Capital International
Fourth Quarter 2013
Investment Review Innovation | Integrity | Excellence
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The quarter under review has seen some positive progression from global equities Capital International
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Investment Review Contents Global Equities Tentative on the Taper...
Volume: 11 | Issue: 4
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The quarter under review has seen some positive progression from global equities but most indices have stepped back from the highs, as attention has switched firmly to the US tapering. Underlying economic growth momentum has continued on a positive track and employment data is also improving...
Fixed Income Fourth Quarter Review
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Bond investor behaviour continued to reflect the re-rating of lower credits which performed strongly during the quarter in Sterling terms in favour of higher rated sovereigns which suffered under the continuing uncertainty surrounding the US Federal Reserve’s approach to unwinding or at least slowing, its Quantitative Easing programme, the oft-quoted ‘taper’...
Country in Focus Ireland
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During the dark days of 2008 where 10 year Irish Government bond yields started to diverge dramatically from the benchmark German 10 Year Bund, due to an overleveraged economy and rapidly souring property investments at the heart of its core banking institutions, Ireland was the first of the Eurozone nations to acknowledge that it had formally entered recession...
Region in Focus Scandinavia
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Scandinavia is the name used to refer to Denmark, Norway and Sweden. Some people consider Finland and Iceland to be Scandinavian, though that broader region is usually known by the countries concerned as Norden, or the Nordic countries. The use of the term Scandinavia as a convenient general term for the three kingdoms of Denmark, Norway and Sweden is fairly recent, it was adopted and introduced in the eighteenth century, at a time when the ideas about a common heritage started to appear and develop into early literary and linguistic Scandinavism...
Sector in Focus Global Emerging Markets
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Global emerging markets, also referred to as GEMs, have lagged developed markets for the past three years due to a combination of weaker-than-expected economic growth and earnings, a strong dollar and concerns over the potential ramifications of policy stimulus tapering in the US. These factors have led some analysts and commentators to suggest that the positive structural story for emerging markets is over. So taking these factors into consideration what does 2014 hold in store for GEMs?...
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Market in Focus US Economic Review
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The latest third quarter GDP statistics for the US economy showed expansion at a faster than expected annual rate of 3.6%. There is some uncertainty whether ‘restocking’ was a major impact but it is very positive to see the fastest growth rate since 1998. Both the housing sector and the automobile sector remain very positive, boosted by the ‘wealth effect’ for many households...
Sector in Focus Global Commodities
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Whilst 2013 has been a good year for equity investors, a dull year for bond investors, it has been a bad year for commodity investors. Brent crude oil is down 2.5%, Gold has lost over 25% and Copper is down 12%. It would seem that the ‘super cycle’ has come to an end and in many, individual markets there is an excess of supply. The previous spending boom, driven by the voracious appetite of primarily the Chinese economy...
Industry Update Bitcoin | Cryptocurrency
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Chris Salmon may not be a name many of us will be familiar with however all of us will collectively be carrying items worth many millions every day which bear his signature. Mr Salmon in his capacity of Chief Cashier of the Governor and Bank of England has his signature appended to the bank notes which we all use daily...
Sector in Focus Investment Trusts
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In a world of ever more complex, short term and synthetic investment instruments, investment trusts are refreshingly old school. It is staggering to think that the first trust, Foreign & Colonial was established all the way back in 1868. Indeed many of the household names in the sector have had similar longevity with Alliance Trust established in 1888...
Currency Review Foreign Exchange
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Sterling performed strongly over the quarter following positive news about the UK economy. Growth was confirmed to be in line with expectations at 0.8% for the third quarter following 0.7% growth in the second, the Office for National Statistics released in late November...
Group Updates Manx Executive Challenge 2014 Customer Survey 2013
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Investors will have to work harder in 2014 with effective stock and sector selection being vital Capital International
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Global Equities Tentative on the Taper... The quarter under review has seen some positive progression from global equities but most indices have stepped back from the highs, as attention has switched firmly to the US tapering. Underlying economic growth momentum has continued on a positive track and employment data is also improving. The UK for instance, has recently reported the lowest unemployment rate since April 2009 and the number of people in work has reached an alltime high of just over 30 million. Europe still remains an issue, with output still well below the pre-crisis peak and worryingly economies such as France are still struggling and the CAC 40 has actually fallen over 1% on the quarter. Unemployment in France is at a sixteen year high of 11% and production in the third quarter fell 0.1%. The US equity markets have continued to be in focus with solid gains for the quarter, with price/book ratios on equities in line with the long term average of 2x. Overall, global equity earnings look set for a 10% rise in 2014, although there is probably better value to be had in the UK and for brave investors we have discussed the Emerging Markets elsewhere. Japan has once again been one of the best performing regions, driven by a 5% weakening in the Yen against the US Dollar. Many strategists believe that stock and sector picking will be vital for returns in 2014, rather than simply just being ‘in’ the equity market. We have seen the defensive sectors such as Utilities start to underperform and one of the cheapest sectors remains Energy. Many of the oil majors have been held back by the moribund outlook for the crude oil price, driven by a dramatic increase in supply. The S&P 500 Index is up another 6% on the quarter and there are increasing signs of complacency by market participants. US Dollar liquidity has remained plentiful given the continued expansion of the Federal Reserve balance sheet and this has been driving equities. Thus any hint of major reversal could lead to a nasty sell, particularly at a time when very few investors have invested in downside protection measures. Amongst the gainers in the US, Hewlett-Packard is up 31% over the quarter, with Amazon. com up 24% and Alcoa up nearly 20%. Fallers included Newmont Mining down 18%, Anadarko Petroleum down 15% and Electronic Arts fell 11%. The UK equity index has risen only 0.6% on the quarter, despite improving economic news. The UK service sector is experiencing demand expectations at their highest level since 1998, very important given the sector accounts for nearly 80% of GDP. The downside would be that the 7% unemployment threshold would be reached to the downside far earlier than the consensus mid 2015 forecast. It would be far more preferable to have a so called ‘jobless’ recovery and for wage expectations to remain firmly anchored.
