the UK. Registered in England and Wales No: 01431068. Registered Office: 7 Newgate Street, London EC1A 7NX. In other jurisdictions, issued by AXA Investment Managers SA’s affiliates in those countries. © AXA Investment Managers 2019. All rights reserved.
EQUITY INCOME
RICH PICKINGS IN AN UNLOVED MARKET
With valuations at multi-year lows and the UK out of favour with global investors, what’s the right approach for a UK equity income manager? Chris Murphy, manager of the Aviva Investors UK Equity Income Fund, says there are some rich pickings amid the volatility.
Murphy is clear that the UK has been unloved: “There has been a flow of money away from the UK. Towards the end of last year, there were also concerns over US and world economic growth, which has moved people away from equities in general.” However, he points out, investing in equities is a longterm game and investors are buying the strategy of the company, rather than the UK economy: “Every sector in the UK is on a discount and some significantly so. Not because they are bad companies, but because people have walked away from the UK.” He believes this creates real opportunities, saying he is more excited now by the options available to him than for many years: “I’m not a fan of straight line growth. Companies and investors can become lazy. Our instinct is to sell into that greed.” Today, he argues, there is more to look at. On almost all measures, Murphy says, valuations look good – from price to earnings, or dividend yields to price-to-book ratios, he has rarely seen UK equities cheaper. However, in his view, it is not enough to say that opportunities exist simply because UK equities are cheap. There are areas that are cheap that don’t cross his radar. However, he believes the fundamentals for many UK companies look good as well. This includes some domestic-focused companies. While there is plenty of choice among internationalfocused stocks, domestic companies have been hard hit. However, Murphy is clear there are plenty with good underlying structural stories: “Companies such as Ibstock, which has high free cash flow and a robust business. There is still a shortage of bricks.”
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He has also added to Tesco, where the Booker deal has helped drive margins. He is even investing in some high street names, continuing to support companies such as DFS. Similarly, companies such as Land Securities have been hit because they hold some high street retail assets, but these tend to be in high-quality shopping centres, where demand is holding up. Elsewhere, he believes it is important to be holding the winners in sectors that are consolidating. This includes companies such as Ashstead, which is focused on plant hire and construction. He bought it when the share price had seen a 20-30% fall and it has subsequently bounced back strongly: “There are opportunities everywhere.”
“Corporates want to see certainty, but they may grow more comfortable with uncertainty after a while.” But even among these holdings, can anything make progress while Brexit uncertainty looms? “If not, we believe there’ll be more M&A” he says. “Corporates want to see certainty, but they may grow more comfortable with uncertainty after a while.” At this point, they may choose to pick up a bargain.
The characteristics he likes in a company remain unchanged. He is seeking out long-term consistent businesses with high barriers to entry: “These won’t be super-high growth, but they have high cash flow and some measure of persistency. We like to buy businesses at fair value, but if a company has high growth, it might be on a higher rating and we accept that. This might be a company such as BBA Aviation, which has an impressive footprint in the aviation market across the globe. Similarly, with companies such as Unilever, people will always be washing and eating.” Murphy doesn’t target an absolute dividend yield and likes to see dividend growth. However, he does not adopt a barbell approach, with dividends focused on specific areas. The fund is predominantly focused on the FTSE 350, while the small cap exposure ebbs and flows. It’s currently 5% but has never been more than 10%. He believes his investors want a portfolio that fulfils the role of income and capital growth. The current strategy is for the fund to have approximately 50 holdings so it is reasonably concentrated. He likes to focus on a smaller group of companies in which he can build real conviction. He is also wary of cuts in dividends. Early in his career, he saw the dangers of overdistributing and still has that experience at the back of his mind. As such, he likes to keep a comfortable margin of safety. The fund is now in the Hargreaves Lansdown Wealth 50. He urges UK investors to sit tight: “Everyone else is ignoring the UK market, but over the next five to ten years, I’m confident we will grow the capital and dividend, even if there is a lot of uncertainty at present.”
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For today’s investor
For professional clients and advisers only. Issued by Aviva Investors Global Services Limited. Registered in England No. 1151805. Registered Office: St Helen’s, 1 Undershaft, London EC3P 3DQ. Authorised and regulated by the Financial Conduct Authority. Firm Reference No. 119178.
RA19/0028/09012020
RESPONSIBLE INVESTING
Will Oulton First State Investments
MILLENNIALS: TOMORROW’S INVESTORS Will Oulton, Global Head of Responsible Investment, First State Investments asks whether the investment ecosystem IS ready to meet the needs of the next generation of investors? Much has been made of the demographic changes underway in each generation but none more so than that of millennials who may be far from being old enough to retire but have reached working age. They not only have a major influence on consumption trends, particularly in the digital arena, but also disposable incomes that will grow with age and look set to have their own demands and characteristics in terms of financial services. This applies equally to individuals’ savings and pension funding, which though maybe a distant concern for most millennials, are an important financial consideration of our current time. Last summer, First State Investments and Kepler Cheuvreux undertook a joint research project of millennials and nonmillennials to test the views and preferences of millennials regarding their understanding and attitudes towards sustainable and responsible investment (RI) that yielded interesting and thought-provoking results: 1. Over 80% of millennials in our survey that don’t already invest in RI are either ‘interested’ or ‘very interested’. 2. The majority (79%) of millennial respondents thought friends/ colleagues of their age are more easily convinced than previous generations of the importance/reach/interest of responsible investments. There is significant potential for this drive for responsible purchasing to be applied to financial services. 3. The majority of both millennial and non-millennial respondents (81%) want more education on the topic of RI. This presents an opportunity for those in the industry to make responsible investments as a whole more accessible and easily understood by a wider consumer market. 4. Well-established specialisms in RI are a major factor in encouraging investment in a particular provider. The majority (78%) of respondents say that expertise in RI would be a reason for choosing an asset manager/financial services provider over another. 5. Environmental concerns still reign with over a third choosing this as the most important broad thematic in ESG (environmental, social and governance). 6. In our survey, a slight majority of respondents thought the application of ESG investment methodologies would boost
long-term returns. This applied almost equally for millennials as it did for all respondents, including all age groups at 57% and 56% respectively. 7. We asked how many controversial company incidents over a 12-month period would cause an investor to change an investment fund. The majority (58%) replied that it would only take between two to five controversies to sway their choice. RI products may have a greater potential vulnerability around perceived corporate controversies than is currently realised. 8. Almost half believed going digital could be a driver in increasing uptake of RI products. This could be via easier access to investment platforms or a higher level of information on the RI characteristics of a specific product. Read the full report and our analysis of the RI views of the next generation here: go.firststateinvestments.com/millennial-research This document is not a financial promotion and has been prepared for general information purposes only and the views expressed are those of the writer and may change over time. Unless otherwise stated, the source of information contained in this document is First State Investments and is believed to be reliable and accurate. References to “we” or “us” are references to First State Investments. First State Investments recommends that investors seek independent financial and professional advice prior to making investment decisions. In the United Kingdom, this document is issued by First State Investments (UK) Limited which is authorised and regulated in the UK by the Financial Conduct Authority (registration number 143359). Registered office: Finsbury Circus House, 15 Finsbury Circus, London, EC2M 7EB, number 2294743. Outside the UK within the EEA, this document is issued by First State Investments International Limited which is authorised and regulated in the UK by the Financial Conduct Authority (registration number 122512). Registered office 23 St. Andrew Square, Edinburgh, EH2 1BB number SC079063. he Financial Conduct Authority (registration number 143359). Registered office: Finsbury Circus House, 15 Finsbury Circus, London, EC2M 7EB, number 2294743. Outside the UK within the EEA, this document is issued by First State Investments International Limited which is authorised and regulated in the UK by the Financial Conduct Authority (registration number 122512). Registered office 23 St. Andrew Square, Edinburgh, EH2 1BB number SC079063.
