CC-BY-SA-2.0, FlickrPhoto: Camilo Rueda López. Countdown To Brexit: What You Need To Know
Tomorrow, Britain will vote on whether or not to leave the European Union. Given the deep economic ties between Britain and the EU, “Brexit” would have implications across the global economy. “Before we understand the implications, it’s important to establish that Britain is an open economy actively involved in the global economy and heavily intertwined with the EU. Here’s what that looks like”, explains Colin Moore, Global Chief Investment Officer at Columbia Threadneedle in the firm´s Global Perspectives Blog.
Britain’s EU membership
Britain joined the EU in 1973 and is now one of 28 current member states. Nineteen of these share the euro as a common currency, accounting for around three quarters of EU gross domestic product (GDP). Britain is not part of the common currency and continues to use the British pound. The existence of the British pound with a floating exchange rate has given the Bank of England an array of policy options to manage the shocks to which Britain’s economy is subject.
The sizable impact of Britain’s role in the EU
While we may not be able to measure the precise impact of EU membership on Britain’s economy, it can demonstrate the interconnectedness of Britain and the EU. The following is extracted from the EU membership and Bank of England Report, published October 2015. British pounds have been converted to U.S. dollars based on an estimated exchange rate of 1.42.
Population
505 million people live in the EU, approximately 7% of the world’s population.
Britain is home to 12.5% of the EU’s population, the second most populous EU country.
Economies
EU is the largest economy in the world with GDP worth £11.3 trillion (approximately $16 trillion) in 2014, which is larger than the U.S. ($15 trillion).
Within the EU, Britain is the second largest economy.
The U.K. GDP was worth £1.8 trillion (approximately $2.6 trillion) in 2014, nearly one-sixth of EU output.
Cross-border trade
One-third of all global trade is with the EU, the largest exporter and importer in the world.
The EU is Britain’s biggest trading partner.
The U.K.’s exports and imports are worth 60% of its GDP.
70% of Britain’s largest import and export markets are fellow EU members.
The EU serves as the destination for or source of more than two-fifths of Britain’s cross-border investments.
Britain is one of the top destinations for foreign direct investment (FDI) within the EU and globally.
Two thirds of all global cross-border investment involves the EU.
Foreign investors own £10.6 trillion (approximately $15 trillion) of U.K. assets while U.K. investors own £10.2 trillion (approximately $14 trillion) of foreign assets.
The EU has one of the world’s largest financial service sectors, second only to the U.S.
The EU is home to 14 of the world’s 30 globally systemically important banks (GSIBs) versus eight for the U.S., and accounts for half of all global exports of financial services.
Britain is the largest financial center in the EU, with financial services accounting for 8% of Britain’s national income.
The British financial sector is heavily interconnected with the rest of the EU, with 80 of the 358 banks operating in Britain headquartered elsewhere in Europe.
A long goodbye
Global Chief Investment Officer at Columbia Threadneedle reminds that even if the referendum passes, a decision to leave the EU will not be effective for two years after a formal notice to leave is issued by the British government. The time between vote and exit would be critical to untangle the myriad of interconnections and negotiate new agreements. Agreements on trade, people movement, investment and financial services are important to both Britain and the EU. They are also important to the global economy.
Bottom line
“Overall, it is clear that a post-Brexit world would have its challenges. Only time will tell how the world reacts if Britain decides to leave the EU, but this is a global event not just a British or EU event. Many financial markets are at or above fair value and any disruption to growth would be cause for concern. In the event of market disruption caused by the vote, investors should keep in mind that an exit from the EU is not immediate and the required changes would take years to see through”, concludes Moore.
CC-BY-SA-2.0, FlickrPhoto: KMR Photography. Old Mutual AM Acquires Majority Stake In Landmark Partners
Old Mutual Asset Management (OMAM) has reached an agreement to acquire a 60% equity interest in Landmark Partners, a global secondary private equity, real estate and real asset investment firm.
The cost of the transaction amounts to around $240m in cash with the potential for an additional payment based on the growth of the business through 2018. The deal is expected to close in the third quarter of 2016.
“The overall investment is expected to result in a purchase multiple of 8-10x economic net income generated by the Landmark transaction, prior to financing costs,” OMAM specified in a statement.