Rates & Commodities GBP/USD GBP/EUR GBP/JPY SILVER GOLD EUR Crude Oil US Fed Funds UK Base Rate ECB Base Rate
Price at 30-Dec-13 30-Sep-13 28-Dec-12 1.6514 1.6183 1.616 1.1966 1.1959 1.2225 173.525 158.94 139.123 1784.440 1672.800 1485.540 1201.50 1335.75 1658.75 111.31 109.22 110.84 0.25 0.25 0.25 0.50 0.50 0.50 0.50 0.50 0.75
% Chg Quarterly 2.05% 0.06% 9.18% 6.67% -10.05% 1.91% 0.00% 0.00% 0.00%
% Chg 1 Year 2.19% -2.12% 24.73% 20.12% -27.57% 0.42% 0.00% 0.00% -33.33%
World Indices UK Top 100 Dow Jones NASDAQ S&P 500 DAX CAC 40 Nikkei 225 Hang Seng Gilts
Price at 30-Dec-13 30-Sep-13 28-Dec-12 6,731.27 6,462.22 5,925.37 16,504.29 15,129.67 12,938.11 4,154.20 3,771.48 2,960.31 1,841.07 1,681.55 1,402.43 9,552.16 8,594.40 7,612.39 4,275.71 4,143.44 3,620.25 16,291.31 14,455.80 10,395.18 23,244.87 22,859.86 22,666.59 159.32 162.62 172.00
% Chg Quarterly 4.16% 9.09% 10.15% 9.49% 11.14% 3.19% 12.70% 1.68% -2.03%
% Chg 1 Year 13.60% 27.56% 40.33% 31.28% 25.48% 18.11% 56.72% 2.55% -7.37%
European equities have generally had another solid quarter with the Euro Stoxx Index up 2.78%. Germany has outperformed with the DAX experiencing a 6.8% gain, driven by the boost in global GDP and the competitive footing of German industry. The ECB has made it clear with the interest rate reduction in the quarter that there remains much to do and liquidity will remain plentiful. Peripheral countries have seen strong gains with examples such as the National Bank of Greece up 36% and Portugal’s Espirito Santo up 25%. Other gainers include Continental AG up 26% and Tui up 22%. Fallers include Remy Cointreau down 25%, Peugeot down 22% and Swedish Match falling 14%. One of the few negative equity markets on the quarter was China which declined by 1.2%. Investors were uncertain in the run up to the third plenum, which outlined the economic policy for the next decade. There have also been signs that the authorities are trying to reduce some of the liquidity in the system, squeezing some of the speculative areas such as land, with interbank lending rates rising once again. Great Wall Motors declined 18%, China Mobile lost 7.5% and Sino Land lost 8%. Japan was buoyant with the Nikkei gaining nearly 8%, taking the year to date gains to 50%. It is clear that under Abenomics the authorities are willing to carry out even larger bond purchases to ensure the aims are fulfilled. Gainers included Fujitsu up 36%, NGK Insulators up 26% and Matsui Securities was up 14%. The main decliners included Sony down 15% and Nissan Motors down 9.5%. Whilst positive on economic prospects, we believe investors will have to work harder in 2014 and effective stock/sector selection will be vital.
In the UK equity markets, Trinity Mirror has been a sparkling performer up nearly 50%, with Cable & Wireless up 31% and Redrow gaining 28% (underlining the buoyancy in the UK housing market). Losers included Kenmare Resources down 32%, RSA Insurance down 25% and Debenhams down 22%.
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Fixed Income Fourth Quarter Review Bond investor behaviour continued to reflect the re-rating of lower credits which performed strongly during the quarter in Sterling terms in favour of higher rated sovereigns which suffered under the continuing uncertainty surrounding the US Federal Reserve’s approach to unwinding or at least slowing, its Quantitative Easing programme, the oft-quoted ‘taper’. 31-Oct-13
30-Nov-13 18-Dec-13
Sterling Eurobonds
1.79%
-1.05%
-0.31%
Sterling Eurobond AAA
0.64%
0.11%
-0.52%
Sterling Eurobond AA
1.04%
0.21%
-0.37%
Sterling Eurobond A
0.95%
0.23%
-0.36%
Sterling Eurobond BBB
2.12%
0.59%
0.11%
Sterling Eurobond 1 to 3 Yrs
0.40%
0.22%
-0.10%
Sterling Eurobond 3 to 5 Yrs
0.96%
0.38%
-0.25%
Sterling Eurobond 5 to 7 Yrs
1.46%
0.48%
-0.38%
Sterling Eurobond 7 to 10 Yrs
1.75%
0.31%
-0.48%
Sterling Eurobond 10 to 15 Yrs
2.19%
0.27%
-0.38%
UK Gilts
0.74%
-1.00%
-0.17%
UK Index Linked Gilts
1.66%
-0.69%
-0.89%
The issue has gathered so much attention because of its potential impact on all asset classes, not only bonds. As discussed in earlier quarterly reviews in many respects, the bond markets have already priced in a large element of the change in direction with US 10 year bond yields rising to 2.99% in the third quarter to settle around the 2.9% level towards the end of the year. This movement indicates that markets expect greater or quicker improvement in the global economic climate than the Federal Reserve has suggested. It is plausible that the Federal Reserve is playing a cautious hand after the turmoil sparked by its initial revelation that tapering was being considered. With mortgage rates tightly linked to bond yields and combined with a fragile employment and housing market, there was concern that aggressive policy changes would have a detrimental effect despite the need to signal the improving climate so a certain tempering of the Fed’s language was evident in its September statement.
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With the quarter seeing the formal end of the Bernanke era as Janet Yellen was officially sworn in as Chairman of the Board of Governors of the Federal Reserve System, markets will be alive to signs whether her appointment reflects a shift between ‘doves’ and ‘hawks’ in the FOMC. Often cited as a ‘Keynesian’ economist, she is expected by many analysts to follow a dovish policy and an advocate of targeting unemployment as a means of controlling inflation in an economy. What we can expect is probably a greater focus on unemployment data, including participation rates in the wider economy coupled with attention on the ‘velocity of money’, a concept which measures how quickly money supply and creation is circulated through the economy and its effects on both core and broader measures of inflation. As a result of the changes at the top of the US Federal Reserve and markets poised delicately between continuing to grow during a rising interest rate period, it’s likely that no further announcement on the topic of tapering will occur until the March Fed meeting next year. The counterpart of improving economic conditions as envisaged by the global central banks is of course the unwinding of a near six year-long stimulus program to stave off a global deflationary crisis. To put some perspective to the numbers, the US Federal Reserve Balance Sheet has now expanded to $4 trillion, an amount broadly equal to the entire GDP of Germany and almost a quarter of the entire US equity market capitalisation. In this context, merely reducing the scale of monthly purchases of $85bn of securities by a given quantity is perhaps not the greatest issue facing bond markets.
4,500,000
US 10 Year Bond Yields (LHS)
4,000,000
Federal Reserve Balance Sheet (RHS)
5
3,500,000 3,000,000
4
2,500,000
3
2,000,000 1,500,000
2
1,000,000
1
Dec-13
Jun-13
Dec-12
Jun-12
Dec-11
Jun-11
Jun-10
Dec-10
Jun-09
Dec-09
Jun-08
Dec-08
Jun-07
500,000 Dec-07
0
Federal Reserve Balance Sheet ($1,000bn)
6
Dec-06
10 Year US Treasury Yield (%)
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0
Growth of Federal Reserve Balance Sheet With an equally ambitious Quantitative Easing programme taking place in Japan where one of the core aims is to increase the monetary base to ¥270 trillion in 2014, with similar programmes in action in the UK and Europe, mishandling of this massive activity could have far-reaching consequences. As central bankers tend to fear deflation above almost all other risks, one fear is that this increase in money supply will simply add to asset price inflation while wages stagnate or reverse in real terms due to increasing costs, adding to social pressures. While corporate issuers are well funded and default rates are low, risks of a Lehman-style shock to the system appear to be covered by generous central bank policies but 2014 will undoubtedly see the world entering uncharted territory in how sovereign issuers manage the complex relationships between managing real GDP growth and unwinding their support programmes, even more so since China has risen to become the United States’ largest creditor.
