Photo: Taxiarchos228. Edyficar, A Subsidiary of The Credicorp Group, Acquires Mibanco
Credicorp has announced to its shareholders and the market that its indirectly held subsidiary Edyficar has reached an agreement with Grupo ACP Corp (“ACP”) to buy the shares they hold in Mibanco, the country’s largest micro-lending operation, which represent 60.68% of total shares.
Credicorp’s Executive Committee of the Board of Directors approved the transaction in its session of February 5th, 2014, and agreed to pay US$ 179,484,000.00 for the 60.68% stake, which represents a multiple of 1.3 times book value of Mibanco as of December 31st, 2013.
This agreement represents an important step to expand Edyficar’s micro-lending business, joining the efforts of the two most successful micro and PYME lending operations in the Peruvian market, which will provide ample access to credit with high standards of risk management to a growing sector of the population. As a result of this transaction, the new entity will become the largest micro lending entity in the country with a 19.5% share of the micro-lending and PYME market or 3.7% share of the total loan portfolio of the financial system, 886 thousand clients, S/. 9,343 million in assets and S/. 7,098 million in outstanding loans; and will hold a platform for future growth.
The acquisition is expected to be completed, subject to the necessary approvals, in the course of the next month. Subsequent to the acquisition of ACP’s share of Mibanco, and according to regulatory requirements, a public offer (OPA) will take place in order to tender the purchase offer to the minority shareholders of Mibanco.
This operation will create significant value for Edyficar’s shareholders, and consequently Credicorp’s shareholders, through important economies of scale, rationalization of organizational structures, savings through more appropriate funding structures, less client acquisition costs and broad efficiencies once the extensive synergies identified are effectively captured. The new micro-lending operation will be the strongest in the market, with the largest branch network almost exclusively dedicated to micro-lending and PYME, both being the fastest growing sectors, with the lowest level of penetration of the financial system, high levels of informality, but at the same time, highest rate of entrepreneurship and therefore, highest potential for future growth.
The closing of the acquisition is subject to compliance with certain conditions precedent and approvals, mainly the regulatory approval by the Peruvian Superintendency of Banks, Insurance and Pension Funds (SBS).
With this transaction, Credicorp reinforces its commitment to generate long-term shareholder value through the growth opportunities our market offers. Following this transaction, and true to the nature of its business, Edyficar will lead the development of the micro-lending and PYME businesses, which are considered the engine of future growth and development of the Peruvian economy for the future years.
Greenhill & Co., Inc., an independent investment bank, has announced that Rodrigo Mello will join the Firm in Sao Paulo as a Managing Director.
Mr. Mello has more than 16 years of transaction experience, most recently as a Managing Director at Goldman Sachs, where he worked for 13 years. At Goldman Sachs, he was responsible for the investment banking coverage of financial institutions and consumer & retail clients, and during his career worked on complex mergers and acquisitions for clients across a variety of industry sectors, including financial services, consumer products, retail, media, industrials, telecom and natural resources.
Mr. Mello started his career in Goldman Sachs in 1999. He left Goldman Sachs in 2005 and worked for two years at Monte Cristalina, a holding company that controls Hypermarcas, a leading Brazilian consumer goods company, where he was responsible for Corporate Strategy and Finance. He rejoined Goldman Sachs as a Vice President in 2007.
Scott L. Bok, Chief Executive Officer of Greenhill, said, “We are pleased to strengthen our Brazilian team with the broad expertise and deep relationships that Rodrigo brings. We are very excited about our prospects in Brazil and are pleased to be able to quickly strengthen the team with a key hire at a time when we see the potential for significantly increased M&A activity in Brazil.”
Daniel Wainstein, Head of Greenhill Brazil, said, “It is great to have the opportunity to work with Rodrigo again. We worked in close partnership for almost fifteen years. Rodrigo is widely recognized as one of the most important senior bankers in Brazil, particularly in sectors like financial services and consumer and retail, and we look forward to leveraging his success and breadth of experience as we focus on building a leading M&A franchise for Greenhill in Brazil.”