OMAM said it intends to fund the closing payment using available capacity on its existing revolving credit facility or may seek alternative sources of debt financing depending on market conditions.
The firm expects the transaction to be up to 12% accretive to 2017 ENI per share.
“Landmark is precisely the kind of industry leader with whom we seek to partner,” said Peter Bain, OMAM’s president and CEO.
“The depth and breadth of their management team are exemplary and we look forward to collaborating with them to grow their existing product set and further diversify their business into emerging secondary asset classes. Our global distribution team is excited about bringing Landmark into certain domestic channels as well as new markets outside the US”, points out Bain.
Founded in 1989, Landmark has completed over 500 transactions for a total amount of $15.5bn since its launch. The company has acquired interests in over 1,900 partnerships, managed by over 700 general partners. Landmark operates through locations in Boston, London, New York, and Simsbury, Connecticut.
CC-BY-SA-2.0, FlickrFoto: Moyan Brenn. Brexit: más que un riesgo, una incertidumbre
Over the recent weeks, hedge funds have remained broadly defensive in anticipation of key announcements in June that may disrupt market conditions. As such, explains Lyxor AM, they are definitely not adding risk to their portfolios.
The Brexit referendum is the most prominent event among the near term potential disruptors. In response, several European L/S Equity managers have decided to significantly downsize their exposure to UK assets ahead of the vote. Meanwhile, CTAs and Macro managers maintain large net short positions on the GBP/USD. At the end of May, point out the firm, CTAs added to their GBP/USD shorts while Macro managers slightly reduced their short positions on the currency pair.
According to the Lyxor AM team, head by Jeanne Asseraf-Bitton, Global Head of Cross Asset Research, the mid-June FOMC meeting and the associated summary of economic projections will also be closely monitored by managers amid signals that US economic activity accelerated in Q2. As a result of such near term uncertainties, the median equity beta of hedge funds on the Lyxor platform remained below 20% during the last week of May (see chart) and edged even lower for strategies such as CTAs, Global Macro and multistrategy.
With regards to recent performance, say Lyxor AM experts, the last week of May was supportive for every strategy, with Macro and L/S Equity funds outperforming. Macro managers benefitted from their equity exposures and from the USD rally. In the L/S Equity space, variable biased managers outperformed. It is interesting to note that L/S managers with a defensive bias made the most of the market environment in May as the value rally faded. However, CTAs continued their recent underperformance. In May the Lyxor CTA Broad index was down 2.3%.
“Going forward, we maintain the preference for strategies that limit exposure to market directionality (i.e. we prefer merger arbitrage to special situations as well as market neutral and variable biased L/S to long biased managers). We also remain overweight CTAs in the midterm though tactically we advise a neutral stance as the large build up of short GBP/USD positions would cause losses if the UK opts for remaining in the EU. Finally we are neutral on L/S Credit and overweight Fixed Income Arbitrage”, conclude the Lyxor AM team.
The G7 looks like a rather anachronistic grouping. Once upon a time it was the group of the seven largest economies. Only five of the seven are still ranked in the top seven. Huge economies like China and India are not members. But to concentrate on the size of the economy is to miss the whole point of the G7. The G7 is a club of like-minded, influential economies. Taken together, the voting power of the G7 in organisations like the IMF, the World Bank, the UN and the WTO is huge. Any deal that the G7 put together between themselves has a good chance of becoming the official policy of any of these organisations.
It was Japanese Prime Minister Shinzo Abe’s turn to host the G7 meeting last week. He took the opportunity to argue that the current economic situation is as bad as the post- Lehman crisis. He noted that commodity prices had fallen by over 50% and that investment growth in EM is at its slowest pace since 2009 (chart 1a).
The scale of the commodity price movements may be similar, but that does not make them the same. There is a world of difference between a collapse in prices that comes from a negative demand shock (a recession) and one that comes from a positive supply shock (over-supply). Neither are great outcomes for commodity producers, but the positive supply shock is great news for consumers.
More interesting are not the similarities, but the differences. Emerging market growth is higher, export growth may be low but at least is positive, and the unemployment rate in the G7 has been dropping (chart 1b). And these are just a few of the comparisons. Equity markets, core inflation, confidence, you name it – all look markedly better now than they did in 2009.