As has been said before China has now risen to become the United States’ largest creditor... © Capital International Limited 2014
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Country in Focus Ireland During the dark days of 2008 where 10 year Irish Government bond yields started to diverge dramatically from the benchmark German 10 Year Bund, due to an overleveraged economy and rapidly souring property investments at the heart of its core banking institutions, Ireland was the first of the Eurozone nations to acknowledge that it had formally entered recession and the Fiannna Fáil / Green Party Coalition witnessed a huge rise in unemployment relative to the nation’s size saw the rate more than double from 6.5% in January 2009 to 14.8% in July 2012. With Irish 10 Year debt yielding 6% more than its German counterparts, emergency action had to be taken and on the 21 November 2010, Taoiseach Brian Cowen announced that the EU/ECB/IMF or ‘Troika’ would effectively be taking over Ireland’s national financial affairs. 16
2 Year Bond Yield %
14 12 2 Yr Ireland Bond Yield 2 Year German Bond Yield
10 8 6 4
Dec-13
Jun-13
Dec-12
Jun-12
Dec-11
Jun-11
Dec-10
Jun-10
-2
Jun-09
0
Dec-09
2
Short Term Bond Yield Comparison Banking scandals were widespread which led to the Fianna Fáil party losing widespread support, dropping to third after the Fine Gael and Labour Parties. The junior coalition member, the Green Party called for a general election which saw a Fine Gael-Labour Party remain in power since February 2011. At the heart of the crisis was a classic case of ‘crony capitalism’ and an asset-liability mismatch. Financing was obtained relatively easily on Ireland’s previously strong economy although signs of strain had already shown up in 2007 when the property market started stalling. 30 25 20
Year on Year Percentage Change
15 10
-10
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Irish Apartment Prices
Dec-13
Jun-13
Dec-12
Jun-12
Dec-11
Jun-11
Dec-10
Jun-10
Dec-09
Jun-09
Dec-08
-5
Jun-08
0
Dec-07
5
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This network of interconnected banks had sourced funding from overseas for expansion at a phenomenal rate of almost €15 billion to €110 billion from between 2004 to 2008, largely based on three month rollover basis contracts expecting ample refinancing or asset sales however the growing disparity in market yields made this model unworkable.
Many commentators are critical that the ECB has no power to actually reduce debt
To avoid a run on its domestic banking sector, the Irish Government unconditionally guaranteed the deposits of 6 banks in September 2008 which was substantially underestimated and led to the subsequent EU/IMF bailout. The effect of rising bond yields, a critical measure of confidence in the market led to Ireland being effectively shut out of international capital markets with the bank guarantee alone costing the nation over 32% of its annual GDP so the EU and IMF were compelled to intervene. Once the nascent European Financial Stability Facility had become involved, approximately €100 billion was expected to be loaned with 8% of this coming from the UK which had been utilising its Post Office network to sell Bank of Ireland savings schemes. The final package agreed to totalled €85 billion, with the EU, the IMF contributing €22.5 billion each, a further €22.5 billion from the EFSF, €17.5 billion borrowed from the Irish Sovereign National Pension Reserve Fund along with bilateral loans from Sweden, Denmark and the UK. 20 15 10
Jul-13
Jan-13
Jul-12
Jul-11
Jan-12
Jan-11
Jul-10
Jan-10
Jul-09
Jan-09
Jul-08
Jul-07
Jul-06
Jan-08
-10
Jan-07
0 -5
Jan-06
5
Following bouts of civil unrest with organised and spontaneous strikes due to the inevitable austerity measures and unemployment due to the failure of key businesses such as Waterford Wedgwood and the banking sector, the government created a new entity to hold beleaguered properties which the banks’ stressed balance sheets could no longer sustain, prior to the renewal of the second annual government guarantee on banking deposits. This organisation known as NAMA was able to take vast sums of assets of the most heavily indebted banks but the root issues had to be tackled. As a financial services centre, Ireland was estimated to have a debt to GDP ratio of over 300% and stern action needed to be taken by both private and public sectors to avert even further damage. Key to Ireland’s recovery was its obedience to the reforms imposed by the ‘troika’ and national acceptance by referendum of the Fiscal Stability Treaty. The national vote was 60.3% in favour and was required in order to remain within the Thirtieth Amendment of the Irish Constitution. Significant challenges remain; many commentators are critical that the ECB has no power to actually reduce debt but rather exchange promissory notes for longer-dated instruments.
-15 -20 -25 -30
Republic of Ireland Unemployment %
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Headwinds aside, Taoiseach Enda Kenny announced in December 2013 that the Republic had exited the ‘Troika’ bailout, marking one of the Eurozone’s first peripheral success stories. Hopefully it marks an inflection point in the fortunes of the periphery.
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Region in Focus Scandinavia Scandinavia is the name used to refer to Denmark, Norway and Sweden. Some people consider Finland and Iceland to be Scandinavian, though that broader region is usually known by the countries concerned as Norden, or the Nordic countries. The use of the term Scandinavia as a convenient general term for the three kingdoms of Denmark, Norway and Sweden is fairly recent, it was adopted and introduced in the eighteenth century, at a time when the ideas about a common heritage started to appear and develop into early literary and linguistic Scandinavism. The vast majority of the human population of Scandinavia are Scandinavians, descended from several Germanic tribes who originally inhabited the southern part of Scandinavia and what is now northern Germany, who spoke Germanic languages that evolved into Old Norse and who were known as Norseman in the early middle ages. The Vikings are popularly associated with Norse culture. The Icelanders and the Faroese are to a significant extent, but not exclusively, descended from peoples retroactively known as Scandinavians. The extreme north of Norway, Sweden and Finland, as well as the most NorthWestern part of Russia, is home to a minority of Sami. It was once said that to be born an Englishman is to win first prize in the lottery of life. Today the same thing could be said of being born Scandinavian. Scandinavia has not only avoided the problems that have engulfed Southern Europe, but they have also avoided the social problems that trouble other parts of the world such as America. Using various measures to determine the health of a society, from social indicators like inequality and crime to economic ones like productivity and innovation, the Scandinavian countries are clustered near the top. So how has this thinly populated and remote region with its vast expanses of wilderness and Arctic winters become so successful? Not so long ago most Scandinavians would praise their government without hesitation. The government had provided the people with cradle to grave welfare services and helped to save the capitalist economies from their periodic crises. However, free marketers have found fault with the pro-government explanation and suggest a powerful alternative. In the 100 year period between 1870 to 1970 the Scandinavian countries were among the world’s fastest growing countries, due to several pro-business reforms such as the establishment of banks and the privatisation of forests. But during the 1970’s and 1980’s the undisciplined growth of government caused the reforms to struggle to achieve results. Free marketers attributed Scandinavia’s recent performance to its determination to set entrepreneurs free and reduce government spending. These countries developed a habit of spending more on welfare than they could afford and of over relying on a handful of giant companies. It’s good that they are trying to trim their states and make life easier for business. But the role of government cannot be ignored entirely. The region prides itself on honesty and transparency of their governments. Scandinavian governments are subject to intense scrutiny. In Sweden, for example, everyone has access to official records and politicians are heavily criticised if they reject their bicycles in favour of official limousines.
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Scandinavians have added two other important qualities to transparency, pragmatism and tough-mindedness. When it became clear that the traditional social democratic consensus was no longer working, they let it go with little fuss and introduced new concepts from across the political spectrum. Pragmatism explains why the new consensus has quickly replaced the old one. Not many Swedish Social Democratic politicians want to dismantle the conservative reforms put in place in recent years. It also offers an explanation as to why Scandinavian countries can often seem to be amalgams of left and right wing policies. Pragmatism also explains why Scandinavians are continuing to upgrade their model. But they still have many issues to deal with. Their governments remain too large and their private sectors too small. Their taxes are still pretty high and some of their benefits are too generous. The Danish system of “flexicurity” places too much emphasis on security and not enough on flexibility. A side effect of Norway’s oil boom is that it is threatening to destroy the work ethic. It isn’t a good sign that over 6% of the workforce are on sick leave at any one time and around 9% of the working age population live on disability pensions. But they are continuing to introduce structural reforms, albeit slowly but relentlessly. And they seem to be doing all this without sacrificing what makes the Nordic model so valuable, the ability to invest in human capital and protect people from the disruptions that are part of the capitalist system.