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EMERGING MARKETS
RISE AND SHINE
The Invesco Asian and Emerging Market equities team asks whether the emerging market rally can persist even in the face of waning global growth.
Emerging equity markets have started the year strongly with all regions generating positive returns. The move has been supported by favourable fundamentals but some clouds in the form of lower global growth expectations have started to appear on the horizon. This raises the question as to whether the equity rally can continue when major economies are losing momentum. To answer this we need to assess what drives performance. VALUATIONS A good starting point is valuations. These have edged upwards in recent weeks, leaving emerging markets (EM) trading at 11.4 times 12-month forward P/E, slightly above the historical average of 11.0 times and close to the average of the second-best historical quartile valuation. On a price to book value (P/BV) basis – a preferred mediumterm metric – EM equities are trading at 1.6 times, a 15% discount to their historic average of 1.9 times. The attractiveness of P/BV improves on a relative basis with EM equites trading at a 30% discount to developed markets (DM) against a historic average discount of 14%.
The case for a further rally in EM equities could also be strengthened by an improvement in earnings growth. Aided by higher commodity prices and stronger local currencies, Figure 2 shows an uptick in EM earnings revisions, perhaps suggesting we are closer to a trough. Positive momentum on the economic surprise index – this shows the degree to which economic analysts under- or over-estimate the trends in the business cycle – may have helped too. Looking ahead, consensus EPS growth for 2020 is projected to be in the low double-digits, a considerable uplift to 2019 estimates.
FIGURE 2: EM EARNINGS REVISIONS 2.5
3.5
0.5
14
3.0
0.0
12
2.5
10
2.0
8
1.5
6
1.0 06
P/E (LHS)
08
10 Average
12
2.0
1.5
16
04
2.5
2.0
1.5
1.0
FIGURE 1: EM VALUATIONS
14
P/BV (RHS)
16
18 Average
Source: Thomson Reuters Datastream 1 March 2019
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EARNINGS GROWTH
1.0 0.5 04
06
08
10
12
14
3 Months Earnings Revision Ratio
16
18 Average
Source: Thomson Reuters Datastream 1 March 2019 FED SHIFT We believe that emerging economies, particularly those with current account deficits, are likely to draw comfort from January’s FOMC (Federal Open Market Committee) meeting which signalled a dramatic shift in the Fed’s (Federal Reserve) thinking.
0.0
CHINA
“While valuations, earnings growth potential and a tired-looking dollar are providing tailwinds for EM, a larger-than-expected macro slowdown in China could make the journey more challenging.” Their dovish outlook basically puts a hold on previously expected US interest rate hikes for this year – the futures market is currently pricing in a very slim chance of an increase towards the end of 2019 – and reduces the pressure on EM to tighten domestic policy over coming months. This should be supportive for EM growth and make it a more attractive destination for capital. US DOLLAR In recent weeks the US dollar has failed to gain new ground against a basket of currencies. Historically, a weaker US dollar has predominately been associated with stronger EM equities. Analysis by JP Morgan (February 2019) shows that the MSCI Emerging Markets Index has gained 22% on average during periods when the broad dollar index has weakened by at least 5% over the past 20 years. The median period of dollar weakness in those periods was 96 days. In terms of performance EM equities came top, ahead of Europe and Japan. The best performing EM countries were mostly twin deficit economies, for example, Turkey, Indonesia and Brazil, although China has been the notable outperformer so far this year.
While valuations, earnings growth potential and a tiredlooking dollar are providing tailwinds for EM, a largerthan-expected macro slowdown in China could make the journey more challenging. Although there are some signs that China’s economic growth is bottoming out – trade and credit data have been encouraging – we expect to see a gradual deceleration in GDP growth this year. However, with trade negotiations between the US and China showing some promise and recent VAT cuts likely to boost consumption, and by extension corporate earnings, the sun has not gone out in China. INVESTMENT RISKS: The value of investments and any income will fluctuate (this may partly be the result of exchange rate fluctuations) and investors may not get back the full amount invested. Important information: This document is for professional clients only and is not for consumer use. Where individuals or the business have expressed opinions, they are based on current market conditions, may differ from those of other investment professionals and are subject to change without notice. Issued by Invesco Asset Managers Limited Perpetual Park, Perpetual Park Drive, Henley-on-Thames, Oxfordshire RG9 1HH, UK. Authorised and regulated by the Financial Conduct Authority
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INCOME INVESTING
INCOME: THE ENGINE THAT DRIVES RETURNS Total returns consist of yield (the dividends or coupons of equities and bonds) and capital appreciation (the change in the price of those assets). Over the long term and across asset classes, income has proven to be the most important, and dependable, component of total returns, says Investec’s John Stopford.
Since the global financial crisis, unconventional monetary policy has pushed yields inexorably lower. This means that investors seeking a better rate of return must now either aggressively pursue capital appreciation (an approach which has had limited success over the last 20 years) or evolve their investment process. Our process starts with, and is focused on, security selection. We look for securities with resilient yields and the potential for capital stability or appreciation. The yield of these individual securities provides the driving force behind our returns. We then ensure diversification of the portfolio by owning a mix of securities based on their behaviours. We believe traditional diversification ideas which rely on whether an asset is a bond or an equity can prove naïve. Finally, we hedge the portfolio when the risk environment appears to be dangerous. Just as an engineer cares about the nuts and bolts, we care about bottom-up security selection.
manage to a risk profile, we believe a bottom-up approach to security selection is better than the traditional wisdom of focusing on asset allocation decisions (for example equities versus fixed income or developed versus emerging regions). These questions are not focal to running this Fund as we believe that our investors are best placed to perform asset allocation for their clients. Instead, we spend our time on selecting securities with attributes aligned to the Fund’s objectives. We then think about each security’s behaviour, to avoid biases. Finally, we hedge the portfolio when we believe there is a heightened risk of capital loss. INCOME AS AN ENGINE We see income as a more dependable source of return generation than capital appreciation. The blue areas of the bars in Figure 1 show that over the long-term income has been the most important component of total return. This is true across asset classes.
SECURITY SELECTION, NOT ASSET ALLOCATION
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FIGURE 1: CONTRIBUTION OF INCOME AND CAPITAL APPRECIATION TO RETURNS
120
Percentage % Percentage %
We believe a process of selecting resilient incomegenerating securities to act as an engine for performance can, in combination with appropriate risk-management, produce defensive returns. These attributes are useful not just in the current late-cycle turbulence but in any environment. The Investec Diversified Income Fund seeks to produce a defensive return with less than half the volatility of the equity market. It seeks to use assets with an above-average yield to drive performance. Given this is outcome orientated, rather than benchmark-relative mindset, our process is tailored to these objectives. This contrasts with a ‘typical’ multi-asset fund which might rely on asset allocation and top-down decision making to generate performance. If attempting to beat an index or
100 120 80 100 60 80 40 60 20 40 0 20 -20 0 -20
MSCI AC FTSE 100 ICE BofAML ICE BofAML ICE Global ICE Global ICE BofAML World (USD) UK Gilt Index Global High Yield Investment Global Government Bond Index ICE Grade BondICEEmerging MSCI AC FTSE 100 ICE BofAML ICE BofAML ICE Global Global BofAML Index (Local) Global Mkt. Bond World (USD) UK Gilt Index Index Global(Local) High(Local) Yield Investment Index (Local) Government Bond Index Grade Bond Emerging Index (Local) (Local) Index (Local) Mkt. Bond Income as a proportion of returns Capital appreciation as a proportion of Index returns(Local) Income as a proportion of returns
Capital appreciation as a proportion of returns
Source: Bloomberg, in USD, 30.11.18, Period shown is since 31.12.98.
