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Pioneer Investments: “Earnings Growth Will Be the Dominant Driver of Returns for European Equities”

Pioneer Investments: “En renta variable europea la clave ahora es estar atentos a los beneficios empresariales ya que si crecen, las bolsas continuarán subiendo” — Fiona English, courtesy photo. Pioneer Investments: “Earnings Growth Will Be the Dominant Driver of Returns for European Equities"

The arrival of capital flows into European equities coincided with the reduction of political risk in the Old Continent after the first round of French presidential elections. But with the German and Italian elections on the horizon, the question is whether the fundamentals will continue to support the upturn. Fiona English, client portfolio manager at Pioneer Investments, talks with Funds Society about het outlook for European Equities.

Europe has received a big amount of inflows in the last quarter, but is it sustainable? Are the fundamentals supporting this performance?

Indeed flows coincided with the reduction in political risk following Round 1 of the French presidential Election as investors believe the chances of fragmentation within the Eurozone has subsided. That said, in reality there are 4 main drivers of European Equities which combined suggest that the performance of the European market can continue– 1) better economic growth, 2) better earnings growth 3) reduced political risk and 4)flows into the asset class

We are experiencing quite synchronized global growth at this moment and with 50% of earnings for European companies lying outside the Eurozone, this clearly provides a support to earnings potential for European companies. Within this, European GDP Growth is likely to strengthen this year with our Economists forecasting 1.8% for FY 2017. The key here is for companies to translate the more supportive economic backdrop into earnings growth and we are witnessing signs of this. In Q1 on aggregate, 46% of companies beat consensus estimates by 5% or more, while just 22% missed, pointing to the strongest quarter since the Q2 2007.

This and the reduction in political risk within the Eurozone has given investors the confidence they needed to return to the asset class with 18bn of inflows in the last 2 months alone.

In our view, for the market trajectory to be sustainable – we need to see confirmation of earnings growth continuing as we move through Q2 and Q3 this year.

Have investors lost the train in European equities after the rally seen in April and May?

While the rally was swift, we still believe there is more to go if earnings growth proves sustainable. The asset class remains underowned with many international investors now beginning to consider European equities “investable” again.

In fact despite the rally, European Equities have seen a slight reversal of this trend since mid-May with the market moving sidewards at best and underperforming the US market. There is probably an element of seasonality at play and the market is likely seeking another catalyst to move higher from here. We believe this will come in the form of a confirmation of further earnings growth. Any further weakness may provide a good buying opportunity as we move into the second half of the year.

Where are you finding the most attractive opportunities and what areas are you avoiding?

Given we believe that earnings growth will be the dominant driver of returns from here and in line with our investment process, we believe the most consistent way to generate performance will be through good stock selection. We do not believe that earnings growth will happen across the market as a whole but rather you must look for the companies which have a strategic competitive advantage and the ability to capitalize on better economic trends and convert it into better earnings growth. In this environment, stock selection will be key to performance.

How have you positioned your portfolio to take advantage from the rally?

We have looked to keep quite balanced portfolios not favouring any one area of the market but looking for idiosyncratic/stock stories which we believe have the potential to deliver medium term outperformance. For example, most of our portfolios are overweight Industrials at this moment due to the number of individual compelling investment cases we find there. The sector offers a number of different business models which will benefit from the more positive macroeconomic tone but also strong companies which have a strategic advantage that allows them to translate this into earnings growth. Finally valuation is clearly always important and we look to seek the correct entry point which should allow us upside potential from a valuation standpoint.

Is it the right moment to invest in more risky assets within equity or should we be more cautious?

The key for the equity market is to see greater earnings growth – if this happens we believe the market can move higher.

Do small-caps look attractive versus large-caps?

We see opportunities in all areas of the market. Finding value should be less focused on market capitalization but more on individual companies and their ability to deliver.

Thornburg Investment: “We Are Interested in those Companies that Are Willing to Share their Profits with Shareholders”

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How can an attractive dividend yield be achieved without giving up future growth and capital appreciation? Thornburg Investment Management looks for global stocks with a solid history of dividend payments and the capacity to increase their dividends over time. Thus, to provide an additional source of income, it also invests in bonds and hybrid securities.

Thornburg Investment Income Builder invests in a broad spectrum of securities that generate recurring income, at least 50% of its core assets are dividend paying shares, while the rest of the portfolio is composed of the fixed-income securities that serve as support.

Thornburg points out the historical importance of dividend yield as a component of shares’ total return. According to a study conducted from 1871 to 2001 over 10 year periods, shares with high payout ratios generated higher future earnings growth rates. In contrast, those companies that distributed a smaller percentage of their profits in the form of dividends, generated negative real earnings in the future.

“When selecting stocks, we focus on those stocks that have the capacity and willingness to pay dividends. By capacity, we mean those businesses that are able to generate cash flows, whereas willingness is more related to the dividend policy that the members of the Board of Directors and the management team have decided to implement. In that respect, we are interested in those companies that are willing to share their profits with shareholders,” they remarked.

Where are the best opportunities?

Diversification is important to the strategy’s performance. Looking at the expected dividend yield for 2018 by country of origin, the UK and Australia are at the top with 4.5%, well above the global average. These are followed by the Nordic countries’ stocks with an average of 3.7%, European stocks (excluding the United Kingdom) with an average of 3.6%, Latin American stocks with 3.5% and Canada with 3%.