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Denmark A gradual turnaround is forecast for the Danish economy, in tandem with improved economic conditions abroad and rising consumer and business confidence. In the recent Economic Survey, GDP is expected to grow by 0.2% in 2013 and 1.6% in 2014. The very low growth rate in 2013 is primarily a consequence of a large decline in GDP at the end of last year and continued sluggish growth during the first half of 2013. Growth, however, was expected to pick up during the second half of the year and into 2014. This year, domestic demand is the main driver of growth, primarily due to higher business investments. Also, the basis for growth in private consumption has been strengthened. Inflation has fallen significantly through 2013, and disposable incomes increase as a result of tax cuts and lower interest rates. Improved consumer sentiment suggests that lack of confidence in the economic situation will not hold back private consumption. The improved sentiment is supported, amongst other things, by rising house prices and expectations of a fall in unemployment. As the recovery abroad gains momentum, exports will gradually return as a key driver of growth in the Danish economy. In 2014 exports are once again expected to provide a significant contribution to GDP growth, making the Danish economy more self-sustained.
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The growth forecast for the Danish economy is estimated to be sufficient to ensure gradually rising employment and falling unemployment over the forecast horizon. The labour market has been remarkably stable since 2010 in spite of the weak business cycle. This should be seen in light of past reforms, a flexible labour market, and that there has been room for manoeuvre in economic policy to support the labour market. It also reflects that the increase in production in some industries, which account for around 95% of private sector employment, has been somewhat higher than overall GDP growth, as is also expected to be the case in 2013 and 2014. While GDP rose by 3.0% from mid-2009 to mid-2013. The forecast is based on the assumption that a recovery in the euro area will gradually manifest itself during the beginning of 2014. If the European recovery is weakened, it will also have a negative impact on Denmark, and may imply that the expected turnaround is postponed, and that the pace of recovery will be slower. Compared to previous turning points in Danish economy, the forecast assumes a relatively slow increase in growth during the last quarter of 2013. Therefore, it is alsopossible that growth will be stronger, if, the appetite for consumption and investments in the domestic economy increases more strongly than expected after years of restraint.
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Norway Following the downturn in 2009 activity in the mainland economy swiftly rebounded. Employment is now significantly higher than prior to the financial crisis, and unemployment is low. Last year mainland GDP grew by 3.4 per cent, outperforming the four preceding years. Growth has however declined thus far this year. Moderate household consumption subdued growth in the first half of this year. Key indicators also point in the direction of weaker growth in Q3 than expected. Based on this the growth forecast for household consumption is revised downward compared to the National Budget 2014. Also the growth forecast for mainland business investment has been revised somewhat downward, while the activity in the petroleum sector continues to give growth stimulus to the rest of the economy both this year and next year. The annual growth of the mainland economy is expected to be rather moderate this year, before picking up again next year. With low interest rates and growth in households’ disposable income, private consumption is expected to keep growing. However, with households’ record high debt burden and houses prices that have levelled off, growth in private consumption is expected to be moderate. Also growth in housing investments is expected to diminish somewhat in the years ahead. With improving economic outlook for Norway’s trading partners the export of traditional goods might pick up next year. Growth in mainland business investments is expected to diminish somewhat from last to this year, before picking up somewhat in 2014. All in all, non-oil GDP is expected to grow by 2.0 per cent this year and 2.5 per cent next year. Hence growth in 2014 is forecast to be close to the average for the last 40 years of 2.6 per cent. Petroleum production is expected to decline somewhat this year before picking up in 2014. Employment is still growing, but the weakening economic growth has dampened growth since the summer of last year. However, employment is still expected to increase by about 1 per cent both this and next year. According to the labour force survey, unemployment increased somewhat at the end of last year and in the beginning of this year, but has decreased thereafter. In the amendment to the National Budget 2014 unemployment is estimated to stabilise at today’s level of about 3½ per cent in the years to come. This is low both historically and compared to other countries. Labour migration from the EU has increased rapidly in recent years. About 2/3 of the increase in employment in Norway since 2004, can be attributed to labour migration. That has made the Norwegian labour market more flexible and eased impediments in the economy. However, highimmigration flows might have contributed to less stability in the housing market, where prices continued to grow until this summer. Following three years in which underlying consumer price growth has been less than 1½ per cent. Price growth has picked up in recent months. CPI-ATE (consumer price growth adjusted for tax changes and excluding energy products) growth is expected to strengthen further next year. With expectations of weaker electricity price developments next year, increases in the overall price index are expected to decline somewhat from 2013 to 2014.
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Strong growth in China and other emerging economies since the turn of the millennium has contributed to a substantial increase in prices for oil and other raw materials, and a significant improvement in Norway’s terms of trade. During the same period terms of trade were also spurredby cheap imports from the same group of countries. The improvement in terms of trade has boosted both income and activity in the Norwegian economy. As much as 40 per cent of the growth in real disposal income for Norway since the turn of the millennium is due to terms of trade gains. Demand from the oil industry directed towards mainland businesses has flourished, and government has received large revenues and households’ considerable increases in income. The increase in real wages has been well above the wage growth among our trading partners, resulting in a high cost level in Norway. This poses great challenges to many Norwegian exporters’ profitability. In 2012 wages in manufacturing were on average almost 70 per cent higher than in a weighted averageof Norway’s trading partners in the EU, and close to 30 per cent higher than in Sweden, measured in common currency. Housing prices plummeted in many countries in the wake of the international financial crisis. In Norway, housing prices contracted moderately from the autumn of 2007 until December 2008, but have thereafter continued to increase steeply and have reached record high levels. The price increases have levelled off recently, and for the first time in four and a half years the quarterly growth rate was negative in the 3rd quarter of this year. The sustained housing price increase has been accompanied by a high level of household debts, with gross debt amounting to more than twice the value of their income. The combination of high housing prices and a high level of household debt do increase the risk of a housing market slump. Housing starts remain high, but growth has abated somewhat over the last year. However, continued high labour immigration, low interest rates on mortgages and high income growth might contribute to a continued buoyant demand for housing.
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Sweden Although a somewhat brighter outlook can be sensed throughout the world in the second half of the year, Swedish growth for 2013 as a whole is expected to remain weak, with both falling exports and falling investments. Growth is kept up by domestic demand, primarily household consumption. Next year, both business and household confidence is expected to increase. As international demand is expected to increase next year so is Swedish export. Together with the improved business confidence this will result in a rise in investments next year. Further, household consumption is expected to grow more quickly compared to earlier phases of recovery. Household consumption will then be the key driver of the GDP growth; this is partly a result of the reductions in income tax proposed in the Budget Bill for 2014. The strong development of household consumption is also due to favourable household wealth, an improvement in household confidence as well as a relatively strong increase in real wages. All in all this will lead to a pick-up in GDP growth the coming year. Although there has been a prolonged downturn in the world economy the development on the Swedish labour market has been relatively strong. At the beginning of the financial crisis employment fell, but has increased steadily since the end of 2009. Employment has increased at the pace of the population, thus the employment rate has been unchanged. The increase in employment is driven by the service industries and the public sector. Although the employment has increased it has not reduced the unemployment rate since the labour force has been increasing at the same time.