YIELD IS HARDER TO FIND
CONCLUSION
Given the pervasive decline in yields following the 2008 financial crisis, investors must now increasingly rely on aggressive capital appreciation for gains (which given historical precedent could be a misplaced hope) or accept a lower rate of return. We aim to solve this problem by building the Fund from the bottom up (rather than relying on passive exposure or other managers), which provides a greater number of opportunities, control of risks and precision.
In short, there are many ways to drive returns. We believe a process that starts with, and is focused on, resilient income-generating security selection is the best way to generate defensive returns. This is important not just for the current climate, where yield is harder to find and aggressive capital appreciation tactics aren’t likely to work, but during any time when investors are looking for a more reliable source of capital. This is why we see income like a dependable engine, able to drive returns through the ups and downs of the investment cycle.
RESILIENT YIELDS, NOT JUST HIGH ONES We pick every position based on its potential for total return. Looking simply for the highest level of yield is not enough, because often a high yield is a risk indicator. An inflated yield could either suggest investors want their money back as quickly as possible, or the yield is unsustainable and likely to be cut. Looking at individual securities, we find that higherdividend stocks produce better returns than lower ones, but the pattern isn’t uniform. Given our desire to balance returns, volatility, and drawdown, the best mix sits with yields which are higher than average, but not the highest.
“Looking at individual securities, we find that higher-dividend stocks produce better returns than lower ones, but the pattern isn’t uniform.”
A CONCISE, DIFFERENTIATED PORTFOLIO The result is a differentiated set of positions if we compare the characteristics of the securities we own to those of the market. We believe this is helpful for our investors as it means they avoid repeating the same investments they might hold elsewhere. These characteristics are aligned with the portfolio’s investment objectives. Additionally, the portfolio holds relatively few securities than might be held in our investors’ portfolios. On average, we own only 250 stocks and bonds, while a portfolio of 60% global equities, 20% corporate bonds and 20% government bonds might contain more than 10,000 securities on a ‘look-through’ basis. This is important for the risk management of the Fund discussed next.
John Stopford, Head of Multi-Asset Income and Portfolio Manager of the Investec Diversified Income Fund For more information please visit: www.investecassetmanagement.com/DIF The portfolio may invest more than 35% of its assets in government securities issued or guaranteed by a permitted single state. The value of investments, and any income generated from them, can fall as well as rise. This communication is for institutional investors and financial advisors only. It is not to be distributed to the public or within a country where such distribution would be contrary to applicable law or regulations. Nothing herein should be construed as an offer to enter into any contract, investment advice, a recommendation of any kind, a solicitation of clients, or an offer to invest in any particular fund, product, investment vehicle or derivative. The information may discuss general market activity or industry trends and is not intended to be relied upon as a forecast, research or investment advice. The economic and market views presented herein reflect Investec Asset Management’s judgment as at the date shown and are subject to change without notice. There is no guarantee that views and opinions expressed will be correct, and Investec’s intentions to buy or sell particular securities in the future may change. The investment views, analysis and market opinions expressed may not reflect those of Investec as a whole, and different views may be expressed based on different investment objectives. English language copies of the Fund’s Prospectus and Key Investor Information Documents are available from Investec Asset Management on request. Issued April 2019.
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ACTIVE INVESTMENT
DELIBERATELY ACTIVE
Q&A with Dean Cheeseman, fund manager on Janus Henderson’s UK-based Multi-Asset team.
THE CORE INCOME RANGE HAD A STRONG Q4 LAST YEAR AFTER A SLUGGISH H1 – WHAT DROVE BETTER PERFORMANCE? Q4 2018 saw markets sell off sharply as fears around the US/China trade dispute, softening economic data and ongoing political tensions took centre stage. The Core Income range demonstrated its defensive characteristics and offered investors much-needed downside protection, dampening the volatility and drawdowns of wider markets, with the cautious and active outlook established at the start of 2018 playing out overall. Through 2018, the Core Income range delivered very competitive total returns, against both broader equity markets and its multi-asset active peer group. Our focus on well-run businesses with stable income streams saw our funds lag in the first half of the year as investors focused on richly-priced growth stocks but the more markets rallied and the more unfashionable high-quality incomepaying stocks became, the greater our confidence that a more volatile market dynamic was closer. Favouring active managers within Investment Grade and High Yield Bonds hurt performance as spreads tightened to historically expensive levels in the first half. These managers more than made back their modest upside capture by protecting capital in the sharp sell-off bonds experienced in November and December. There are more volatility-generated opportunities for the active manager to add risk in dips but also to protect capital by selling into rallies. Therefore, we retain our deliberate stance to be active. We have already seen excellent performance from US equities and US High Yield this year and expect better investment returns despite a still challenging environment – suiting multi-asset portfolios’ flexibility to shift nimbly between asset classes. SHOULD CAUTIOUS CLIENTS STAY IN CASH? As market volatility increases, investor sentiment understandably dwindles. The issue for asset managers is
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balancing increasing risks with maintaining a longer-term perspective around those risk assets likely to outperform. The Core Income range is ‘risk targeted’, in that the funds stay within predefined risk boundaries as determined by an independent risk profiler on a day-to-day basis as opposed to ‘risk rated’ – where funds’ overall risk is estimated at a single point in time. The funds can use cash as a strategic asset for downside capital protection but not to the point of falling foul of their lower volatility band. DIVERSIFICATION IS MEANT TO PRODUCE LESS VOLATILITY OVER TIME BUT ALL MULTIASSET FUNDS HAD A BAD 2018 – CAN YOU EXPLAIN THIS? Harry Markowitz is attributed with the phrase, “the only free lunch in finance is diversification” but we fear that rationale has temporarily faded. Within multi-asset portfolios, the two largest asset classes are equities and bonds but post a decade of QE, both are trading very expensively relative to history. Today’s equities are ninth decile in terms of expense relative to history, while bonds stand at eighth decile, whereas, when equities were richly valued – e.g. during the 1999/2000 tech bubble – bonds remained fair value. So when equities rolled over, multi-asset portfolios were protected on the downside by bonds. With both equities and bonds trading relatively expensively, diversification becomes increasingly important. The Core Income range makes use of a variety of diversifying asset classes, seeking low correlations to ‘traditional’ assets with different return drivers and alternative sources of income to mitigate this structural diversification issue.
“Within multi-asset portfolios, the two largest asset classes are equities and bonds but post a decade of QE, both are trading very expensively relative to history.”
THE CORE INCOME RANGE CONCENTRATES ON RISK FACTORS OVER PERFORMANCE; WHAT PROTECTION IS PROVIDED AGAINST VOLATILITY? While buy-and-hold investing worked when markets were trending strongly higher, a more turbulent market regime demands greater emphasis on volatility management and dynamic asset allocation; Actively-managed multi-asset funds can offer breadth of opportunity set, flexibility and a foundation of diversification. The Core Income range’s focus on generating an attractive level of natural income often leads to a structural bias to higher-quality companies. However, higher-quality companies have been proven to outperform over the longer term but will typically lag in strong, momentum-fuelled market rallies. Much of their outperformance can be seen in negative market periods when their higher-quality characteristics are rewarded. Q4 2018 was a great example of this protection in action, a period when the Core Income range outperformed its active peers as volatility rose. WHY IS VALUE IMPORTANT WHEN BLENDING MULTI-ASSET PRODUCTS? The Core Income range also focuses on value, i.e. identifying companies that are ‘cheaper’ than the overall market. Value investing has proven to outperform over the longer term and our focus tends to be on dividend yield rather than cyclically-sensitive book-to-price measures. The benefit for financial intermediaries is that the Core Income range blends well with passive multi-asset solutions, which typically have a structural growth bias, to offer diversification by investment approach, as well as by investment instrument.