“Dividend yield varies considerably around the world. Japan and the United States are among the countries with the lowest dividend yields, with 2.3% and 2.2%, respectively. In Japan’s case, companies are known to accumulate high levels of liquidity, without giving productive use to this cash. In the United States, however, the issue is related to double taxation of dividends: when a company generates a dollar in profit, it taxes 36% at the federal level. In addition, once profit is distributed as a dividend, the shareholder is taxed once more, causing more than half of that dollar generated to end up in the hands of the government. In that respect, we expect some kind of tax reform in the United States to improve the distribution between government and investors, although we don’t believe that double taxation will be eliminated.”

If you evaluate geographic regions in detail, there are higher dividend yields outside the United States, particularly in the United Kingdom, where there is a strong dividend payment culture and no double taxation on dividends. Generally speaking, a high dividend yield is offered in Europe, as there are more quality companies controlled by a family group, which demand the payment of dividends as part of their remuneration.

According to Thornburg, by sectors, there are attractive opportunities in the telecommunications sector, which is why the strategy allocates almost 20% of the portfolio to this sector. The exception is in telecommunications companies in Latin America, which have a lower dividend yield than in the rest of the regions. This is because Latin American companies are currently building their network systems, which requires high cash flows and limits their ability to distribute dividends.

Another sector with high exposure in the portfolio is the financial sector. Except in the United States, the dividend yield of the financial sector is far superior to that of other sectors due to its dividend payment policies. However, they expect that the capital requirements policies demanded of the US banks will change and allow an increase in the distribution of their profits as dividends.

Finally, Thornburg sources point out that it is quite common for the PE and forward PE multiples of the portfolio to be two or three decimal points cheaper than the market as a whole.

As regards fixed income, the fund takes advantage of the flexibility provided by the mandate to reinforce dividend yield with the coupons received by the corporate and hybrid debt instruments in which the portfolio invests. The strategy, with a benchmark index of 25% of the Bloomberg Barclays Aggregate Bond index and 75% of the MSCI World index, currently has a fixed income allocation of less than 10% (As of 5/31/17) because, according to Thornburg’s managers, prices in the fixed income market are manipulated by the effect of central bank actions. They expect this situation to continue until there is a clear change in trend; and they will strive to increase their debt position only when this adjustment will benefit shareholders.

MFS Investment Management: “We’re Going Through an Unprecedented Period, Markets Are Becoming More Efficient, but Much More Complex”

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The 2017 MFS Annual Global Analyst and Portfolio Manager Forum was held from the 15^th to the 17^th of May in Boston, where the international asset management company, MFS Investment Management, is headquartered. The event was attended by professionals from the wealth management industry and fund analysts from the Offshore and Latin American markets, to meet with the firm’s investment teams and product specialists.

Lina Medeiros, President of MFS International Ltd., was responsible for welcoming over 145 attendees, mostly from Argentina, Chile, Uruguay Brazil and US, who participated in the event. During her speech, she pointed out the company’s pioneering nature in the asset management industry, a track record spanning over 90 years, and that the company remains committed to offering portfolios with strong risk-adjusted returns, low turnover, and high active share.

Medeiros then stressed the long-term nature of MFS’ strategies and the firm’s values: teamwork, constant evolution in the search for long-term solutions for clients, and an absolute commitment to its fiduciary responsibility. She spoke of the firm’s ethos, which is “always doing the right thing for the client” with the greatest dedication possible, and reminded the attendees that the MFS team loves what it does: “We believe that what we do is to help people. Having clients who trust us to manage their wealth is a huge responsibility, and that generates a deep satisfaction that inspires us to remain firm in our convictions.”
It is due to this work ethic, in part, that more than 90% of the firm’s investment vehicles, the MFS Meridian Funds, are in the first half of their respective Morningstar categories over 5 and 10 years as of 31 March 2017. In addition, approximately 70% of the funds rank in the first quartile against their Morningstar peers over 10 years.

A Diversified Business

MFS has more than US$ 450 billion in assets under management. Medeiros presented this figure and defended a solid business model, with capacity to continue leading investment partner of choice in the future due to the firm’s diversified approach across three different dimensions: by channel, by style and by region. MFS institutional business represents about 68% of client assets, with the remaining 32% in retail client accounts. In addition, at the product level, the company offers broad classification by asset class, with its thorough knowledge in different equity disciplines as well as its renewed focus to broaden and deepen its capabilities in fixed income. Finally, at the geographical level, 77% of the business comes from the Americas region, a fact that should not be surprising given the US origin of the firm, strong US-Canada commercial ties, and more than 25 years of presence in Latin America. However, MFS is also devoting considerable resources to grow inEurope and Asia, which they hope will be noticeable in the coming years.

Which Issues are Investors Losing Sleep Over?

Prior to the conferences which followed, Ms. Medeiros presented the results of a study carried out by MFS at the end of last year. In this survey, more than 800 financial advisors and 450 professional buyers were asked which were their main concerns over the next 12 months. For these investors, geopolitical tensions and instability are as relevant as market-driven issues. Another one of the conclusions emerging from this study is that, as far as investment factors are concerned, for clients, the return on a product is just as important as how that return is achieved, showing that the qualitative aspects of the investment process are noteworthy.

Medeiros concluded her remarks by pointing out, that even for long-tenured investment industry professionals, this is an unprecedented period. She stressed that investors should become accustomed to lower-than-expected returns, given the US interest rate environment: “Financial markets, despite being more efficient, are becoming increasingly complex.”

An Overview of the Event’s Agenda

Taking a closer look at MFS Investment Management’s capabilities, Michael Roberge, CEO, President and CIO, reviewed the key differentiating elements of its approach: the search for opportunities through active management, a long-term investment horizon, and risk management .
Later, during the talk entitled “Disruptions, dichotomies, and destinations,” Erik Weisman, the firm’s chief economist, gave his views on the disruptive nature of technology and innovations derived from “Big Data”, as well as the effects they may have on the global economy and on the investment environment.