Š Capital International Limited 2014
Forward-looking indicators of demand for labour, such as recruitment plans, redundancy notices and newly reported vacancies point to continued growth in employment in the months to come. GDP growth will be driven by service production the coming year while the contribution from industrial production is expected to be small due to weak export. As a result the labour demand will differ between the service and the manufacturing sector. The labour force has risen strongly in recent years. This is due to population growth but also to an increased participation rate. Usually the participation rate falls during downturns, but this time the fall has been smaller. The participation rate is now at the same level as before the crisis. On the whole, employment and the labour force are expected to grow at a good pace in 2013 and 2014. But GDP growth will initially be driven by productivity, and the increase in employment probably won’t be strong enough to produce a significant reduction in unemployment. Unemployment is expected to remain at around 8% next year. CPI was below the Riksbank’s target rate of 2% in 2012. In the first half of 2013 inflation has remained low. The low price pressure is mainly due to a low capacity utilisation. Further, the Swedish krona has contributed to lower import prices, in addition to the already weak international price development. As a result of the low capacity utilisation, high unemployment and low inflation the Riksbank is believed to maintain an expansionary monetary policy. Thus, the repo rate will remain at 1% during 2014. The protracted economic downturn is expected to result in a deficit in the public sector finances in both 2013 and 2014. Central government and the old-age pension system are expected to show a deficit in 2013, whereas the municipal sector is expected to show a small surplus.
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Sector in Focus Global Emerging Markets Global emerging markets, also referred to as GEMs, have lagged developed markets for the past three years due to a combination of weaker-than-expected economic growth and earnings, a strong dollar and concerns over the potential ramifications of policy stimulus tapering in the US. These factors have led some analysts and commentators to suggest that the positive structural story for emerging markets is over. So taking these factors into consideration what does 2014 hold in store for GEMs? Firstly, GEM economic fundamentals appear to be very solid. In aggregate, debt levels are modest, external debt is low and current accounts are in surplus. This is in complete contrast to the developed world which is still going through a lengthy period of debt deleveraging. Strong consumption continues to be driven by an expanding emerging market middle class and fixed capital investment is growing due to the still low levels of capital stock per capita. So it appears the structural story remains intact. Valuations also appear to be very attractive and seem to be pricing in a lot of bad news. The 12- month forward priceearnings (PE) of the MSCI Emerging Markets index is 10.3 times, based on 11.4% earnings-per-share growth. This compares to a long run average of over 12 times. It is also at a significant discount, around 30%, to the PE of the MSCI World index. Furthermore, the GEM price-book ratio is 1.5 times. This is also at a large discount to the long-run average despite a return-on-equity of 12.3%. Although these valuations are not at rock-bottom levels, they are not far from trough levels in some cases. Also, GEMs have historically delivered strong absolute returns over the medium and long term from such levels. GEM margins have been under pressure, unlike in the US where profits as a share of GDP are at a record high, so there is also clear upside to GEM profit growth. In addition, anecdotal evidence suggests that investors have become very bearish. Recent data indicates that global fund managers have been reducing their GEMs exposure to such an extent that the net percentage of overweight to underweight managers is now at its lowest level for many years. Yet several clouds remain on the horizon which could continue to weigh on GEMs. The timetable of stimulus withdrawal in the US is still uncertain but steps towards policy normalisation look to only be a matter of time, unless a substantial deterioration in the US outlook occurs. Although markets were quick to price in the potential negative impact of liquidity withdrawal in the summer, concerns around tapering may not be fully priced in yet and the threat of tapering could continue to be a headwind for GEMs in the near term. Significantly however, the impact on individual markets will likely vary and correlations between GEMs falling back towards pre-crisis lows have already been noticed. When Ben Bernanke, the US Federal Reserve Chairman, first suggested the idea of tapering, several countries including India, Brazil, South Africa, Indonesia and Turkey experienced a sharp sell-off due to their large current account deficits and reliance on external funding. However, these ‘fragile five’ represent only 30% of the MSCI Emerging Markets index.
Capital International
While those countries running large current account surpluses such as China, Korea, Taiwan and Russia were unaffected and represent 50% of the index. Also, significant currency weakness is already helping some of the ‘fragile five’ reduce their current account deficits as their economies adjust. Currency weakness has also resulted in an improvement in the competitive position of several emerging economies which should be well placed to benefit from a recovery in growth in the developed world. There is the potential that global growth fails to recover as expected and the developed world enters a period of deflation. Although this would probably result in ongoing abundant liquidity, low nominal growth is not positive for earnings and as a consequence could impact markets. Developed Europe is still pretty far from resolving its structural problems and another European crisis cannot be ruled out. Spain stands out as being one possible catalyst given high unemployment and a large debt overhang. Should the situation in the eurozone deteriorate, from a macro-economic point of view the impact on global emerging markets would probably be limited given only a relatively small proportion of exports go to the region. The most vulnerable emerging markets would likely include the neighboring Central European markets, such as Poland, the Czech Republic and Hungary, owing to the open nature of their economies. The most likely negative consequence would be through increased risk aversion. 2014 will see politics and in particular elections, provide another topic for investors to think about. Five emerging countries have important elections next year which could create increased uncertainty as government policy in the run-up is likely to be unpredictable. China will need to avoid a major problem if GEMs overall are to do well. Recent reform announcements, together with China’s large reserves, should be supportive in this respect. With the short-term outlook remaining uncertain it could be too early to get particularly bullish and increase the risk or volatility (Beta) in the portfolio. Of course tapering will continue to be one of the major concerns going forward and could create volatility, although the impact on the Global Emerging Markets is likely to be selective. Several countries could continue to come under pressure and will probably have to tighten policy to deal with their deficits. While other countries will benefit from the stronger growth tapering implies. Medium to long term, the outlook for these markets looks pretty positive. As mentioned already, the structural case for Global Emerging Markets is intact, valuations are attractive and profit margins/earnings have room to surprise on the upside. Even though further weakness in the short term cannot be ruled out, it is very possible we could see a strong rally for emerging markets in 2014. But taking everything into consideration it is not difficult believe that returns over the next three years or so could be significant, both in absolute terms and relative to developed markets. The decision as to where to invest will be critical, this has always been a key factor when investing in emerging markets, and is likely to become even more important in the period ahead. Next year will probably be a challenging year for emerging markets, but with careful stock and market selection, one that could provide opportunities for longer term investors.
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Market in Focus US Economic Review The latest third quarter GDP statistics for the US economy showed expansion at a faster than expected annual rate of 3.6%. There is some uncertainty whether ‘restocking’ was a major impact but it is very positive to see the fastest growth rate since 1998. Both the housing sector and the automobile sector remain very positive, boosted by the ‘wealth effect’ for many households. For instance, auto sales look set for the best calendar year since 2007. Due to the rising equity market, it is estimated that nearly $2 trillion was added to domestic balance sheets in the third quarter alone. With continuing low levels of inflation, the purchasing power of consumers is improving, although wage growth remains muted. Overall GDP is expected to be close to 2% in 2013 accelerating to 2.75% in 2014. One of the conditions for the US Federal Reserve to start scaling back its $85-billion-a-month in bond purchases is continued progress on employment. This means nonfarm payroll growth has to remain at least in the 175,000 - 200,000 range before the Fed feels comfortable reducing the pace of asset purchases. Maintaining this pace of job growth will also put steady downward pressure on the unemployment rate, with “breakeven” job growth now estimated at around 80,000 - 90,000 per month. The US jobless rate fell to a five-year low of 7.0 percent in November, and employers hired more workers than expected. It is likely that the incoming Federal Reserve Governor, Janet Yellen, will also be concerned with the ‘quality’ of the employment. One of the features of this economic cycle has been that workers are working fewer hours than they would like. The participation rate is also at multi-year lows. There is some evidence however that there is less ‘slack’ in the US economy than widely believed. The number of layoffs, which peaked in 2009, is now trundling along all-time lows, whilst the ‘Quit’ rate has continued to move markedly higher. The fact that workers are leaving jobs voluntarily is taken as a bullish signal. It is possible that wage inflation could become an issue for the first time in many years. The Federal Reserve would then be forced to act and start to increase interest rates possibly before the end of 2014. Housing is another important litmus test for the Fed executing its exit strategy. Before allowing bond yields to rise further (first via tapering, eventually via tightening), the Fed needs solid evidence that the housing recovery remains on track. Some data points are suggesting this, with home construction permits issued in the month of October at the highest monthly reading in five years. Approximately 28% of household net worth is now accounted for by real estate. The lack of meaningful business fixed investment has been both a major surprise to us and a disappointment. Despite the improved confidence there has continued to be corporate cash hoarding, combined with too much delivered back to shareholders. For sustained, long term growth, a major cycle of capital expenditure is much needed; this could deliver another up leg to the US economic recovery.