These are the views of the author at the time of publication and may differ from the views of other individuals/teams at Janus Henderson Investors. Any securities, funds, sectors and indices mentioned within this article do not constitute or form part of any offer or solicitation to buy or sell them. The value of an investment and the income from it can fall as well as rise and you may not get back the amount originally invested. The information in this article does not qualify as an investment recommendation. Tax assumptions and reliefs depend upon an investor’s particular circumstances and may change if those circumstances or the law change. If you invest through a third party provider you are advised to consult them directly as charges, performance and terms and conditions may differ materially. Any investment application will be made solely on the basis of the information contained in the Prospectus (including all relevant covering documents), which will contain investment restrictions. This document is intended as a summary only and potential investors must read the prospectus, and where relevant, the key investor information document before investing. We may record telephone calls for our mutual protection, to improve customer service and for regulatory record keeping purposes. Issued by Janus Henderson Investors. Janus Henderson Investors is the name under which investment products and services are provided by Henderson Investment Funds Limited (reg. no. 2678531) (registered in England and Wales at 201 Bishopsgate, London EC2M 3AE and regulated by the Financial Conduct Authority) Janus Henderson is a trademark of Janus Henderson Group plc or one of its subsidiaries. © Janus Henderson Group plc.
Website: janushenderson.com/core
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BEAT VOLATILITY
Janus Henderson Multi-Asset Core Income Risk-targeted Lower cost Regular income Diversified When market volatility hits, diversification is key. Our Multi-Asset Core Income Fund range is actively managed with the aim of providing regular and attractive returns, at lower cost. Designed to remain within preset volatility parameters, the funds offer exposure to a variety of asset classes, regions, sectors and styles. A sound investment mix. Janus Henderson fund
% Yield†
Janus Henderson Core 3 Income Fund
3.7
Janus Henderson Core 4 Income Fund
4.4
Janus Henderson Core 5 Income Fund
4.6
Janus Henderson Core 6 Income & Growth Fund
4.0
Historical 12 month yields as at 31 December 2018. Based on ‘I Inc’ share class. Source: Janus Henderson Investors.
†
janushenderson.com/core
For promotional purposes. For professional advisers only. Investments can fall as well as rise. Past performance is not a guide to future performance. Nothing in this advert should be construed as advice. This is not a recommendation to sell or purchase any investment. Please read all scheme documents before investing. Yield may vary and is not guaranteed. Ratings as at 31 December 2018. The Janus Henderson Multi-Asset Core Income funds should be bought in conjunction with an attitude to risk tool as part of the financial advice process. These funds are, therefore, designed to be bought by advised clients only. Issued by Janus Henderson Investors. Janus Henderson Investors is the name under which investment products and services are provided by Henderson Investment Funds Limited (reg. no. 2678531) (each registered in England and Wales at 201 Bishopsgate, London EC2M 3AE and regulated by the Financial Conduct Authority). Janus Henderson and Knowledge. Shared are trademarks of Janus Henderson Group plc or one of its subsidiaries. © Janus Henderson Group plc.
DIVIDEND GROWTH
LOOKING ACROSS THE POND FOR DIVIDEND GROWTH The M&G North American Dividend Fund was launched in April 2015. It looks for companies in the US market that can grow their dividend consistently over time, and takes a high-conviction, fundamentalsdriven approach. Manager John Weavers discusses the strategy.
WHAT DOES THE FUND SET OUT TO DO? This fund is a dividend fund, but focused on dividend growth. For those investing in the USA over the last 3040 years, a dividend growth strategy has been a tailwind to outperform the US market. We aim to invest in businesses that could be meaningfully bigger on a 5-10 year view and will pay a larger dividend per share as a result. We know there is a strong connection between dividends per share and share prices – if dividend per share keeps going up, it pushes up the share price. We have found an empirical correlation between companies that do this successfully and meaningful outperformance of the wider stock market. We track a group of ‘dividend achievers’. These are around 120 businesses, with a 25-year or longer track record of increasing dividends each year. Performance of these stocks has been meaningfully higher than the S&P 500 over time – to the tune of 400-500bps per year. We believe that for our investors this creates opportunities to generate substantial additional wealth over time. For example, over the last 25 years, the return of these “dividend achievers” was over three times that of the S&P 500.
DO COMPANIES IN THE PORTFOLIO HAVE TO HAVE A LONG TRACK RECORD OF DIVIDEND INCREASES? The strategy is forward looking, so a company doesn’t have to have a long track record of dividends to be considered for investment. All our holdings need to pay a dividend today, but more importantly need to have the ability to grow the dividend rapidly over a number of years, funded out of growth in the underlying business. This means we focus on companies that will be larger in the future. We also want to see a commitment from management on the dividend and to ensure they recognise that dividends are a critical component of returning cash to shareholders.
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DOES THIS LEAD YOU TO ANY SPECIFIC SECTORS? No. We’re not buying high yield stocks. We are trying to invest in those stocks that will pay big dividends in future, and these are to be found across market capitalisation and industrial sectors. This is certainly not a fund of utilities, telcos or other stodgy, low-growth areas. There is plenty of technology, for example, and we find no real bias in terms of where we draw our ideas. We’re bottomup stock pickers with a portfolio of 40-50 stocks and we follow our best ideas.
“The fourth quarter of last year saw a sharp pullback in the equity market. It was an opportunity to get involved in some of the highergrowth names that had been trading on extreme valuations.”
WHAT IS YOUR VALUATION DISCIPLINE ON THE FUND? In general, we are looking to invest for long periods of time so don’t pay close attention to the ebb and flow of market valuations. The US market does tend to trade at a premium because the companies tend to be higher quality – return on capital and growth have historically been stronger than in the rest of the world, for example. We have a robust, three-stage investment process that is designed to isolate those companies we believe can pay us a rising dividend per share for many years to come. Our focus is on finding the right companies first, and then being patient to buy them at the right price. Valuation then, is the last component we consider when investing, but it is still a crucial part of the investment process.
In terms of the valuation metrics we focus on, free cash flow is very important. We always want to see robust cash flow and growth in that cash flow, because this is what will drive our dividend growth over time.
HAVE YOU FOUND OPPORTUNITIES AMID THE RECENT ROUT? The fourth quarter of last year saw a sharp pullback in the equity market. It was an opportunity to get involved in some of the higher-growth names that had been trading on extreme valuations. We added to our positions in two companies in the energy infrastructure area, for example. These are companies that own the underlying assets that move oil and gas around. The US is growing shale production of oil and gas, but its infrastructure is at maximum capacity. As such, we see visible long-term growth for these companies, which have zero exposure to the underlying oil price. The cash flows aren’t correlated, yet the share prices have moved with the oil price, which means we can buy into the businesses at very attractive dividend yields – 5-6% - that are also growing at attractive rates. We have also been adding to our healthcare names. The demographics of the USA, with an ageing population and lengthening life expectancy, mean that there is a longterm need for greater healthcare spending. In the short
term, a valuation opportunity has arisen because of recent actions by Democrats in the House of Representatives, who have introduced a so-called Medicare for All Bill. Under this, which proposes government funding of all healthcare payments, the role and scope of healthcare insurers would be extremely uncertain. There is limited chance of it passing – it doesn’t have much cross-party support and would be prohibitively expensive. As such, we think several companies in the space are trading on extremely attractive valuations for long-term investors.
WHAT DO YOU SEE AS THE KEY RISKS TODAY? Our biggest worry at the moment is corporate debt. Around half of US debt reprices on a 2-5 year cycle. With the current interest rates cycle having started 2-3 years ago, even if interest rates don’t rise from here, that debt needs to be refinanced at a higher level. That potentially takes away from corporate profits and gives less cash flow to grow dividends. As such we’re wary of companies that have significant refinancing needs and pay close attention to net debt to EBITDA. It is not the only thing we’re worried about, but it’s a rising headwind and could become more prominent over the medium term, especially if growth slows in the wider economy.