So why has Mr Abe suggested such an odd and palpably incorrect comparison? What is his ulterior motive? Quite simply it looks like he wants political cover for more fiscal easing in Japan. Mr Abe had committed to raising the sales tax in March next year (a fiscal tightening) unless there was either an earthquake or an economic crisis. Hence his efforts to get the G7 to agree things are as bad today as in the post- Lehman crisis.
Regardless, deferring the sales tax looks like an obvious solution. Just look at the performance of the Japanese economy over the last decade or so. First the financial crisis hit and knocked real GDP well off its pre-crisis trend (chart 2), just as happened in most other economies. The recovery was quite rapid, but then the Tōhoku earthquake hit, and once again real GDP was thrown off its trajectory (not that the trajectory could have continued at that pace). After the earthquake, the recovery resumed at a slower pace. Then the sales tax hit, and derailed growth once again.
The experience of sales tax increases in other countries would not have given cause for concern beforehand. Consumers tend to bring expenditure on durable goods forward to avoid the higher tax, which boosts growth in the prior quarter and then slows it in the subsequent quarter. Expenditure patterns then normally recover and smooth out. But in Japan they did not. The hit to expenditure appears to be permanent. After that experience, why would you want to do it again?
Some would argue that a sales tax is necessary for fiscal solvency. But the market disagrees: they are so unworried about the Japanese fiscal outlook that they are willing to pay for the privilege of lending the Japanese government money for 10 years. Yet the government has not been keen on using fiscal policy, so they have been relying on monetary policy. But increasingly unusual monetary policy may be upsetting some of Japan’s G7 colleagues.
The international knock-on effects of monetary policy tend to be more significant than those of fiscal policy. Exchange rates are linked to relative short-term interest rates; in other words, by expectations of monetary policy in the central banks of each country. Looser monetary policy will push down your exchange rate, which by necessity means a higher exchange rate for other countries. This is why big monetary policy moves often lead to accusations of exchange rate manipulation and currency wars. It is also why in the past central banks have sometimes coordinated their easing.
It also explains why there are so many rumours that the G20 (a wider group than the G7 that includes emerging markets) put pressure on Japan to stop cutting interest rates. Given that the marginal negative rate structure the Bank of Japan introduced arguably has little effect on the economy (since it does not affect all rates) but has a lot of impact on the exchange rate, it would not be surprising if other countries may be getting somewhat annoyed.
Fiscal policy has a far less direct effect on others, so should be more acceptable. Extra easing is only really likely to affect the exchange rate if markets expect the central bank to react to the potential inflationary consequences by raising rates. But even if that happens, it pushes the exchange rate up, not down.
While fiscal policy is more palatable from an international perspective, it is not necessarily so palatable from a domestic perspective. In recent years the byword has been austerity: G7 economies have been tightening policy. For economic growth it is not the level of the budget deficit, but rather the change in the budget deficit. This year is forecast to be the first year when this fiscal thrust is positive since 2010 (chart 3). The forecast is for an end to additional austerity but no stimulus. Apparently Mr Abe hopes to change that. For Japan, simply not tightening would be a welcome first step.
CC-BY-SA-2.0, FlickrPhoto: Russ Oxley. Old Mutual Global Investors Strengthens Absolute Return Government Bond Team With New Hires
Old Mutual Global Investors, part of Old Mutual Wealth, announces that, as a consequence of a difference in opinion regarding future strategic direction, Russ Oxley will leave the business with immediate effect. Old Mutual Global Investors would like to thank Russ for his valuable contribution in supporting the launch of the ARGB capability.
Adam Purzitsky and Paul Shanta have been appointed Co-Heads of the Absolute Return Government Bond team, reporting to Paul Simpson, Investment Director.
Adam and Paul joined Old Mutual Global Investors in early 2015 along with the other members of the ARGB team. They have been instrumental in the management and development of the Absolute Return Government Bond strategy over the last seven and eight years, respectively.
Old Mutual Global Investors also announces the enhancement of the ARGB portfolio management team with the appointment of two highly experienced investment professionals, Mark Greenwood and Peter Meiklejohn. Both Mark and Peter have already made valuable contributions to the ARGB team during the time they have been working alongside the team as consultants. These appointments bring the total number of portfolio management professionals working on the ARGB strategy to six, supported by two additional specialist investment professionals.