© Capital International Limited 2014
A positive aspect that has dropped off the first quarter agenda is the agreement on the Budget, with spending levels set until 2015. The need to avoid another farcical Government shutdown has been vital. Although it was short lived, the last shutdown created significant weakness in consumer confidence and negatively impacted industries such as Defence. Longer term issues surrounding the cost of healthcare and tax code matters remain unresolved. The other matter that will still need attention is the scale of the debt ceiling.
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Sector in Focus Global Commodities Whilst 2013 has been a good year for equity investors, a dull year for bond investors, it has been a bad year for commodity investors. Brent crude oil is down 2.5%, Gold has lost over 25% and Copper is down 12%. It would seem that the ‘super cycle’ has come to an end and in many, individual markets there is an excess of supply. The previous spending boom, driven by the voracious appetite of primarily the Chinese economy to consume all manner of commodities has led to significant mine expansion. Many of these projects have now come on-stream, just as Chinese investment growth slows and also other Emerging Markets slow. Arguably the 6-7% Chinese annualised GDP growth has now been factored into expectations. Optimists argue that with economic growth recovering in many developed nations and continued ample global liquidity, commodity prices could surprise on the upside in 2014.
commodities not suffering from rising supply, indeed production is actually falling. Current levels of inflation remain muted and this will keep the metal in check but it could bounce if there is a whiff of QE driven inflationary pressure rising in 2014. We are also not convinced that the US Dollar will see strength either, another bearish influence. Silver production remains high and despite potential upside from industrial uses as global GDP rises we remain cautious on this precious metal. The current phase of Chinese development could boost the likes of copper, lead and platinum demand. Copper unfortunately is suffering from a huge rise in supply but it should be remembered that 2014 demand levels will still be three time the average seen in the last decade. The risk of South African related production interruptions could support the platinum price and the European auto market is in decent shape. Nickel appears to be the interesting metal for traders, as the metal price is hugely depressed and there has been a constantly rising supply level in recent years. However in 2014 this is forecast to fall dramatically and could be exacerbated if Indonesia imposes an export ban.
Rapidly expanding US oil supply growth and upside risks to Libyan and Iranian crude oil exports imply a bearish environment for global crude oil markets next year. Indeed non-OPEC oil supply growth is forecast to expand at the fastest rate in thirty years. Although, the level of price decline is likely to be limited by the ability of Saudi Arabia to curtail supply and also some uncertainties regarding Libya and Iraq remain. Most forecasts suggest that Brent crude will average $105/110 a barrel in 2014, modestly down on the $109 experienced in 2013. Geopolitical pressures have also eased recently with the interim agreement with Iran on nuclear facilities.
Soft commodities have not seen a repeat of the US drought experienced in 2012 and so we have seen the usual extra plantings result in a large harvest and prices have been under down ward pressure. Both corn and wheat would appear to be the main losers but as always short term price drivers remain unpredictable. The weather remains the main influence, although factors such as US stocks of soybeans being at near all-time lows will also be important determinants. One of the few areas of strength has been cocoa which has risen 22% after a number of poor crops in West Africa.
Gold has been very weak in 2013 and the impending tapering by the Federal Reserve also has negative ramifications. It would appear that not only has the market suffered from outflows by investors from ETF products but there has also been weak physical demand. This has mainly been from India, where the weakness in the Rupee and new import duties has dampened demand. Interestingly however, Gold is one of the few
4.0
1400
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400
QE2
200
1.0
QE3
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Aug 2013
Aug 2012
Aug 2011
Aug 2010
Aug 2009
0
Aug 2008
0
84.8%
80.0% 80% 70.0% 70% 60.0% 60% 50.0% 50%
35.6%
40.0% 40% 30.0% 30%
23.7%
23.2% 16.8%
20.0% 20% 10.0% 10% 0.0% 0%
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1600
90.0% 90%
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---- 10 Year Treasury Yields
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Global Quantitative Easing to GDP Ratio Third Quarter 2013 Global Quantitative Easing to GDP Ratio
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Industry Update Bitcoin | Cryptocurrency Chris Salmon may not be a name many of us will be familiar with however all of us will collectively be carrying items worth many millions every day which bear his signature. Mr Salmon in his capacity of Chief Cashier of the Governor and Bank of England has his signature appended to the bank notes which we all use daily. A year ago, the concept of the Bitcoin was confined to a diverse but relatively obscure blend of computer ‘hackers’, hacking in the original sense of the word, talented programmers who actively look to solve complex problems through collective collaboration rather than the more negative connotations that most of us are familiar with. Mixed in with this group were those who had an interest use of and anonymous currency through to those who had lost faith in paper or ‘fiat’ currencies. At its simplest level producing Bitcoins, are like mining any other commodity. As in gold mining, there comes a point where the amount of energy required exceeds the value of the commodity being mined and there is a finite amount of resource (only just over 12 million Bitcoins have been mined of a total of 21 million and the total amount of Bitcoin has been reached). Bitcoin (and ‘cryptocurrency’ in general) has witnessed explosive growth since 2009 and its introduction by a pseudonymous creator called Sakatoshi Nakamoto, which may even be a collaboration between programmers.
© Capital International Limited 2014
No currency has any value if it cannot be spent but the community has now developed a ‘mini-amazon’ which accept Bitcoin for a wide range of good from holidays to university tuition fees. As with convention money though, Bitcoin has a dark side however which authorities are keeping under watch due the money-laundering risks posed by an anonymous currency, and has recently led to a wave of Central Banks closing down bitcoin exchanges. Central Banks from the USA, Denmark and India have all taken draconian action against the currency. While currencies have always been volatile it is clear from analyst reports that the primary exchange has seen enormous volatility for Bitcoin over the last month. At the heart of any Bitcoin mining business lies enormous computer power but even its main exchange belies its origins. Of course My Gox isn’t a real mountain but an abbreviation of ‘Magic: The Gathering online meeting exchange whereby players of role playing games could exchange playing cards over the internet but was rapidly morphed into a Bitcoin exchange. With almost two thirds of the world supply of bit coins already ‘mined’ and facing strong regulatory action Bitcoin will undoubtedly be in for another roller coaster 2014 for sure, but there are signs that it is gaining traction in the ‘white’ market of user and may be too difficult for authorities to stop once it has reached critical match.