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BEHAVIOURAL INVESTMENT
BEHAVIOURAL FINANCE: WHY SOME BATTERED BEANS MIGHT HOLD THE ANSWER James Glover, Director, Research and Consulting Operations at Square Mile, explains why no-one wants to buy cheap assets.
I was reading an article the other day by Warren Buffett, one of the greatest investors of our generation. He said “most people get interested in stocks when everyone else is. The time to get interested is when no one else is. You can’t buy what is popular and do well”. This so called investment ‘guru’ got me thinking. Why is the stock market so different from every other market? If you went into a supermarket and a tin of baked beans was half the price it was a month earlier, you are far more likely to buy it now than a month ago. This would apply even if the reason it was half-price was that it had a dent in it and it looked a bit battered. After all, the beans would still taste the same! The reverse happens in the stock market. If a stock’s price falls 50% because it’s taken a bit of a battering like our proverbial tin of beans, you immediately think that something is wrong with it and there is less chance of you buying it than when it was twice the price a month ago. Fundamentally, like our tin of beans, it’s still the same stock. This brings me to Behavioural Finance. Over the last few years, an increasing number of market commentators have talked of this as a new way to invest but what does Behavioural Finance really mean? Since the late 1970s a number of academics have put forward theories that have developed the idea that stock prices can be overly influenced by human behaviour as opposed to fundamentals. This has led to the development of the theory of behavioural economics, or behavioural finance. Ever since the Dutch Tulip bubble in 1630 there have been numerous stock market bubbles and crashes, the most recent of which we can all too well remember when the Global Financial Crisis happened in 2008/9. These bubbles and subsequent crashes led the academics to observe that, despite the advances in technology and availability of information, investors continue to make the same, or similar, mistakes. Rather than being cold, rational decision makers, investors are often driven by human behaviours and emotions.
The human brain has evolved over thousands of years to cope with the changing environment but there are moments when it is frightened or overstimulated when the prehistoric part of the brain takes over and the rational logic required to make investment decisions is overridden. Quite often you are unaware that it has happened, but the brain subconsciously ignores what it perceives to be unnecessary inputs and relies on a handful of inputs it recognises or feels comfortable with. This can lead to investors having overconfidence in their decision-making process, anchoring on preconceptions rather than evaluating the full picture before making a decision or indeed just following the herd through fear of missing out. This is probably why the stock prices tend to go up the escalator but down the lift!
“If you went into a supermarket and a tin of baked beans was half the price it was a month earlier, you are far more likely to buy it now than a month ago.” The smart investor knows that this leads to opportunities for those who are able to override their emotions and avoid being sucked in by hype from other market participants by focusing on the fundamentals of the companies they are looking to invest in. It is also important to be able to reevaluate those fundamentals as the news flow surrounding them changes and not let historic and possible irrelevant information cloud the decision making process. Put far more simply, don’t be frightened of buying the battered tin of beans just because others are avoiding it. Fundamentally they are still the same beans and will taste just as good! For more information on Square Mile please visit: squaremileresearch.com
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Changing Infrastructure As cities grow, so do their requirements.
BNY Mellon Global Infrastructure Income Fund Accessing investment in both traditional and non-traditional infrastructure, unlocks unique and inspiring opportunities. Covering the re-urbanisation of baby boomers, the increasing need for 5G and staples like water, our fund revolutionises infrastructure investing; taking advantage of how cities have a more diverse set of requirements than ever before. Infrastructure is just one of the ‘Agents of Change’ BNY Mellon has identified as redefining markets for the future.
To find out more visit: bnymellonim.com/aoc-uk
Managed by:
The value of investments can fall. Investors may not get back the amount invested.
Mellon was formed on 31 January 2018, through the merger of The Boston Company and Standish into Mellon Capital. Effective 2 January 2019, the combined firm was renamed Mellon Investments Corporation. For Professional Clients only. For a full list of risks applicable to this fund, please refer to the Prospectus or other offering documents. Before subscribing, investors should read the most recent Prospectus and KIID for each fund in which they want to invest. Go to www.bnymellonim.co.uk. The Prospectus and KIID are available in English and in an official language of the jurisdictions in which the Fund is registered for public sale. This is a financial promotion and is not investment advice. Investments should not be regarded as short-term and should normally be held for at least five years. The Fund is a sub-fund of BNY Mellon Global Funds, plc, an open-ended investment company with variable capital (ICVC), with segregated liability between sub-funds. Incorporated with limited liability under the laws of Ireland and authorised by the Central Bank of Ireland as a UCITS Fund. The Management Company is BNY Mellon Fund Management (Luxembourg) S.A. (BNY MFML), regulated by the Commission de Surveillance du Secteur Financier (CSSF). Registered address: 2-4 Rue Eugène Ruppert L-2453 Luxembourg. BNY Mellon is the corporate brand of The Bank of New York Mellon Corporation and its subsidiaries. Mellon was formed on 31 January 2018, through the merger of The Boston Company and Standish into Mellon Capital. Effective 2 January 2019, the combined firm was renamed Mellon Investments Corporation. Issued in the UK by BNY Mellon Investment Management EMEA Limited, BNY Mellon Centre, 160 Queen Victoria Street, London EC4V 4LA. Registered in England No. 1118580. Authorised and regulated by the Financial Conduct Authority. AB00187, expires 31 October 2019. T7485 01/19.
INDIAN EQUITIES
Ewan Thompson Neptune Investment Management
INDIAN ELECTIONS: A THREAT TO REFORM?
India has been one of the strongest emerging markets in recent years. However, fears that the reform process may be derailed by upcoming elections has dented market performance. Ewan Thompson, Head of Emerging Market Equities at Neptune, reflects on the prospects for the Indian market. The Indian market has proved robust in recent years, rising above many of the problems seen in other emerging markets. A strong reform agenda under Prime Minister Narendra Modi, high, sustained economic growth, plus a buoyant corporate sector have all contributed to this resilience. However, more recently there have been fears that India’s progress may stall should Modi not win a definitive mandate in the upcoming general election in May. At the end of last year, the polls showed a close finish in the upcoming elections, potentially ushering forth a stagnant coalition where nothing would get done. This has been felt in the Indian market, which has not kept pace with the wider emerging market recovery. Thompson says that the mood has changed more recently: “The spat with Pakistan over Kashmir has bolstered support for Modi and his ‘strong man’ politics. This has seen the market recover. Last month alone, there were $6bn of inflows into India. This compares to $4.5bn of outflows over the whole of last year. The electoral maths is changing.” He believes this is encouraging. While it is tempting to see the general election as ‘noise’, it is important to India. While Modi has brought in plenty of reform, there is more to do, says Thompson: “As is often the case, people hoped more would get done in Modi’s first term. The key things have been the Goods and Sales tax, which has helped cross-border movement of goods and the demonetisation episode. Modi has also been pushing the idea of financial inclusion, through biometric security. However, looking forward, people want to see infrastructure investment and a revival in the capex cycle.” Modi’s reforms are being felt in the real economy, which continues to expand at around 7% per year. Thompson says: “They had a lot of bad loans in the previous cycle. It took a lot of time to work through them but the asset quality is improving. However, we are still waiting to see improvements in the governance structure, which is what Modi was known for in Gujarat.”