Following this line of discussion, four equity analysts from the technology and capital goods teams presented the implications of the changes that are occurring in the automotive industry: the vehicle of the future will be autonomous, electric, shared, and connected to a network.

The event also looked at the impact of recent regulatory changes in the financial services industry. Martin Wolin, Chief Compliance Officer, together with a panel of professionals, reviewed the main regulatory developments in the United States and Europe, focusing on the OECD CRS regulations, the MiFID II directive and money laundering prevention policies.

To analyze the global geopolitical situation in detail, MFS invited Alexander Kazan, Managing Director of Global Strategy for the Eurasia Group, who reviewed the economic and political dynamics of the global scene, including China, Russia and the Middle East.

With a focus on the US and other developed markets, James Swanson, Chief Investment Strategist, conveyed his concern about the disconnect between market sentiment and key economic data. Meanwhile, Bill Adams, CIO of the Global Fixed-Income Department, detailed the management company’s ability to find value in credit markets worldwide.

These presentations were accompanied by a series of breakout sessions on the range of MFS products, with the participation of its European, US, and Global equity management teams, as well as the teams from the global fixed income department, including emerging markets, and investment grade corporate debt.

Closing the conference, José Corena, Managing Director for the Americas, reviewed the main topics discussed during the event and thanked the attendees for their presence.

Disappointment in Argentina After Not Recovering Emerging Market Status, While China’s Inclusion is Poised to Redefine EM Investing

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MSCI mantiene a Argentina como “mercado frontera” — Photo: Danielsantiago9128. Disappointment in Argentina After Not Recovering Emerging Market Status, While China's Inclusion is Poised to Redefine EM Investing

MSCI Argentina Index will not be reclassified to Emerging Markets status, at least until 2018, as investors expressed concerns that the recently implemented market accessibility improvements, including the removal of capital controls and FX restrictions, needed to remain in place for a longer time period to be deemed irreversible.

MSCI said in a press release that “although the Argentinian equity market meets most of the accessibility criteria for Emerging Markets, the irreversibility of the relatively recent changes still remains to be assessed.”

This decision hurt the Argentinean stock exchange and forex position. Argentine stocks also receded on Wall Street, state oil company YPF was particularly affected. According to Jonatan Kon Oppel, Director at Inversiones y Gestión “the decision to keep Argentina under review as an emerging market makes it clear that while the country managed to make important changes in economic policy, the sustainability of these changes is so important As the policies themselves.” The analyst added that “there is little time left for the elections and the government still lacks seats in Congress to make the structural changes it needs.”

In the Meantime, the MSCI approval of China A-shares inclusion in their benchmark Emerging Markets and ACWI indices is likely to redefine the way investors invest in emerging markets. Howie Li, CEO, Canvas at ETF Securities, one of the world’s leading, independent providers of Exchange Traded Products (ETPs), mentioned that the investment landscape for emerging markets is now confirmed to change with the inclusion of China A-shares into MSCI’s Emerging Market benchmark, given demand for domestic Chinese equities is likely to increase.

Analysts at Allianz GI expect around USD 20bn of inflows as a result of this index change. “This is less than half a day’s trading volume on China A share markets. The longer-term implications are probably more significant, as this USD 7 trillion market cap opportunity becomes increasingly accessible to global investors. Inclusion in widely-followed global indexes means that an investment in China A shares moves from off-benchmark (and therefore can be easily ignored) to an active asset allocation decision. As the weight in indexes increases over time – as has been the experience in other emerging markets – then increasingly China A shares are likely to become too big to ignore for much longer.”

Investec: “With a Multi-Asset Strategy, the Investor Perceives Greater Protection”

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Investec: “Con una estrategia multiactivo, el inversor percibe que está más protegido” — Foto cedidaJustin Simler, Investment Director at Investec / Courtesy photo. Investec: “With a Multi-Asset Strategy, the Investor Perceives Greater Protection”

Multi-asset strategies continue to gain weight in response to the current market environment. For Justin Simler, Investment Director at Investec, “it has become a reality everywhere, and the reason it is commonly demanded by investors is because it offers greater profitability, taking into account the relationship between the risk assumed and the return on investment.”

Simler speaks from his experience as Investment Director with the Multi-asset team at Investec Asset Management and, therefore, responsible for the management of processes and products throughout the range. “Investing in single assets forces you to follow a single market and is an attractive option, but what happened in 2008 remains fresh in the memory of many investors. With a multi-asset strategy, however, the investor perceives protection,” he points out.

As an example of this, Simler cites the Investec Global Multi-asset Income fund, which is marketed in Spain by Capital Strategies. It is a flexible fund with a maximum in equities of 50% per prospectus, but which has never surpassed 34%. It can invest in government or corporate bonds, as well as in all countries, but maintaining a minimum of 35% in countries within the European Economic Area.

“The focus of our multi-asset strategy is different from other strategies of this type. When selecting the assets, we take into account the fundamentals, as well as their valuation and the behavior of their price in the market. And when we build the portfolio, we establish an optimal mix between growth, defensive and uncorrelated assets, with the goal of earning attractive long-term income,” Simler says about the fund.