Supported by the rest of the team, Adam and Paul will continue to co-manage the Old Mutual Absolute Return Government Bond strategy. Their focus will remain on meeting clients’ expectations and delivering the outcomes and investment journey clients expect. Adam and Paul were among the first members of the team to join Old Mutual Global Investors, and were instrumental in the pre-launch preparation, as well as actively managing the strategy since launch in October 2015. The managers will continue to employ exactly the same investment process and philosophy that they have been at the heart of developing over many years.
CC-BY-SA-2.0, FlickrPhoto: Scott Beal. Least-Loved Cycle Looks Less Lovely
We are now more than six years into one of the longest-lived — though least-loved — business cycles in history. Markets have shown a much greater ability than the public to shake off the effects of the global financial crisis. Why is this? If you listened to the pundits, you’d think they have been held aloft by nothing but a combination of hot air and central bank liquidity. But that couldn’t be further from the truth. It has been profits, not punditry, that have driven markets to new highs. Since the market bottom in early 2009, the value of the S&P 500 has tripled. Not coincidently, S&P 500 company profits have tripled as well.
Earnings of large multinational corporations — like those in the S&P — have been propelled by the productive use of labor and capital, rapid asset turnover, low energy costs and, yes, the historically low cost of capital, thanks to accommodative central bank policies.
In recent months, however, profits have begun to flag, and with them my confidence in the market’s upward trajectory. The drag on profits and earnings seems to be coming from two sources. The first is excess global manufacturing capacity, particularly in China. In the developed markets, production is quick to respond to changes in demand. Demand in China does not respond as quickly, given the political realities there. This leaves excess capacity in the global economy, which tends to depress pricing power, not just for Chinese companies but worldwide.
A second factor that has weakened profits is tepid consumer demand. I had expected the “energy dividend” from spending less on gas and home heating to translate into greater demand from consumers in developed markets. But we’ve actually seen a significant percentage of that energy dividend going into savings rather than back into the economy. At the same time, energy costs have begun to rise, suggesting more downward pressure on consumer demand down the road. That could further crimp topline growth for many companies.
That lack of topline growth has translated into weak capital expenditures at big global companies. That’s a worrisome sign, since in my view, capex is the main driver of jobs and profits.
Here are the conditions I’d need to see before venturing back into riskier assets:
While we wait to see if these occur, I’d advise investors to be cautious with new money. My concern is not that recession is imminent in 2016, but that we’re facing a prolonged profits drought which could disrupt margins and returns. This could become the new theme for the final years of a market cycle that, while remarkable, could become even less loved.
James Swanson is Chief Investment Strategist at MFS Investment Management.
CC-BY-SA-2.0, FlickrPhoto: Wajahat Mahmood. Frontier Markets: Kenya and Their Overcoming of the Infrastructure Deficit
Before the team lead by Stephen Bailey-Smith with Kenyan policy makers at the African Development Bank Annual meetings, Global Evolution was positioned long duration in the local bond curve, and overweight in the Eurobonds. However, after their meeting, they reinforced “our constructive sentiment towards the country’s longer-term prospects and happy with our investment positions.”
The key message from Kenya’s policy makers is that the high twin deficits are a necessary short-term evil in order to overcome the country’s infrastructure deficit. The strategy is being broadly practiced across the African continent. “But Kenya is one of the few countries where we believe it will proceed without jeopardizing macroeconomic stability.” Says Bailey-Smith.
“Our view is not uniformly held by the market and/or the rating agencies, who are concerned by the rate of debt accumulation, especially ahead of the elections in August 17.Certainly, the plan to spend KES45bn (USD450m) on elections discussed during our meetings does seem a tad excessive and reiterates for us one of the key negatives for the credit: the deeply ingrained ethnic fault lines in the political system, which raise governance costs and have arguably been exaggerated under the shift towards more local government.” He explains.
For the strategist, it is important to note that Cabinet Secretary Rotich will deliver the final budget to parliament In June and we suspect it will be more constrained than the April draft, which proposed a budget deficit of 9.3% of GDP. Moreover, the outcome for FY15/16 looks more like a deficit of 6.9% of GDP rather than the planned 7.9% of GDP reflecting the ongoing struggle to deliver on spending pledges. “We remain reasonably confident that the government will not allow their debt financing positon to become disorderly. Crucially, there appears to be a couple of prudent guidelines including recurrent spending being met by revenue and debt in NPV terms not exceeding 50.0% of GDP.”