For Neptune, macroeconomic assessment is an important part of their process and sits alongside robust, bottom-up assessment of companies. Thompson believes that emerging markets are, by their nature, an asset class swayed by macroeconomic events. This is not simply a case of looking whether GDP is moving higher, but instead about avoiding the slip-ups. He gives the example of Turkey: “While countries such as Indonesia and Brazil built up asset reserves for a trickier environment, Turkey had no such defences. President Erdogan was posturing on geopolitics and the banks were under a lot of pressure. External capital flooded out. To the extent that these countries are reliant on foreign funding, which can snowball into a bigger
“The spat with Pakistan over Kashmir has bolstered support for Modi and his ‘strong man’ politics. This has seen the market recover. Last month alone, there were $6bn of inflows into India. This compares to $4.5bn of outflows over the whole of last year. The electoral maths is changing.” problem very quickly. When a country gets into difficulties, the currency may drop by 50-80%. There are a lot of banana skins. We look at it as ‘there are five great companies in Turkey; should we avoid them because of the macroeconomic situation?’. In some cases, we should.” In this way, macroeconomic assessment is a risk management tool for the group. However, for the most part, elections will not determine the fate of individual countries. The strength of China remains a more important consideration for the majority of Asian countries. However, for India, a strong mandate for Modi’s continued reform will be helpful.
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FIXED INCOME
ALPHA OPPORTUNITIES Generating Alpha in Today’s Fixed Income Markets: Uncertainty continues to create ideal conditions for BlackRock’s Ben Edwards.
Tighter financial conditions and an increasingly attractive, inflation-beating cash rate in the US put pressure on expensive valuations of all varieties in 2018. With slowing global growth, trade uncertainties and fractured politics all questions to be answered in 2019, the higher volatility environment of 2018 is likely to persist. Valuations in credit markets have moved to price in much of the risk. Both investment grade and high yield now offer premiums attractive in anything other than a recession or financial crisis. BlackRock’s Ben Edwards has been taking advantage of this in the BlackRock Corporate Bond Fund, where volatility gives rise to opportunity. BlackRock’s Corporate Bond Fund aims to deliver top quartile performance versus its peer group by targeting alpha opportunities primarily in sterling-denominated investment-grade corporate bonds. Generating returns above and beyond the generic market without exposing investors to additional risk is central to the strategy. The Corporate Bond Fund has
delivered 1st quartile performance over 1, 2, 3, 4 and 5 years to 31st December 2018, but sits in the bottom quartile of risk within its peer group. UNCONSTRAINED AND CONVICTION DRIVEN Central to Ben’s philosophy is a flexible, high-conviction strategy, with the ability to quickly rotate in and out of different positions to ensure the portfolio remains optimised. ‘CREDIT SWEET SPOT’ Ben believes that the most compelling opportunities lie within the BBB-rated space which we refer to as the ‘credit sweet spot’. Historically this segment of the market has produced an attractive trade-off between income and default risk.
BLACKROCK CORPORATE BOND FUND DISCRETE PERFORMANCE VERSUS IA £ CORPORATE BOND SECTOR 2018
2017
2016
2015
2012
2013
2014
BLACKROCK CORPORATE BOND FUND – D SHARE CLASS
-1.1%
6.2%
9.6%
1.5%
9.9%
1.6%
17.4%
IA STERLING CORPORATE BOND SECTOR MEDIAN
-2.2%
5.1%
9.1%
0.0%
10.6%
1.0%
13.9%
1
1
2
1
3
2
1
15/87
19/88
34/84
2/81
50/80
24/75
4/68
IA QUARTILE RANKING IA RANK
The figures shown relate to past performance. Past Performance is not a reliable indicator of current or future results and should not be the sole factor of consideration when selecting a product or strategy. MorningStar and FE TrustNet at end December 2018. All ratings and awards are as at end December 2018. Performance calculated on a bid to bid price basis, income reinvested, net of fees. Performance is for D share class accumulating in GBP. FE Risk Scores measure weekly volatility, relative to the FTSE100, over three years. Recent behaviour counting more heavily than earlier behaviour. As at 3 January 2019 the BFM Corporate Bond Fund scored 24/100 and ranked 61/88 funds, with the 88th fund having the lowest risk score. 38
BLACKROCK FOR FIXED INCOME BlackRock’s fundamental sterling fixed income team combines sterling credit expertise with global insights and draw on the views of 60+ dedicated credit research analysts, who are experts on corporate issuers across the UK, US, Europe and Asia.
The Fund may appeal to investors looking to: • Maximise returns by investing primarily in sterlingdenominated and investment-grade corporate bonds. • Achieve a reliable income stream and diversification benefits from riskier assets. • Improve the risk-adjusted returns potential of their fixed income portfolio.
Source: Morningstar, as at 31 December 2018. Capital at risk. The value of investments and the income from them can fall as well as rise and are not guaranteed. The investor may not get back the amount originally invested. Past performance is not a reliable indicator of current or future results and should not be the sole factor of consideration when selecting a product or strategy. Changes in the rates of exchange between currencies may cause the value of investments to diminish or increase. Fluctuation may be particularly marked in the case of a higher volatility fund and the value of an investment may fall suddenly and substantially. Levels and basis of taxation may change from time to time. Fund Risks: Changes to interest rates, credit risk and/or issuer defaults will have a significant impact on the performance of fixed income securities. Non-investment grade fixed income securities can be more sensitive to changes in these risks than higher rated fixed income securities. Potential or actual credit rating downgrades may increase the level of risk. Derivatives are highly sensitive to changes in the value of the asset on which they are based and can increase the size of losses and gains, resulting in greater fluctuations in the value of the Fund. The impact to the Fund can be greater where derivatives are used in an extensive or complex way. Counterparty Risk: The insolvency of any institutions providing services such as safekeeping of assets or acting as counterparty to derivatives or other instruments, may expose the Fund to financial loss. Credit Risk: The issuer of a financial asset held within the Fund may not pay income or repay capital to the Fund when due. If a financial institution is unable to meet its financial obligations, its financial assets may be subject to a write down in value or converted (i.e. “bail-in”) by relevant authorities to rescue the institution. Liquidity Risk: Lower liquidity means there are insufficient buyers or sellers to allow the Fund to sell or buy investments readily.
This material is for distribution to Professional Clients (as defined by the FCA Rules) and Qualified Investors only and should not be relied upon by any other persons. Issued by BlackRock Investment Management (UK) Limited, authorised and regulated by the Financial Conduct Authority. Registered office: 12 Throgmorton Avenue, London, EC2N 2DL. Tel: 020 7743 3000. Registered in England and Wales No. 2020394. For your protection telephone calls are usually recorded. BlackRock is a trading name of BlackRock Investment Management (UK) Limited. © 2019 Morningstar. All Rights Reserved. The information, data, analyses, and opinions contained herein (1) include the proprietary information of Morningstar, (2) may not be copied or redistributed, (3) do not constitute investment advice offered by Morningstar, (4) are provided solely for informational purposes and therefore are not an offer to buy or sell a security, and (5) are not warranted to be correct, complete, or accurate. Morningstar shall not be responsible for any trading decisions, damages, or other losses resulting from, or related to, this information, data, analyses, or opinions or their use. The Morningstar Analyst Rating is subjective in nature and reflects Morningstar’s current expectations of future events/behaviour as they relate to a particular fund. Because such events/behaviour may turn out to be different than expected, Morningstar does not guarantee that a fund will perform in line with its Morningstar Analyst Rating. Likewise, the Morningstar Analyst Rating should not be seen as any sort of guarantee or assessment of the creditworthiness of a fund or of its underlying securities and should not be used as the sole basis for making any investment decision. Any research in this document has been procured and may have been acted on by BlackRock for its own purpose. The results of such research are being made available only incidentally. The views expressed do not constitute investment or any other advice and are subject to change. They do not necessarily reflect the views of any company in the BlackRock Group or any part thereof and no assurances are made as to their accuracy. This document is for information purposes only and does not constitute an offer or invitation to anyone to invest in any BlackRock funds and has not been prepared in connection with any such offer. ©2019 BlackRock, Inc. All Rights reserved. BLACKROCK, BLACKROCK SOLUTIONS, iSHARES, BUILD ON BLACKROCK, SO WHAT DO I DO WITH MY MONEY are registered and unregistered trademarks of BlackRock, Inc. or its subsidiaries in the United States and elsewhere. All other trademarks are those of their respective owners. MKTGH0319E-767373-4/5
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FUND MANAGEMENT
TALKING WITH… BEST CHATS Square Mile have built up 50 of their ‘Talking With…’ interviews, which feature fund managers, chief executives and business figureheads talking candidly on careers, experiences and life outside the industry. Here is a small selection of their favourites:
RICHARD BUXTON, HEAD OF UK EQUITIES AT MERIAN GLOBAL INVESTORS What are the greatest challenges facing the industry and you? How long have we got? We must reach more people further down the income bracket, be more transparent, ensure that each part of the chain adds value for money, and work out if the right products can be built for those in retirement. We must also work out how to address the mismatch between measuring risk as short-term volatility with the interests of long-term savers.