In this respect, the three key drivers of Investec’s strategy are: “a resilient portfolio built from the bottom up, structurally diversified and actively managed, and limiting downside risks,” he adds. In growth type assets, the fund considers corporate stocks, high yield, emerging market debt and private equity, amongst others; While among defensive assets it takes positions in government bonds, investment grade bonds and indexed bonds. Regarding the search for uncorrelated assets, it focuses on sectors such as infrastructures, insurance and assets of relative value.

As Simler points out, the three investment areas that they consider are: United States, Europe, and Emerging Markets. “In equities, we are moving away from the United States, although we remain in certain sectors like the technological one, which has allowed us to make a lot of money. Even though it’s not a matter of choosing between American or European equities but rather of being very selective with the securities chosen and the exposure that is taken. In general, we believe that we must take advantage of European fragmentation to keep the best assets,” he says. The political uncertainty experienced in Europe has also made him cautious, focusing his portfolio on emerging markets and Asia.

Within emerging markets, Brazil and Australia are the countries he places the greatest emphasis on. “For example, in Brazil, government-backed bonds offer a good quality option,” he cites as an example.

Economic Environment

Although political instability seems to have calmed down and global growth continues, Simler believes we still shouldn’t let our guard down. He is particularly concerned about the probability of recession and watchful of any economic signals pointing to that possibility.

“We are in an environment where there is growth in the United States, Europe and the emerging countries. For now, we believe it is unlikely that there could be a recession in the short-term. However, there are certain risks that are beginning to grow. And of course, the political risks around the Euro zone, in particular the Italian elections and the growth of that anti-European sentiment,” he says.

ETF Usage is Accelerating in Latin America

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Although exchange-traded funds are a relatively recent addition to institutional investing in Latin America, ETFs are quickly taking on an important role in institutions’ portfolio management toolkits. Based on the results of interviews with 50 Latin American institutions and trends among institutions in markets with a longer history of ETF investment, Greenwich Associates expects that process of integration to continue and even accelerate in Latin America.

The study finds that, like their counterparts in other regions, most Latin American institutions are starting out with relatively small allocations to ETFs, mainly in equity portfolios. “Through these initial investments, institutions are discovering the efficiency and versatility ETFs can bring to their investment portfolios. As they do so, they are expanding their use of ETFs to fixed income and other asset classes, as well as to a growing range of portfolio applications”. Institutions in Latin America are introducing ETFs to their portfolios first and foremost as a means of obtaining long-term strategic investment exposures and diversifying portfolios. They are then extending ETFs to a host of additional applications, ranging from tactical adjustments and portfolio completion to enhancing portfolio liquidity.

Latin American institutions that use ETFs now invest an average of 7.6% of total assets in them, with allocations poised for growth in 2017. Of Latin American institutions currently investing in equity ETFs, 68% expect to increase allocations next year, with 64% planning increases of more than 10%. More than two-thirds of Latin American institutions currently investing in fixed-income ETFs plan to increase allocations in the next year. Greenwich Associates expects ETF growth rates to accelerate in 2017 and beyond due to several ongoing and emerging trends:

Institutions around the world are experimenting with new and innovative ETF fund structures to help them manage mounting levels of volatility and other challenges facing their portfolios. In Latin America, more than 50% of institutional ETF investors invest in smart beta ETFs, and half of these users plan to increase allocations to them in the next 12 months. Demand appears strongest for smart beta ETFs that generate income and help institutions manage volatility.
Current impediments to investment will give way as Latin American institutions gain experience with ETFs. Factors such as limited availability of ETFs, internal investment guidelines that limit or prohibit use, and concerns about ETF liquidity and expenses have initially slowed the adoption of ETFs in other markets. All of these factors have eased over time as institutions saw early adopters using them safely and effectively.
Institutions will continue integrating ETFs into the mix of investment vehicles they employ in their portfolios, alongside and as replacements for derivatives and other products. Nearly 60% of institutions that use derivatives have diversified their mix of investment vehicles in the past year by replacing an existing futures position with an ETF—mainly for operational simplicity and reducing costs. Looking ahead, 42% of ETF users plan to evaluate existing futures positions in both equity and fixed income for potential replacement.
Institutional demand for ETFs in Latin America will get a boost from the continued proliferation of multi-asset funds. Following a global trend, approximately 40% of Latin American asset managers that invest in ETFs are using them in multi-asset funds and are investing 14% of total assets in ETFs. As Latin American managers launch multi-asset funds, Greenwich Associates expects ETF allocations within those funds to increase.
UCITS ETFs will provide new opportunities for investment. Latin American investors are beginning to initiate their first UCITS trades and are pleasantly surprised by their benefits, including tax and operational efficiencies. As institutions become more familiar with ETFs and seek new ways to employ them, UCITS ETFs will become a significantly larger part of the Latin American investment universe.

“We are About to Witness a Record-Breaking Expansion Cycle in the United States”

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"Estamos a punto de asistir a un récord de ciclo expansivo en los Estados Unidos” — Foto cedidaDavid Bianco, Chief Investment Strategist para las Américas de Deutsche Asset Management. Foto cedida. “We are About to Witness a Record-Breaking Expansion Cycle in the United States”

After more than 150 days of the Trump administration, David Bianco, Chief Investment Strategist for the Americas at Deutsche Asset Management, during this interview with Funds Society, explains his perspectives on the markets, particularly on the American investor, with an optimistic look at the expansion cycle in this region.

The expert denies that stock markets are over-priced, due to the current level of interest rates, and he is confident of rises in the S&P 500 this year, especially in sectors such as technology, healthcare, and big banks. Trump’s tax reform should be a catalyst for US companies and not providing too many negative shocks, explains Bianco in this interview.

Broadly speaking, what major concerns are there currently in the US market?