Wikimedia Commons. A Surprising Gift for Chinese New Year
Beijing-based China Credit Trust Company, a firm that operates as a non-banking financial institution in China, announced this week it reached an agreement to restructure a risky high-yield product that had earlier ignited worries over the health of China’s trust industry. Just in time for the Lunar New Year, investors in the troubled trust may receive a big (metaphorical) red envelope—a monetary gift traditionally given during Chinese New Year or other special occasions—or at least avoid a financial hit.
China Credit Trust unveiled its plan to arrange a bailout for buyers of the product. It plans to restructure the loan behind the approximately US$496 million high-yielding investment product that is slated to mature on the Lunar New Year holiday, January 31.
Trust products in China are privately placed investment vehicles similar to private equity or hedge funds in the West. These products are not allowed to solicit public investment, and are available only to certain qualified (sufficiently wealthy) investors through commercial banks and securities companies. Given the flexibility of their investment universe, ranging from commodities to equities, the trust industry has seen rapid growth in the past several years. The industry’s total assets under management now stands at about US$1.6 trillion (or 9.6 trillion renminbi).
One factor behind this significant growth has been the off-balance sheet lending activity of Chinese banks. During the phase of rapid credit expansion since 2009, Chinese banks increasingly found that their own lending capacity no longer satisfied strong loan demand. To escape regulatory constraints, some banks moved loans into trust products, then sold them to investors who were attracted to generally higher annual yields of approximately 10%.
The problem came when these products went bad. Who should be held responsible for the loss to investors? Bankers who sold these products said they were just helping to distribute the products. Trust managers blamed banks, often the entities from which the products originated. In reality, several trusts facing the risk of default were bailed out by local governments. This is partly because borrowers were state-owned enterprises, and valuable collateral assets can be auctioned.
The situation with China Credit Trust is a bit different. The struggling private coal mining company, which was the borrower of the funds from the trust, recently found the value of its mining assets collapse with the slumping price of coal. It is therefore surprising that “strategic investors” would be willing to take over the assets and pay back investor principal in full. It has been widely reported that local government officials helped arrange the bailout behind the scenes. However, the financial market is clearly nervous over whether the potential for default of a trust product may trigger more serious systematic risk. This concern might be overblown for the following reasons:
Unlike many troubled structured products during the global financial crisis, trust products in China were primarily simple straight-forward credit instruments. Trust products do not employ leverage and there are no derivatives linked to trust products. Thus, the ripple effect caused by a default on a trust product tends to be better contained.
In contrast to wealth management products, which were sold to mass market retail investors as a deposit alternative, trust products are sold to qualified individual and institutional investors. Such investors generally have a higher risk tolerance than the average investor. Losses suffered by such investors are generally unlikely to result in street protests and widespread unrest. Instead, they may lead to legal court disputes.
In my view, the moral hazard that comes from bailing out these investors outweighs the short-term stability of a bailout. So long as trust investors continue to believe their high returns are implicitly guaranteed by Chinese banks or the government, China‘s real risk-free interest rate may be much higher than the current government bond yield suggests. Thus, the cost of borrowing for many Chinese companies has exceeded the lending rate set by the central bank. At the same time, equity investors of Chinese banks continue to worry about the potential risk of bailing out troubled trust products. If China’s government is serious about economic reform, based on true market principles, then allowing the market to allocate credit, based on the risk/reward analysis of its market participants, is the possibly the most important step it needs to take.
Even in the spirit of the Chinese New Year tradition, red envelopes are primarily for children. It may be time for trust product investors to face consequences as grown ups.
Sherwood Zhang, CFA, Research Analyst at Matthews Asia
The views and information discussed represent opinion and an assessment of market conditions at a specific point in time that are subject to change. It should not be relied upon as a recommendation to buy and sell particular securities or markets in general. The subject matter contained herein has been derived from several sources believed to be reliable and accurate at the time of compilation. Matthews International Capital Management, LLC does not accept any liability for losses either direct or consequential caused by the use of this information. Investing in international and emerging markets may involve additional risks, such as social and political instability, market illiquidity, exchange-rate fluctuations, a high level of volatility and limited regulation. In addition, single-country funds may be subject to a higher degree of market risk than diversified funds because of concentration in a specific geographic location. Investing in small- and mid-size companies is more risky than investing in large companies, as they may be more volatile and less liquid than large companies. This document has not been reviewed or approved by any regulatory body.