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Sector in Focus Investment Trusts In a world of ever more complex, short term and synthetic investment instruments, investment trusts are refreshingly old school. It is staggering to think that the first trust, Foreign & Colonial was established all the way back in 1868. Indeed many of the household names in the sector have had similar longevity with Alliance Trust established in 1888, Mercantile in 1884 and Scottish American in 1873. Some of the trusts have also kept true to their original roots, with Alliance Trust receiving just over £1 million per annum from direct oil royalties from mineral rights purchased in the early twentieth century. The concept of compound returns is demonstrated clearly by the figure that £100 invested in the trust in 1890, with every dividend received invested back into the shares would now be worth £17 million. One of the main features of the sector is that investment trusts are closed end vehicles, they are essentially the same as public companies in that they have a fixed number of shares when the company is established. This is different to unit trusts, which are open ended, in that units can either be created or redeemed, according to the supply and demand. Investor’s money is then pooled and a professional fund manager is then appointed to invest in a wide range of assets. This can provide, even the smallest investor saving £50 per month, with excellent diversification. Some trusts are general, providing exposure to all asset classes, whereas others are specialist equity sector trusts, such as Polar Capital Technology.
The introduction this year in the UK of the Retail Distribution Review has put the emphasis on lower cost, increased transparency of funds. One of the aims was to remove the financial adviser bias for certain funds, notably unit trusts, particularly if they were receiving commission payments. Investment trusts have been seen as an excellent alternative and this has led to some tremendous returns this year, particularly with the positive underlying global equity markets. Examples of this include Baillie Gifford Japan which is up 72% year to date, Witan is up 32% and Scottish Mortgage Trust is up 35%. Another feature of investment trusts that can be a real positive in years like 2013 is the ability to use gearing in the capital structure. Clearly on the upside this can enhance returns but investors need to monitor the overall level of gearing as it is essentially debt and both reduces NAV and could accentuate negative returns. All trusts will publish in the report and accounts the formal gearing policy and this will be periodically reviewed both by the fund manager and the board of directors.
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One of the other main features for investors to consider and actively monitor is the level of discount or premium that the investment trust is trading at. In simple terms, the net asset value is the available shareholder’s funds divided by the number of shares in issue. We have noted earlier that the debt will have already been deducted and there can be sometimes several NAV’s published, reflecting whether debt has been marked to market or whether current year revenue has been either included or excluded. The price of the investment trust shares will then be decided by the stock market and will typically differ to the NAV. Some long term investors will argue the active monitoring is irrelevant because over time a good fund manager will generate good NAV growth and the price will eventually follow. However there will be some investors that constantly monitor the discount/premium levels and how they differ to historical averages. Certainly there is a middle ground, in that if you are considering investing in Japanese equities for instance and the trust is trading at a 15% discount, this could be attractive. The long term historical average could have been 5% and possibly the asset class is currently out of favour, hence the wider discount. Essentially this is where Japanese investment trusts were in 2011/2012, with some major trusts standing at 20% discount levels. These are now almost trading at NAV, if not at premiums, so the investor has not only benefited from the equity rally but also the closure in the discount. It is worth noting that certain asset classes, such as small companies, typically trade at wider discounts given the illiquidity of the underlying assets. There can be wide bid/offer spreads, so that if the trust were to be liquidated there could be a significant write down in the ‘realisable’ asset value. For the industry as a whole in the most recent data the combined trusts discount stood at 15.55%. The overall NAV in 397 trusts was £111.6 billion with a combined market capitalisation of £94.2 billion. Many trusts now employ various forms of discount control measures. This is in response to a period of ‘attack’ in the last decade, where a new breed of investor, actively targeted trusts that stood on large discounts and pushed for some form of change. In some cases this resulted in trusts simply being wound up and proceeds returned to investors. In other cases there were trust mergers or a change in the fund manager. One notable example in recent years was local company Laxey Partners, which was unhappy with Alliance Trust. They pushed for both an automatic share buyback if the discount widened above 10% and also a change in the voting procedures. Thus far we have only discussed ‘traditional’ investment trusts but there are also other structures available. Real estate investment trusts focus on the property sector and are attractive in that they must distribute at least 90% of their income to shareholders. Many commercial property companies have converted to REIT status. There are also Venture Capital Trusts which were launched in 1995 to encourage UK private investors to invest in young, unquoted companies, which by their nature carry a higher level of risk. They offer income tax benefits in the year of investment and tax free capital gains. Finally, split capital investment trusts have a more complicated structure with a variety of different share classes which investors can match their needs to. These include capital shares, generally the highest risk, income shares and zero dividend preference shares. Most of these trusts will have a finite life and a defined wind up date.
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Alliance Trust The Alliance Trust represents an attractive exposure to the global equity market with 96% net equity allocation. In the past, criticism has been levelled at the performance of the NAV, however in the current year the management team have kept pace with the MSCI World Index. This has been helped by the 46% geographical exposure to North America, which has clearly been an excellent performer. The Top 10 includes heavyweight names such as Pfizer, Walt Disney, United Technologies and Visa. Other asset classes include an 8% allocation to bonds and some 4% in private equity. The trust also owns the operating company which has been gathering decent assets and operates the foremost savings plan in the industry. In keeping with the activist requests, there have been good share buybacks, although the discount is still 12.5%. Still offers an attractive entry point.
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Baillie Gifford Japan
Brunner Investment Trust
Words are hard to find for the NAV performance of the Baillie Gifford Japan Trust in the last year, up some 80%. The trust aims to have a relatively concentrated number of Japanese stocks, on average 40-70 companies, focused on the small to medium sized market capitalisation range.
Brunner is a global, equity, growth focussed investment trust which is managed by Allianz Global Investors. The trust currently stands at a relatively high 16.4% discount. Equities are split 44% in the UK with 21% in North America and 12% in Europe. In rising markets the NAV has underperformed given the current 12% cash weighting.
There is also reasonable gearing with approximately 12% currently. This, combined with superior stock selection has led to a significant out-performance of the benchmark and is a key reason behind the trust currently trading on a 4% premium. Despite this, the trust still has many attractions and offers a diversified way to get exposure to Japanese growth stocks, often with broad themes such as the internet.
The Top 10 includes many Blue Chip names such as Royal Dutch Shell, HSBC, GlaxoSmithKline and Rio Tinto. Brunner has an impressive dividend history with 42 consecutive years of dividend growth. With relatively low gearing and largely developed country equities, Brunner is an attractive trust for low risk investors.
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Currency Review Foreign Exchange Sterling
Euro
Sterling performed strongly over the quarter following positive news about the UK economy. Growth was confirmed to be in line with expectations at 0.8% for the third quarter following 0.7% growth in the second, the Office for National Statistics released in late November.
The Euro stumbled after the European Central Bank unexpectedly cut interest rates from 0.5% to 0.25% in early November in response to fears of looming deflation across the Eurozone. Inflation fell to 0.7% in October, the lowest level since January 2010, and the news prompted further speculation that the ECB might cut its deposit rate into negative territory for the first time. However, the Euro enjoyed some rebound following propagating remarks form Mario Draghi, as German inflation accelerated above estimates in November and through the emergence of positive manufacturing and service output figures. The Euro gained on Sterling over the quarter, a figure perhaps enhanced by ending the third quarter at an 8 month low, but also significantly boosted by tightening liquidity and as European banks repatriate funds in preparation for an ECB Asset Quality Review.
Household spending grew by 0.8% and investment growth intensified to 1.4% from 0.8%. The Monetary Policy Committee is expecting UK unemployment to fall below 7%, much sooner than the expected forecast of late 2016. This was the figure that would be linked to a rise in interest rates according to forward guidance from the MPC this summer. However, the Bank of England have dissuaded the notion that they are in a rush to increase interest rates with Mark Carney assuring that the MPC, “could imagine scenarios where the unemployment threshold is reached and that the best policy option at that time is to keep rates at current levels because the trade-off between output and inflation is attractive”.