What we have been discussing with other investors is that, rather than worrying about whether the market will rise by 3% or by only 1%, we should pay more attention to the expansion cycle. We are about to witness a record-breaking expansion cycle in the United States: the record until now was 10 years, from 1991 to 2001. If the cycle goes beyond the summer of 2019, we will be facing a new expansion cycle record. Forecasting is difficult, but I believe it will continue – and without recession – until at least 2020, and we could see a 12 year record of increases in the United States.

Do you believe that American stocks are overvalued?

It’s evident that we have high P/E Ratios in relation to historical values. The P/E Ratio according to last year’s profits has been 19.5 and the estimated P/E Ratio will be 18 or 18.5. Thus, the S & P 500 index has a 20% premium over its historical valuation, since in 1960 we had a P/E Ratio of 16x, reason why many consider the market is expensive based on historical standards.

But I believe it is justified, because interest rates are very low compared to historical rates and therefore stocks are still cheap when compared to interest rates and bonds. In my opinion, interest rates are the key when estimating whether the P/E Ratios are expensive or have upside: we have been expanding for eight years and interest rates remain very low in historical terms, and they remain low for structural reasons, not because the economy is weak. Thus, we are facing a secular decline in interest rates structurally that would justify these P/E Ratios.

I think interest rates will rise somewhat, but not much. I think the Federal Funds interest rate is going to rise to 2% by the end of 2018 and that the yield on the 10-year Treasury bonds will not exceed 3% during the remainder of the cycle.

What is your price target for the S&P 500?

My year-end price target for the S&P 500 is 2,400 points, but if the tax reform announced by the Trump administration takes place, I think the index could surpass 2,450 points. If it doesn’t end up happening, we would be at levels of 2,350.

What type of economic reforms do you think the Trump administration will be able to carry out?

The most important reform for the economy and markets is the corporate tax reform; I do not think they will implement the border adjustment tax. Republicans will be in haste and would want to carry out something simple and significant, and one of the most effective and simple economic measures is to lower the tax on businesses, something that the United States can afford, since tax collection through this tax is not so high and would be good for the economy, helping to consolidate the longevity of the expansion.

Who do you think would benefit more, small and medium-sized enterprises or large corporations?

The measure will consist of reducing the corporate tax rate from the current 35% to 25% with very few additional changes to the tax code. On the one hand, it would benefit small companies that are currently structured as “partnerships”, “S class companies” or “pass-through entities” that are paying tax on their profits, which, if they are doing well, would normally be around 40 % or the top marginal personal income tax rate. If we have the 25% corporate tax rate they will choose to organize as “C class” companies, and if they decide to reinvest their profits in growth and not pay dividends, they would then be deferring any dividend tax for many years and only be paying 25% tax vs near 40% now. But big companies would also benefit from this economic reform.

In what sectors do you think we will see growth during the next few years?

The sectors that have been behaving well, and which we are following, are technology and health, with technology performing particularly well, and I think they will continue to grow during the next three years. We also like big banks in both the United States and Europe.

Although many investors think more in terms of regions, I prefer to follow sectors and styles with the developed equity markets. In this respect, within “growth” securities in the United States we prefer technology and health, since there is almost no technology in Europe and health companies are cheaper in the United States than in Europe. And in Europe we like “value” stocks.

Where we are underinvested is in energy in the United States. We believe that oil must be above $ 60 in 2018 so that securities in the energy sector fairly priced where they trade today, and we think it will be difficult to see oil prices at those levels.

What about currencies?

I believe that currencies will be more stable than they have been in recent times, both the currencies of major countries and those of emerging countries. After all, currency stability opens the door to investing in other regions.

We believe that the Fed will raise interest rates twice more this year and probably two to three times more next year, and as this happens, my vision is that the Yen and the Euro will weaken somewhat. I think the Euro will be more between 1.05 and 1.10 dollars than above 1.10.

China could be interested in a slightly weaker currency in order to make its exports more attractive, but they will try to control it, since they don’t want an exodus of capital to other economies in the region.

Finally, do you consider that relations between China and the United States are going to be more hostile than in the past?

This government wants to implement a trade policy that is more active than what we have seen in recent times, with bilateral, reciprocal agreements, in which they will analyze case by case with each country to try to find opportunities to improve the trade balance. As I said earlier, I do not believe that a border adjustment tax, which is so feared for China, Mexico or Canada, will be approved.

I know that this government is very aggressive in its negotiations, but I think that what they are trying to do is to find situations with most countries where both parties win. For example, trying to have the industrial property of American products respected in exchange for not hindering imports. As long as the border adjustment tax is not passed, I am optimistic about the Trump administration, perhaps I am the only one who is.

That said, I believe that the friction between China and the US is going to be currency, rather than trade policy. It seems that the Trump administration has finally come to the conclusion that China is not manipulating the currency. Rather if they have done something, it has been to support their currency for the past two years instead of trying to make it weaker.

I think a lot of tension has been released between China and the US, and that’s why we probably hear more about tensions with Mexico or Canada. From my point of view, the relationship between China and the US is very harmonious. Another thing is the geopolitical influence, in which we are experiencing a natural transition, in which China will gradually gain influence in Asia, where the United States traditionally had it. But the business relationship with China is very important.