Since the provisional budget was released there also appears to have been a change in the plans for deficit financing with more coming from concessional and less from commercial sources. Some 40.0% will come from domestic borrowing. Of the 60.0% external borrowing, some 46.0% will have a concessional element. “It is also important to take into account the huge investment spending going into the Single Gauge Railway which has a budget of around KES180bn or 2.6% of GDP. We remain reasonably constructive on the combination of the revamped rail and port facilities, plus the marked progress in energy generation and distribution to deliver significant productivity growth to the economy.”
Certainly this was the view of the relatively new CBK Governor Njoroge, who took up his position after nearly 20 years working at the IMF as a macroeconomist. Well known for his strict religious lifestyle and tough stance on corruption, “his appointment is positive not least because it demonstrates the President’s priorities” says Bailey-Smith.
Interestingly, the Governor feels the recent decline in the C/A deficit to 6.8% of GDP in 2015 from 9.8% of GDP in 2014 will continue despite the large fiscal deficit. He expects the C/A deficit to be around 5.5% in 2016 and 5.8% in 2017.
The improvement comes from a combination of lower imports (especially fuel), higher service and remittance inflows, albeit the improvement is partly due to better measurement. Interestingly, there have also been upward revisions to the FDI numbers suggesting the country now runs a much smaller basic balance deficit. He also suggested foreign holdings of local debt were a very minor 7.0% of total, suggesting limited currency vulnerability from global market risk.
“The reasonably contained BOP suggests continued currency stability, which should allow inflation to fall further and allow the CBK to continue easing monetary policy in coming months.” Bailey-Smith concludes.
CC-BY-SA-2.0, FlickrPhoto: Rakib Hasan Sumon. Meeting the Challenge of Feeding the Planet
When you think about it, the expansion of agricultural output since the Second World War has been nothing short of miraculous. However, the system underlying that expansion is highly vulnerable to factors that are now staring us in the face. These include a dependence on relatively stable climatic conditions, the consequences of single-crop practices, excessive use of antibiotics, fertilisers and pesticides, and fast and efficient transport explains Alexandre Jeanblanc, SRI investment specialist in Paris at BNP Paribas Investment Partners.
The Food and Agriculture Organisation (FAO) now estimates that to feed humanity in 2050 agricultural output will have to expand by 70%. As this target will have to be achieved without placing additional burdens on the global environment, it will doubtless require many simultaneous initiatives such as:
supporting broader-based efforts to limit climate change, including better energy usage
restricting farmland expansion while increasing yields and reducing agricultural pollution to preserve ecosystems
reducing water usage to ease pressure on water tables
preserving topsoil quantity and health, in part by enhancing fertiliser efficiency
moderating the use of livestock antibiotics
halting the ecological impoverishment of the oceans and regulating fish-farming
“To meet these enormous challenges, agricultural production systems will have to evolve and adapt, not least by expanding research into “sustainable” farming. Some solutions already exist, as a number of successful developments have already demonstrated” writes Jeanblanc in his company blog. These include:
the domestication of water in Israel,
drip irrigation, which is increasingly common in California,
recycling containers in the Nordic countries,
the replacement of chemical fertilisers with organic ones,
permaculture (high yields but labour intensive),
the development of more efficient systems for food preservation,
precise systems for dosing inputs.
These solutions will have to be rolled out on a large scale to safeguard the environment against the impact of higher agricultural output. “New forms of decentralised and smaller-scale agriculture may equally be worth exploring. There is no single solution, but multiple strategies – from the way land is used, to new ways of thinking, making financing available and developing accessible technologies. Public education is also vital – both to reduce food wastage (one third of food currently produced is thrown away) and change dietary habits (eating less meat would help to optimise grain consumption). But none of these alone holds the key to meeting future challenges” says the expert.
“We are probably just at the start of a vast transformation in farming methods. Farming tomorrow will have to be efficient, economical and environmentally friendly. Technologies continue to improve and offer prospects for progress that would have been unimaginable just 10 years ago. But they will require heavy capital outlays. Will governments be able to rise to these challenges and thus support their farmers? Will they be able to choose unconventional environmental solutions (such as permaculture, for example)? Will consumers agree to pay more for food? The portion of GDP from agriculture has shrunk constantly over the past 50 years to less than 2% in 2014 in many developed countries. Has the time come to change our ways of thinking and our development models?” He wonders.