EUAN MUNRO, CHIEF EXECUTIVE OFFICER AT AVIVA INVESTORS What is the key to job satisfaction? If people don’t feel they have the ability to change what they are doing or how they are doing it, then it can become degrading. People also want to feel that they are doing something worthwhile for society. I could have done better financially through working in a hedge fund running a smaller pot of money, but I truly believe that great investment solutions should not just be the preserve of the affluent. We all need to feel that we are doing something important when we come into work each day.
NIGEL THOMAS, FUND MANAGER AT AXA INVESTMENT MANAGERS After almost 40 years as a fund manager, what keeps you going? I enjoy going to the office, how the markets open, the shocks and scares. I am still learning. It is intellectually satisfying when one gets it right. For example, I bought Betfair at £9.50 following a controversial IPO at £15, the shares falling to £7 and a failed private equity bid at £9. Three years later it merged with Paddy Power at £42. It was not easy at the time but it proved right. I also love meeting people, looking at new businesses and how they are run. It’s like a five-dimensional game of chess.
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GARY POTTER, CO-HEAD, F&C MULTI MANAGER SOLUTIONS AT BMO GLOBAL ASSET MANAGEMENT What should the industry do to get the value-for-money message across? In this age of instant news we need to provide the facts so that a balanced view can be delivered. This includes how to evaluate cost as well as helping people get a better understanding of risk, so that they focus on return as well as risk. Client outcomes are in danger of being squeezed to the lowest common denominator, with over emphasis being placed on cost and risk and not enough on returns. The market feels so short term in everything it says and does, yet we are investing for the long term.
ADRIAN FROST, FUND MANAGER AT ARTEMIS FUND MANAGERS What makes a good fund manager? Bandwidth – the ability and the instinct to find stuff out and absorb lots of information, to know what’s relevant and to discard the stuff that isn’t. Common sense too – it is so underrated. We are all guilty of trying to be too clever. How many times have you said “I should have known that”? I remember meeting an executive of BP in Scotland whilst on holiday fishing, and within 10 minutes I had filleted him for information. It’s instinctive.
RICHARD WOOLNOUGH, FUND MANAGER AT M&G INVESTMENTS What are the key challenges for the industry going forward? One of the biggest challenges is getting people to realise that investment involves, and will always involve, risk as well as reward. In the past banks have taken on risk and given their customers a risk-free return. Those days are over and we can’t expect that to happen in the future. As an industry we need to provide an alternative to the banking system in a way which clients will understand, so that investors can invest their money to get the returns they desire. Investors will get there, but it’s going to be hard.
EDWARD BONHAM-CARTER, VICE CHAIRMAN AT JUPITER ASSET MANAGEMENT What can the industry do to regain trust? Lack of trust is a societal issue that is happening to a range of industries – just look at politicians and bankers. I think the reason is because of social media and technology – people now are far more sceptical about people’s so-called authority and expertise. You just have to be as transparent as possible. I read an interesting piece of research that said a good way to earn trust with people at an individual level is to admit when you are wrong. The industry is seen as a lot of highly paid arrogant people who have not owned up to mistakes. Deliver value for money and trust grows. So, the challenge for the industry – if we are in a low-growth world for the next 10 years – is how to create sufficient gross returns to justify fees to customers.
JONATHAN PLATT, HEAD OF FIXED INCOME AT ROYAL LONDON ASSET MANAGEMENT What are the biggest challenges facing our industry? Can AI replace fund managers? No. The human brain works in a certain way and will always work better than programmed data mining. You can’t teach a machine doubt, and decisions should never be black and white. What would a machine make of Brexit? There is a lot of information surrounding Brexit, but it’s not data and it’s very hard to analyse. However, I do believe that technology will depersonalise things over the next 15 years. Passive investments do not need human input, so may be more mechanisable. Fees are under pressure, which will change things. I would expect consolidation with scale winners and boutiques and not much in the middle.
PETER HARRISON, GROUP CHIEF EXECUTIVE AT SCHRODERS How will you appeal to the next generation of investors? We won a very interesting mandate the other day from an American pension fund that said, ‘I don’t just want you to deliver those returns, I want you to demonstrate impact’. That is representative of where the future is. This next group of savers says, ‘do something with my savings, which are above and beyond something that is just for me, but make it relevant to me’. So, how do we make that point of personalisation address their needs, their specific needs? To read more, see our ‘Talking With…Best Chats’, please visit: issuu.com/mipagency/docs/talkingwith_bestchats_ 18_digital
All job titles and companies are at time of writing and may have changed since.
41
ECONOMICS
INESCAPABLE INVESTMENT TRUTHS FOR THE DECADE AHEAD Our inescapable truths are the economic forces and disruptive forces likely to shape the investment landscape over the years to come. Schroders’ Charles Prideaux, Global Head of Product and Solutions and Keith Wade, Chief Economist & Strategist, give their views.
It seems clear to us that the world investors have got used to over the last few years is very different to the one we need to get accustomed to in the years to come. We have identified a number of economic forces and disruptive forces we think will shape the investment landscape ahead of us. They represent our “inescapable truths”. ECONOMIC FORCES We believe a confluence of factors will set the scene for a slowing global economy in the next decade: • • • • • •
Slower growth in the global labour force Poor productivity growth Ageing populations A growing role for China Low inflation Low interest rates
This backdrop is similar to the one we have seen since the global financial crisis, where equity and bond markets have performed well despite low growth and inflation. However, the big difference for the years to come is that there will no longer be the tailwind of ultra-loose monetary policy, where interest rates have been kept well below inflation. As interest rates normalise and quantitative easing (QE) unwinds, we think there will be a greater focus on the reliability of corporate earnings as market volatility increases. Just because GDP growth will be lower, it does not necessarily mean that companies’ profit growth will be lower. Returns from market indices will also be lower, we believe. Investing passively (tracking a market index) is not likely to reap the returns investors have grown to expect. The implication is simple: there will be greater need for active fund managers who can generate alpha – i.e. who can beat the market – in the period to come.
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DISRUPTIVE FORCES We think disruption will come from a number of angles in the years to come. MARKET DISRUPTION • Changing patterns of finance. Banks are likely to play a reduced role in financing economic activity and other forms of funding will grow in importance. We expect the corporate bond market to expand along with private equity and alternatives such as peer-to-peer lending and crowdfunding. • The end of QE. Other central banks are likely to follow the US’ lead in gradually reducing the assets on their balance sheets. These were assets bought via QE – a measure to ward off the fallout following the financial crisis. This unwinding will increase the supply of government bonds and corporate bonds to the private sector. It should be welcomed given the present shortage of these supposedly “safe” assets and with more retiring savers seeking investments that may offer greater financial security.