Matthews Asia: “Investors Have to think of Asia Within a 5 to10 Year Horizon, and not Just as an Alternative to the Current Situation”

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Matthews Asia: "Los inversores han de pensar en Asia con un horizonte a 5-10 años, no solamente como una alternativa a la situación actual” — CC-BY-SA-2.0, FlickrRahul Gupta, courtesy photo. Matthews Asia: “Investors Have to think of Asia Within a 5 to10 Year Horizon, and not Just as an Alternative to the Current Situation”

The first word that comes to mind when talking about investing in Asian equities is growth, which justifies that throughout history many fund managers have relied on macroeconomic factors when positioning themselves in the region. But the concept of macroeconomics may be subject to very different perspectives: for some, it is a question of predicting GDP growth, interest rate developments, currency fluctuations…; while for others, the focus lies on analyzing where the continent’s production is heading, what the domestic purchase and demand trends are, where middle class spending is going to… And the latter is the perspective held by Rahul Gupta, Manager of Matthews’ Pacific Tiger Fund, which, for management purposes considers the macro from that point of view, but essentially follows a bottom-up process.

As he explained recently during an interview with Funds Society, he bases his management on the thorough knowledge of the firms in which he invests; knowledge obtained by his team (with 45 members in total) by means of more than 140 research trips annually, and on-site meetings with over 2,500 businesses in Asia, even though their headquarters are in San Francisco. Because only that knowledge of the business allows him to adopt a medium- and long-term investment vision, which explains why the fund has a very low turnover, of around 20% -30%, as compared to the average, which is close to 60 %. “During periods of markets’ ups and downs, this vision allows us to take volatility as an opportunity to buy businesses that we like, because the underlying fundamentals of companies are not subject to as much volatility as the markets,” explains the manager.

Domestic Demand as the Guiding Principle

The driver of this Matthews Asia fund is domestic demand in Asia, a theme with great potential in the long term and which is distanced from other more cyclical ones, as, for example, the raw materials theme which, nevertheless, in this environment of lower prices, and with Asia being a consumer rather than a producer, is benefiting the consumption story. The manager, therefore, focuses his analysis on understanding the dynamics of demand in each country, which are very different depending on the stage of development of the market referred to within the continent.

“The issue of sustainable living and industrialization will make economies more productive and lead to an increase in wages, fundamental pillars for building a consumer society in Asia, which is more developed in markets like Taiwan, while in others it is only in its initial stages,” says the expert. For example, the potential in India for the next few years is in sectors such as automobile or insurance, while in China the growing wealth will lead to heavy spending on leisure, travel, cosmetics, mobile phones, or health.

Regarding the opportunities in the financial sector, the asset manager distinguishes between the countries of North Asia, where the banking sector is more developed but where the insurance business has less penetration and offers more opportunities, and the countries of the South, where, in some cases, such as India or Indonesia, the population does not even have current accounts, and the banking sector, therefore, has great potential. Although Gupta is aware that debt problems in China and its banks could impact on the rest of the continent, he believes that this concern is manageable and focuses on other Chinese sectors, beyond banking and with very little leverage, like consumption. “Debt is manageable and will not impact the Chinese economy in general or other sectors in Asia,” he says.

Bias Towards the Less Developed Asia

Although the Matthews Asia fund invests across the continent, the bias is clearly towards more developing countries, which offer more potential for growth, and where asset managers find “more opportunities, quality businesses and sustainable growth,” explains Gupta. Because the point in this case, with this dynamic of consumption as the backbone of the portfolio, is to find businesses (hence the bottom-up analysis) with three characteristics: that they are good and able to grow over a cycle (“they don’t necessarily have to present the fastest growth, but sustainable growth”, says the asset manager), and which have good management and an attractive valuation. However, due to the growth they offer, these names are sometimes more expensive than other parts of the market, although the asset manager says that in the end they are more profitable, and what’s involved here is the search for alpha creation opportunities.

The other bias is the underweight of more cyclical sectors, such as raw materials and energy, which do not offer that sought after sustainability in growth. And the third bias is its larger allocation than the average to businesses with a small and medium capitalization(between $ 3 billion and $ 5 billion), which usually accounts for 40% of its universe: “Historically, we find more opportunities or sustainable growth, and less linear in these firms, and that leads to the creation of greater alpha versus the large caps,” says Gupta.

In this respect, the asset management company controls the volatility derived from these investments, and also the one derived from the currency risk – which they do not hedge – through analysis, focused on names that grow in a sustainable way and with quality: “We focus on balance sheets and on the business in order to manage these risks, ensuring that companies generate cash flows and have capacity or price power, so that in times of turbulence or problems, they can continue to gain market share,” he adds.

Reasons for Optimism

In the long run, the asset manager is very optimistic about the story facing Asia. Among the, a priori, negative factors and which he rejects, are challenges such as the Trump effect (he considers that Asia is in a much better position than other markets like Mexico), the problems in China, (which nevertheless offers many opportunities on the consumption side, thanks to the savings of its population, and that it moves towards a more balanced growth thanks to this consumption) or the effect that the next decisions of the Fed could have: “In 2013, the first signs of monetary restriction led to sharp falls in the markets and in Asian currencies, but a lot of that has already been absorbed and we think the next rate hikes are already priced in and will not impact Asian markets,” he explains.

Among the positive factors, he points out the reforms that the region is experiencing in countries such as India (which will improve the financial ecosystem), but above all, the stabilization of the prospects of benefits in Asia after times of slower than expected growth: “After a few years, we can now talk about stabilization and the next few financial years will be interesting,” he says.

Regarding the factors that are helping to change the sentiment towards the region, the step before the arrival of flows: “After a few years of being underweight in Asian stocks due to macro concerns about China and the good performance of US equities, since early 2017 investors have moved their positions in China from negative to neutral, because the worst predictions have failed to materialize and have also seen an improvement in macroeconomics and corporate profits in Asia.” This stability in China and the story of the turnaround in Asian profits, coupled with political stability – even more so than in Europe and the US – have reassured investors and begun to change sentiment towards the region.