Urs Beck. EFG AM Hires Award Winning Swiss Equity Fund Manager Urs Beck
EFG Asset Management, an international provider of actively managed investment products and services, has recruited top Swiss equity fund manager Urs Beck, as part of its on-going development of Swiss investment strategies.
Based in Zurich, Urs will be responsible for Swiss equities and will manage a dedicated Swiss equity fund to complement the firm’s New Capital UCITS IV fund range.
Prior to his move to EFG Asset Management, Urs was Head of Swiss Equities at Zurich Cantonal Bank (ZKB) where he ran both institutional and retail Swiss mandates for seven years. During his tenure at ZKB, Urs received the FERI award for best fund in the Swiss equities category in 2013 and 2014 respectively.
Urs has over 18 years of investment experience and has previously held positions with Julius Baer, Bank Leu and UBS. He is a CFA charter holder and has a Masters in Economics from the University of St. Gallen (HSG).
“We are very pleased to have an experienced portfolio manager of Urs’ calibre and proven track record join EFG Asset Management. The development of Swiss equities as one of our core competencies further underlines our commitment to investment management in Switzerland”, says Patrick Zbinden, CEO, EFG Asset Management Switzerland.
Barry Benjamin, responsible at PwC's Global Asset Management, commenting the report. Global AuM To Exceed $100 Trillion by 2020 with Nearly 50% Residing in North America
According to Asset Management 2020: A brave new world, a new report from PwC released on Monday, global assets under management (AuM) will rise to roughly $102 trillion by 2020 from a 2012 total of $64 trillion, representing a compound annual growth rate (CAGR) of nearly 6 percent. This forecasted expansion aligns with the findings of the firm’s recently released Global CEO Survey where growth projections among asset management CEOs eclipsed CEOs from numerous other sectors.
AuM in North America is predicted to grow at a CAGR of 5.1 percent to reach over $49 trillion by 2020 (from a 2012 total of $33.2 trillion), exceeding expected AuM for Europe, Asia Pacific and Middle East & Africa combined.
The game changers
As the global asset management industry progresses towards a significant moment in its evolution, PwC has identified six dynamics that should be analyzed and addressed to capitalize on emerging opportunities:
Asset management moves center stage:The changing focus of banks and insurance companies and shifting demographics/markets could propel asset management from the shadows to the forefront. However, rising assets and prominence are typically accompanied by rising costs. As the asset management industry expands and becomes more visible, new investments in data, technology and talent may be needed to respond to heightened regulatory and competitive pressures. These expenses could continue to burden profits, which, according to industry analysis, are still 15-20 percent below their pre-crisis levels.
Distribution is redrawn – regional and global platforms dominate: By 2020, four distinct regional fund distribution blocks in North Asia, South Asia, Latin America and Europe are expected to develop regulatory and trade linkages with each other, reshaping the way that asset managers view distribution channels. North American asset managers may need to evaluate their strategy to consider the impact of these linkages.
Fee models are transformed: By 2020, it is likely that major territories with distribution networks may look to introduce regulations to better align interests for the end-customer, which may place more transparency pressure on asset managers and have a substantial impact on the cost structure of the industry. In the US, asset managers are facing the unique confluence of imminent mass retirement and growing healthcare costs which is likely to shift investment strategy towards longer term wealth accumulation with more emphasis on fixed income and income generating assets.
Alternatives become more mainstream, passives are core and ETFs proliferate: Traditional active management should continue to be the core of the industry as the rising tide of assets lifts all strategies and styles of management. However, traditional active management could grow at a less rapid pace than passive and alternative strategies, and the overall proportion of actively managed traditional assets under management is likely to shrink. PwC estimates that alternative assets will grow by some 9.3 percent a year between now and 2020, reaching $13 trillion.