“Technology can bring greater efficiency in production, but can also increase displacement in the labour market as traditional jobs become obsolete.” TECHNOLOGICAL DISRUPTION • Changing business models. Technology creates unique challenges for investors through its tendency to disrupt existing businesses and create winners and losers. Clearly picking those who are on the right side of technological progress will continue to be key for investment performance. • Displacement of jobs. Technology can bring greater efficiency in production, but can also increase displacement in the labour market as traditional jobs
become obsolete. The increased use of robotics and AI (artificial intelligence) will affect a wider range of professions. This may worsen the problems of inequality and potentially bring even greater political disruption. ENVIRONMENTAL DISRUPTION • Rapid action is needed. Our views of the future are complicated by growing tensions between the real economy and the natural environment – and climate change in particular. The challenge has been centuries in the making, but remedial action will have to be far faster to avoid its worst impacts. • Unchecked environmental damage will have severe economic and social consequences. While inaction implies significant long-term risks, steps to avoid the worst effects of climate change will also prove necessarily disruptive.
POLITICAL DISRUPTION • Government finances will come under pressure. The economic outlook will undermine government finances, while ageing populations will increase pension spending and demand for healthcare. The ability of governments to meet voter expectations will become increasingly challenged and may feed further populist unrest. • Pressure on individuals will grow. Government challenges will mean people will have to take greater individual responsibility for funding their retirement and healthcare. • The rise of populism will increase political complexity. Policies to temper the impact of globalisation through restrictions on trade, immigration and capital flows are increasingly likely to emerge. In summary, after almost a decade of strong returns many investors have become complacent about the outlook. This assessment suggests that in a more challenging future environment, factors such as asset allocation, access to multiple sources of return, active stock selection and risk management will be critical in meeting the goals of investors over the next decade. As we enter the next phase of the post-global financial crisis era, these inescapable truths can help guide investors through a time of unprecedented disruption. View the full paper at: www.schroders.com/insights
Important Information: Past performance is not a guide to future performance and may not be repeated. The value of investments and the income from them may go down as well as up and investors may not get back the amounts originally invested. Exchange rate changes may cause the value of any overseas investments to rise or fall. All investments involve risks including the risk of possible loss of principal. The forecasts included should not be relied upon, are not guaranteed and are provided only as at the date of issue. Our forecasts are based on our own assumptions which may change. We accept no responsibility for any errors of fact or opinion and assume no obligation to provide you with any changes to our assumptions or forecasts. Forecasts and assumptions may be affected by external economic or other factors. The views and opinions contained herein are those of Schroders’ Economics team and may not necessarily represent views expressed or reflected in other Schroders communications, strategies or funds and may change. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. The material is not intended to provide and should not be relied on for accounting, legal or tax advice, or investment recommendations. Reliance should not be placed on the views and information in this document when taking individual investment and/or strategic decisions. Information herein is believed to be reliable but Schroders does not warrant its completeness or accuracy. Any data has been sourced by us and is provided without any warranties of any kind. It should be independently verified before further publication or use. Third party data is owned or licenced by the data provider and may not be reproduced, extracted or used for any other purpose without the data provider’s consent. Neither we, nor the data provider, will have any liability in connection with the third party data. Any references to securities, sectors, regions and/or countries are for illustrative purposes only. Issued by Schroder Investment Management Limited, 1 London Wall Place, London EC2Y 5AU. Registered No. 1893220 England. Authorised and regulated by the Financial Conduct Authority. 43
EMERGING MARKETS
A NEW DAWN FOR EMERGING MARKETS A number of factors hit sentiment towards emerging markets in 2018, including higher US interest rates, trade tensions, and a persistently strong US dollar. The situation has reversed and growth differentials around the world should favour investment in the emerging world, says OppenheimerFunds.
The underperformance of emerging market assets in the first half of 2018 was not a sizeable deterioration in aggregate economic activity and a budding crisis. Rather, the volatile year for emerging market equities and bonds was the result of investors buying the rumours of the late-cycle US fiscal stimulus and ever-higher expectations for US economic activity and earnings growth. Capital, as always, flows to where growth is strongest. Emerging markets suffered disproportionately as capital flowed to US dollar assets. SLOWER US GROWTH Judging where we are in the US cycle is important for emerging markets. In our view, the US economy is no longer accelerating, the result of tightening by the US Federal Reserve (Fed), higher interest rates across the yield curve, and a persistently strong dollar. We believe US economic growth will slow in the first half of 2019 and weaken toward the historical trend growth rate in the second half. As a result, the Fed is likely to back down from its tightening stance that would cause the dollar to stabilise in the near term and weaken over the intermediate term. For 2019, the upshot for emerging market assets is an environment where US growth is slower but policy is better – the exact opposite of 2018. EM “GREEN SHOOTS” Emerging market policymakers, for their part, pursued prudent policy measures even as external pressures mounted. Inflation is not overshooting in most of the major emerging market countries, Turkey and Argentina notwithstanding, and current account deficits are generally contained—a primary reason why Turkey’s economic crisis didn’t extend to the rest of the emerging economies. Real yields for sovereign local currency bonds remain attractive.
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There is a good case to be made that so-called “green shoots” will arise in emerging markets in the beginning of 2019, driven by modest Chinese stimulus, and growth will have stabilised by the second half of the year. The strategy of Chinese policymakers, thus far, is to deprioritise deleveraging. In the past, credit growth has rebounded significantly when policymakers have lowered the required reserve ratio for major banks. Nonetheless, the stimulus should be viewed as more of a multi-pronged “drip strategy” than a “bazooka,” as it was in 2015-2016. There is resistance from the Chinese government to respond with massive stimulus and jeopardise long-term domestic financial stability. However, fixed asset investment, while not reaccelerating massively, does appear to be stabilising. In short, do not expect stellar support for emerging market growth from China. Rather, expect China to stabilise in the second half of the year and for many other emerging economies to follow in kind. Before we get too optimistic, we acknowledge that this scenario will be very dependent on the restrained stimulus measures in China gaining traction and on a more-favourable trade environment between the United States and China. A further deterioration in US and China trade relations, while not our base case, looms as a non-trivial risk to global growth and international assets.
“For 2019, the upshot for emerging market assets is an environment where US growth is slower but policy is better – the exact opposite of 2018.”
LONG-TERM GROWTH, PLUS VALUATIONS For long-term investors, emerging markets are likely to see greater economic growth over the decades to come, driven by population shifts, urbanisation, and expanding consumption. These growth trends are likely to be meaningfully higher than they are for developed markets, which must contend with high debt levels and ageing populations. The near-term case for emerging markets is even stronger, driven by valuations. There can be little question that from a valuation perspective, emerging market assets remain the most attractive, but there needs to be a catalyst for current circumstances to change. Slowing US growth, a Fed pause, stabilising Chinese growth, and an easing of trade tensions could each or all be the catalyst(s). The US fiscal deficit will be important. Regardless of which party has the most power in Washington, we don’t think either party is willing to risk the political backlash that will come from trying to reduce the fiscal deficit meaningfully. In that context, the US fiscal deficit will continue to widen, and it will need to be funded by foreign buyers rather than domestic savings. This makes a lower dollar more likely.
GROWTH WILL COME FROM EMERGING MARKETS Global investing is about growth. For long-term asset owners, the outlook for growth is meaningfully higher away from developed markets. Without meaningful changes to the structure of the US economy, we think the long-term trend growth rate is going to be 2% at best, and even lower in Europe. As noted above, these changes are unlikely given the debt levels and demographics of developed markets. At the same time, global investing is about diversification. Countries move in and out of favour. A globally diversified portfolio should deliver higher returns with lower volatility—and that makes the case for having a portfolio that always remains diversified across both developed and developing markets. To read more from The Emerging Market Report please visit: www.oppenheimerfunds.com/international/article/ emerging-markets-are-poised-for-transformationalgrowth
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