And that improvement in sentiment, coupled with the fact that US markets are beginning to be expensive, point to the idea that sooner or later the investors will rotate their capital, taking it to Europe and Asia. “The change in sentiment has not yet been noticed in the flows, but it is the first step. Investors have to think about Asia within a 5 to 10 year horizon, not only as an alternative to the current situation,” advises the asset manager. That is, Asia as a source of alpha and not just beta.

Carmignac’s Jean Médecin in Face of the Return of Inflation: “Step Out of your Comfort Zone, Look beyond Fixed Income Only”

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Jean Médecin, de Carmignac, ante el regreso de la inflación: “Sal de tu entorno de confort, considera salir de la renta fija” — Foto cedidaPhoto: Jean Médecin, Member of the Investment Committee / Courtesy photo. Carmignac’s Jean Médecin in Face of the Return of Inflation: “Step Out of your Comfort Zone, Look beyond Fixed Income Only”

Some years ago, we could not have imagined a world as dominated by politics as it is today. For investors, this has become a challenge, although not devoid of opportunities, according to Jean Médecin, an advising member of the Investment Committee of Carmignac. In an interview conducted in early April in Miami, Médecin shared his market view with Funds Society: “There are opposing forces: the economy is doing relatively well, but there are many fears about what will happen on the political arena. In my opinion, there is an opportunity for investors to look beyond politics and focus more on the economic environment”.

Goodbye to Globalization, Hello to Inflation

We are reaching a double peak: On the one hand, we are witnessing maximum liquidity, as central banks are normalizing monetary policy, and on the other, we are probably at the height of globalization, as with Trump’s protectionist policies, Brexit, etc., the signing of any global trade agreement becomes unlikely.

“In any case, what seems certain is that inflation will return, and you have to know how to handle it.”

In order to face this new reality, Médecin recommends studying opportunities in those countries that are better positioned to navigate this scenario. “Emerging markets are not badly positioned, despite what one may think. The United States’ trade deficit is equal to or greater with Germany than with Mexico”, he points out.

Médecin reiterates that we cannot lose focus. Although equity may seem less attractive than fixed income due to its volatility, the analysis of what has happened in the last 120 years puts the data in perspective. In nominal terms, during this period of history, we have witnessed two decades of negative returns for equity and none for bonds. However, if we introduce the effect of inflation and look at this statistic in real terms, bonds have five decades of negative returns, compared to only three for equities. “This illustrates the need to consider equities in investment portfolios. You need to get out of your comfort zone,” he says, referring to fixed income investment.

Médecin argues that we are not so much in an expansionary cycle brought about by the Trump administration’s promises, which is called Trump Inflation, but that we are actually facing an acceleration of the economic cycle that began before Trump won the elections, and has coincided with his inauguration. “The economic improvement is much broader and is not centered solely on the United States, but, for the first time in many years, is occurring globally, and therefore, is much more robust,” he claims.

In this context, notes the expert, “possibly, now is the time to be very selective, and also to start from a totally global investment universe.”

A Global Universe Expands Possibilities

Médecin cites the financial sector as an example, “It’s as important to know what you want to have in your portfolio, as, above all, what you want to avoid.” Within this sector, the banks that are trading at cheaper rates would be in Europe and Japan. The political uncertainty that Europe can present at the moment, makes the Japanese banks come out of this comparative analysis with the advantage. “I pick the Japanese banks: in terms of valuation they are the same as the Europeans, but there is no political uncertainty.”

We can look for other examples in very pro-cyclical sectors, such as the automotive industry, which should be driven by economic reactivation, but which, in the United States at the moment, has a clear regulatory risk with the possible introduction of tariffs for goods imported from Canada and Mexico. “A global investor can look for opportunities in other cyclical sectors, such as the retail sector, but we avoid American companies with mass production in Mexico, and look at companies like Inditex, Zara’s parent company, which has a business model that favors local production, making it much less vulnerable to the imposition of protectionist tariffs.”

Avoid Concentration

The interest rate environment is bullish, evidently in the United States, but also gradually in Europe. This context also represents a risk for fixed income investors, a particularly “treacherous” asset class at the moment, according to Médecin.

However, outside these two geographical areas, Médecin points out that there are opportunities in fixed income, especially in some Latin American markets such as Brazil, where real interest rates are very high and inflation trends are downward, which will gradually lead to a downward environment in interest rates. “Brazil is at the threshold of a virtuous circle in which interest rates will be reducing gradually, allowing the government to lower its cost of debt service,” he reaffirms.

However, Médecin points out that Latin American investors should avoid over-reliance on fixed-income markets in their local markets. “There are always factors of uncertainty, whether political, ecological, or economic, that do not allow you to act if you are over concentrated. I recommend expanding the spectrum. A common mistake is to overweigh what is ours, because it is what we know and trust. When it comes to diversifying, I think we should invest in those asset classes that give us an equally strong conviction.” Thus, Médecin explains that a good proxy for Latin American fixed income can be investing in the stock market in sectors that tend to behave in a similar way to a bond, such as electricity distribution in Brazil. Likewise, Latin American investors can diversify their portfolio of local bonds without leaving the region, although through equity stocks with high growth prospects, such as the regional leader in E-commerce, Mercado Libre, which is one of the most overweight positions within Carmignac’s global equity strategy.