It is in companies that are firmly committed to meeting these challenges that BNP Paribas Investment Partners’ environmental funds invest.
CC-BY-SA-2.0, FlickrPhoto: Jennie O. How Lyxor’s Enhanced Architecture Program Can Boost European Pension Funds’ Performance
Europe’s pension funds face significant challenges as a result of low interest rates, volatile markets and regulatory constraints. Lyxor’s Enhanced Architecture Program (LEAP) helps institutional investors address these challenges.
The program offers its participants significant cost reduction, reporting, risk management, governance and return benefits. Amber Kizilbash, Global Head of Sales and Client Strategy at Lyxor Asset Management, explains how LEAP works and why operational effectiveness is such a hot topic.
“Pension funds face increasingly urgent demands to improve their overall performance. Lyxor’s Enhanced Architecture Program (LEAP) empowers them to achieve a step change in their infrastructure and investment effectiveness, via a collaborative, top- down approach. It is a modular, open architecture program from which investors can choose either a comprehensive duciary management solution or individual modules”, explains Kizilbash.
Lyxor experts offer clients a range of specialist skills, such as the design of the legal and infrastructure framework, the negotiation of service provider agreements, risk management, fund selection and management.
A successful LEAP implementation can result in significant eficiency gains, offering better value for money for the pension funds’ ultimate clients saving for retirement.
LEAP benefits pension funds in two ways.
The first is by enhancing funds’ infrastructure, thereby increasing operational effectiveness. Many pension funds suffer from a duplication of roles amongst service providers, both across schemes and across countries. This duplication of efforts leads to a sub-optimal cost structure and a challenge in ensuring effective governance.
The second way in which LEAP helps investors is by providing access to state-of-the-art investment solutions. Many large pension funds have access to sophisticated in-house investment resources as a matter of course. LEAP puts these capabilities at the disposal of small and medium-sized pension funds, which may lack the scale to run such investment programs on their own. Via LEAP, Lyxor accompanies clients in implementing advanced tailored solutions along the full investment value chain, from liability-driven investment (LDI) and strategic asset allocation up to fund selection and management.
CC-BY-SA-2.0, FlickrPhoto: Hernán Piñera. Investec Asset Management’s Top Performing Global Equity Income Strategy Launches in the UK
Investec Asset Management launches the Investec Global Quality Equity Income Fund for UK based clients. A replica of the existing SICAV, which has outperformed the market and delivered top decile performance since inception, the Fund is the latest addition to the UK fund range managed by Investec’s Quality Investment Team.
Aiming to generate sustainable dividend growth and attractive total returns over the long term, the Investec Global Quality Equity Income Fund is designed to provide UK investors with a dividend yield in excess of the MSCI All Country World Index. Since launching to global investors in March 2007, the existing fund has a top decile performance track-record and delivered 5.9 percent annually to global investors for the nine years since inception, versus 2.7 percent the index. Additionally, existing investors have benefited from 8.9 percent annual dividend growth since
The Investec Global Quality Equity Income strategy is managed by an experienced and global team, led by co- managers Blake Hutchins, Clyde Rossouw and Abrie Pretorius. A high conviction portfolio of 30-50 stocks, and cautiously positioned compared to the market, the co-managers take a differentiated approach by selecting world-leading Quality companies which are highly cash-generative, invest for future growth and have a proven track-record of paying growing dividends to investors, whilst avoiding more capital intensive sectors, often favoured by a number of competitor funds.
David Aird, Managing Director, UK Client Group, commented: “Given the challenges facing investors in the current climate of low rates and stagnant economic growth, coupled with the financial realities that face an aging population, investors are increasingly focused on sourcing attractive income streams from their assets whilst minimising risk to the underlying capital. We are excited to bring to the UK market the Investec Global Quality Equity Income Fund. A global fund with a proven nine year track record, it aims to deliver a smooth and steady investment journey over the long term, irrespective of market conditions.
“By investing in Quality companies with an ability to grow cash flows, whilst avoiding capital intensive sectors such as utilities and natural resources, which are often favoured by other equity income products, the Fund looks to provide lower volatility returns over the long term – something close to the hearts of our clients in today’s uncertain world.”