Japanese Yen Data coming out of Japan this quarter has signalled a slowing economy and the trade deficit has weakened considerably as greater fuel purchases have led to soaring imports –Japan is currently relying heavily on imported fossil fuels because any Nuclear power plants which had been reactivated after the 2011 Tsunami have since been deactivated for safety checks. Shinzo Abe, Prime minister of Japan, remains committed to his focus upon inflation and the Bank of Japan are working on contingent plans for further economic stimulus, action which the market fully anticipates as reflected by a weakening yen.
The UK trade deficit also narrowed slightly, albeit larger than forecast, and the recent strength of sterling will be to the trade deficit’s detriment. Carney believes that a major threat to the UK recovery will be the risks associated with weak growth in the Euro zone and emerging economies and expects forthcoming export demand to remain subdued.
Major Market Currencies Spot Returns | Fourth Quarter 2013 1.08 GBP/USD
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Articles have been written by Chris Bell, Stephen Kelly and Paul Martinez
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Australian Dollar
South Korean Won
The Reserve Bank of Australia has been concerned with what they consider to be an uncomfortably strong dollar and, whilst record low interest rates have continued to act as some drag on the currency, RBA Governor, Glenn Stevens, has also hinted at intervention as an option. The remarks have seemed to have had their desired effect with the Australian Dollar depreciating significantly over the quarter, currently floating just below 90 US cents, the figure below which Stevens said he would expect it to remain in the long term. Weaker economic data from China, Australia’s largest trading partner, may have also supported the move.
Most emerging market currencies have shown weakness following rising US yields and the increasing expectation of tapering by the Federal Open Market Committee. Some have shown resilience, or even strength, notably the South Korean Won which is increasingly believed to be being considered a “safe-haven” currency. Positive growth figures and very solid current account surplus saw the Won perform strongly during the quarter despite the Bank of Korea signalling that it may intervene to limit excessive valuation whilst already going some way to building up its foreign currency reserves.
Emerging Market Currencies Q4 GBP| Spot returns - Emerging Spot Returns Fourth Quarter 2013 Market Currencies Romanian Leu South Korean Won Polish Zloty Czech Koruna Bulgarian Lev Chilean Peso Brazilian Real South African Rand Indian Rupee Argentine Peso -6%
-4%
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Group Updates Manx Executive Challenge 2014 This year one of our members of staff, Daren Ward from our Business Development and Marketing Team, will be taking onboard a new challenge that of the Manx Executive Challenge. This centres on a project set by a sponsor which are real and of strategic importance to the Isle of Man and provide a unique, invaluable experience for those taking part. The Challenge offers the very best combination of real, hands on experience together with formal learning. Participants will work with people from a variety of business sectors on a project of strategic importance to the Isle of Man.
Participants are selected and formed into teams combining people from public, private and third sector backgrounds. A number of economic sectors and industries are represented including manufacturing, international financial services, public services, banking and retail. Educational background is less important than experience, attitude and the commitment to succeed. Team Red’s challenge is that the provision of community transport on the Island is struggling to meet the needs of local communities and the economic costs are significant when assessed against the benefits. They have to identify the barriers to success in this area, so that a clear strategy can be established which identifies the key transport needs across the Island and possible alternatives to enhance the current provision at a justifiable cost. Most importantly, what innovative solutions can be identified, which will improve community transport and increase the economic potential of the Island while recognising social aspects of community transport? Each Team is judged on a written report and a presentation made to the judges and audience including politicians, business and professional people. The report needs to identify a clear, creative and ideally groundbreaking way forward, whilst at the core of the document there must be a fully costed business plan. The Challenge is run every two years by the Chartered Management Institute’s Isle of Man Branch in partnership with the private and public sectors. For more information on the Manx Executive Challenge please go to www.mec.im.
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Donations & Customer Sponsorship Survey 2013 We would like to take this opportunity at the end of 2013 and going into 2014 to thank all those that have contributed, donated, particpated and sponsored our charity and fundraising events over the last twelve months. We are ever more aware of our community and social responsibilities, and involvement in charity work is becoming a vital component of Corporate Social Responsibility (CSR) strategy. We have significant experience of working with business partners of all sizes in a range of different activities, which now forms a key part of our CSR strategy while raising vital funds and awareness of those charities and third sector organisations that need our help.
Customer Survey 2013 | focusing on our customers In the summer of 2013 we delivered our second customer survey and we would like to thank everyone who responded and provided us with your honest and comprehensive feedback. We asked you to tell us your general level of satisfaction, in relation to the service you receive across the Capital International Group. We are delighted to report that over 91% of respondents stated that they were more than satisfied with our level of service.
Contributions through donations and sponsorship has totalled over £12,500 From local, worthy causes to the lieks of Red Nose Day and Children in Need through our Social & Charity Committee we have managed to raise a total sum of £4,517.31. A large majority of which went to Island-based charity organisations. On top of this we also have a Sponsorship Team that looks at how we can improve the community, the opportunities for those within and those that support the community. In addition to the traditional sponsorship methods, we have offered our time through Junior Achievement, Douglas Development Partnership and various other worthy causes around the Island. We’ve helped charity organisations to strengthen their brand and identity with our marketing team and have provided kit, funding and training for young sportspeople.
We have seen an encouraging increase in the use of our online valuation service over the last 12 months. Our operational team are constantly looking at ways to improve the online service and hope to be able to provide some additional functionality during the course of 2014. We are very proud to demonstrate that we listen to your comments and take positive action. Our core values are innovation, integrity and excellence and we are focused on providing you with the service you expect from us. Overall, the survey gave us a considerable amount of interesting, objective and constructive feedback and we will continue to make improvements to our service delivery and your overall experience. There are always improvements to be made and that is exactly what we intend to do. Our survey is not the only opportunity for you to let us know what you think about our products and services, as well as the day to day service you receive. Please get in touch with your Account Executive at any time or if you wish, you can contact us via e-mail at info@capital-iom.com.
Further Information For more information go on-line to our web portal at www.capital-iom.com or alternatively contact us at the details below: E-mail: Website: Telephone: In writing:
info@capital-iom.com www.capital-iom.com +44 (0) 1624 654200 Capital International Group Capital House, Circular Road, Douglas, Isle of Man, IM1 1AG
This document does not constitute an offer or an invitation, by or on behalf of any company within the Capital International Group of companies or any associated company, to buy or sell any security. The information contained herein is believed to be correct, but its accuracy cannot be guaranteed. Any reference to past performance is not necessarily a guide to the future. Opinions constitute our judgement as of this date and are subject to change. The company, its clients and officers may have a position in, or engage in transactions in any of the securities mentioned. The price of a security may go down as well as up and its value may be adversely affected by currency fluctuations.
Innovation Integrity Excellence
Capital International
www.capital-iom.com T : +44 (0) 1624 654200 F: +44 (0) 1624 654201 E: info@capital-iom.com Capital International Limited is a member of the London Stock Exchange Capital International Limited is a member of the Capital International Group Capital International Limited is licensed by the Isle of Man Financial Supervision Commission Registered Address: Capital House, Circular Road, Douglas, Isle of Man, IM1 1AG
Winner 2010 Company of the Year
Capital International Group Isle of Man Newspapers
awards for
excellence
in
CIL - Investment Review Q3 - 2013 - V1.01-01.14
Capital International Limited Capital House Circular Road Douglas Isle of Man IM1 1AG