As with equities, when it comes to fixed income Medecin points to two key aspects of investing in this environment. “Firstly, to actively manage the risk, being able to change the exposure as opportunities or risks appear, and secondly, to have a very global investment universe in order to be able to access all the opportunities as they arise.”

Some Advice on Risk Management

Médecin does not reject any particular asset. He knows that it is very difficult to anticipate disasters such as that of Lehman Brothers in 2008. However, he believes that it is essential to have the flexibility to react and to quickly undo the positions of the assets that become distorted. Carmignac has been able to react very well in times of market shocks “At the end of the day, our mandate is to protect and grow our clients’ wealth”, he points out.

In order to minimize risk, the expert points out that it is important to have adequate portfolio construction. “Do not be unidirectional in their construction”. For example, in their global equity strategy they mix a cyclical portfolio, with a growth portfolio. “We hold technology stocks, such as Facebook, which attenuate the volatility of other more cyclical sectors. In Europe, with the current elections, we do not want to be overexposed to stocks that may respond with great directionality to the outcome of these elections, whatever that may be.”

Carmignac also uses currencies as a shock absorber for these external swings. Sometimes, the management company takes positions in foreign exchange due to the belief that they will generate value. They started the year relatively optimistic on the Euro-dollar because they believed that the consensus in favor of Dollar strength was extreme and baseless.

To conclude, Médecin reiterates his warning: “We must be very prudent with fixed income, government and credit. It does not offer enough compensation for the risk involved, especially in high yield.” With regard to equities, he restates that stock selection is fundamental since the positive behavior of stocks will depend on their ability to accelerate the growth of business performance.

“In this respect, 2017 can be the year in which active management makes a comeback. Active managers tend to have much better results once central banks leave the scene,” Médecin concludes.

Unicorn Strategic Partners is Born, a New Distribution Platform of Investment Solutions

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Nace Unicorn Strategic Partners, una nueva plataforma de distribución de productos de inversión con David Ayastuy al frente — Left to right, top to bottom: David Ayastuy, Mike Kearns, Eduardo Ruiz-Moreno, Florencia Bunge and Carlos Osés. Unicorn Strategic Partners is Born, a New Distribution Platform of Investment Solutions

The new platform Unicorn Strategic Partners, an entity formed by a team of recognized professionals in the Investment Fund Industry, arrives to the Distribution Market. The firm, which specializes in the distribution of thirdparty funds, will be representing international managers in Iberia, Latin America — both in Retail and Institutional Business — and US Offshore regions.

Unicorn is defined as a solution that allows offering the managers it will be representing, a distribution platform with a first-class Asset Management Team, with an extraordinary adaptability and a consolidated track record on the distribution business in the different regions where it operates.

As Head of the project is David Ayastuy, founding partner of Unicorn SP and professional specialized in the Asset Management Industry and International Private Banking. According to Ayastuy: “Our model is based on working with a limited number of managers, maximizing at all times the capacity of positioning and distribution and avoiding any potential conflict of interest. We want managers to feel as part of their team, not only from the sales area but also in marketing, compliance, legal, operations and business development activities”.

The Unicorn model allows adapting to the particular characteristics and requirements of each of the markets. In this way, it becomes a strategic partner for many international managers in their entry to markets in which they lack local structure, and previous track record. A movement that can cause a strong wear, both in terms of resources, as well as image and positioning. Unicorn offers to these firms confronting the challenge of entering to new regions with a solid experience, excellence in service and personal relationships created by their team in each region.

From the side of the end customer, the advantages offered by a platform like Unicorn are of great added value, by facilitating a proposal that customers can receive with the best investment solutions in each of the different asset classes.

The firm will focus its activity on three key regions for the sector: Iberia, Latin America – both Institutional and Retail -and US Offshore. In this way, Unicorn is covering regions that could only be covered by having local presence, and where Unicorn professionals can properly take care of them because they have been working for decades, with strong established relationships.

Unicorn divides its business into four key areas:

– Latam Institutional. The office of Santiago de Chile, directed by Eduardo Ruiz-Moreno, will serve the institutional business of Chile, Peru and Colombia. Ruiz-Moreno, with 24 years of experience in the Financial Industry, worked most of his career as Director for Latin America and Spain at Edmond of Rothschild Asset Management, positioning this firm in Chile among the top 10 international managers, with assets of $2,000 million USD.

– Latam Retail. With offices in Buenos Aires and Montevideo. Led by Florencia Bunge, this division will serve retail customers in Uruguay, Argentina, Brazil, Chile, Peru and Colombia. For the last 16 years, Bunge has been responsible of Development and Distribution at Pioneer Investments from Buenos Aires, covering the Latin American Retail Market.

– US Offshore. With offices in Miami and New York, Mike Kearns will be in the lead. Mike Kearns developed much of his career in the Financial Asset Industry as Senior VP and Regional Director at Permal Group where he was responsible for sales and distribution in Canada, the United States and Latam. More recently, Kearns has been working on LATAM’s business development with Strategic Investments Group Ltd, where he will keep those relations with Unicorn.

– Iberia. From the Madrid office covering the Spanish Market, Unicorn will be represented by Carlos Osés, a professional with more than 25 years of experience as, among other positions, Sales Manager for Spain at BNP Paribas AM, WestLB Mellon and NN Investment Partners (formerly ING Investment Management.)

The Unicorn SP team initially will be formed by a total of 10 professionals, in addition to the support of the NFQ Group, an international consulting, solution development and outsourcing specialist in the financial sector with more than 500 employees and presence in four countries. Unicorn is letting us know that in the upcoming weeks they will be announcing the first representation agreements they have closed already.