A new breed of global managers: By 2020, the industry is likely to see the emergence of a new breed of global managers, one with highly streamlined platforms, targeted solutions for the customer, and a stronger and more trusted brand. These managers will not only emerge from the traditional fund complexes, but from among the ranks of large alternative firms as well.
Asset management enters the 21st century: Today, asset management operates within a relatively low-tech infrastructure, but by 2020 technology may become mission critical to customer engagement, data mining for information on clients and potential clients, operational efficiency and regulatory and tax reporting. Moreover, cyber risk will intensify, ranking as a top priority alongside operational, market and performance risk.
“Amid unprecedented economic turmoil and regulatory change, most asset managers have not had time to bring the future into focus,” said Barry Benjamin, global asset management leader, PwC. “However, as the industry stands on the precipice of a number of fundamental shifts and the potential for significant volumes of assets, there is more responsibility on firms than ever to manage these assets to the best of their collective ability. Strong branding and investor trust in 2020 will only be achieved by those firms that place a premium on transparency, a concrete value proposition to customers, and a firm commitment to avoiding practices that could prompt concerns among investors, regulators and policymakers.”
Overarching trends fueling growth
According to the report, the asset management environment is being reshaped by the convergence of several significant global megatrends including demographic changes, accelerating urbanization, technological breakthroughs and shifts in economic power. At the client level, PwC predicts that global growth in assets will be driven by three key factors:
The increasing use of defined contribution (DC) plans partly driven by government-incentivized or government-mandated shift to individual retirement plans.
The increase of mass affluent and high-net-worth-individuals in the SAAAME (South America, Asia, Africa, Middle East) regions where economies are set to grow faster than those in the developed world in the years leading up to 2020.
The expansion and emergence of new sovereign wealth funds (SWFs) with diverse agendas and investment goals.
In 2012, the AM industry managed 36.5 percent of assets held by pension funds, sovereign wealth funds, insurance companies, mass affluent and high-net-worth-individuals. If the AM industry is successful in penetrating these clients assets further, PwC believes that share of managed assets can increase by 10 percent to a level of 46.5 percent, which would represent $130 trillion in Global AuM.
Pension funds assets
Overall, assets held by mass affluent (wealth between $100,000 and $1 million) and HNWI investors (wealth of $1 million or more) are expected to rise to more than $100 trillion and $76 trillion, respectively by 2020, as compared to $59 trillion and $52 trillion, respectively, in 2012.
While emerging wealth economies in the SAAAME regions will likely serve as the dominant catalyst for growth, North America is projected to continue expanding at a solid pace and ahead of expectations for a similarly mature market like Europe. In 2020, North American mass affluent assets are expected to reach $21.7 trillion (from $13.7 trillion in 2012, a CAGR of 4.9 percent) while HNWI assets will likely top $30 trillion relative to $20.1 trillion in 2012 (CAGR of 4.4 percent).
The size of SWFs is rising fast and their presence in international capital markets is becoming more prominent. AuM for SWFs is currently above $5 trillion and PwC predicts this figure will surge to nearly $9 trillion by 2020. SWFs based in the Middle East and Africa will grow the fastest, with Asia Pacific also seeing a rapid rise in SWF assets. This is a significant opportunity for strategic expansion for North American asset management firms that invest in the resources and capabilities required to effectively meet the unique needs of SWFs.
“Responding to the impact of the global megatrends and the game changers we’ve identified will require considerable thought in order to create a great strategy – there is no silver bullet to building the successful asset manager of 2020 and beyond,” said John Siciliano, managing director and strategy lead, asset management advisory, PwC US. “Those that are proactive about developing coherent strategies and act with integrity towards clients are likely to build the brands that are not only successful in 2020, but that are still trusted in 2020.”
To access the whole report, please use the following link.
Piazza Duomo. H.I.G. Capital Opens Milan Office And Names Raffaele Legnani Managing Director
H.I.G. Capital, a global private equity firm with more than $13 billion of equity capital under management, has announced that it has opened a Milan office and appointed Raffaele Legnani as a Managing Director to lead its efforts in Italy.
H.I.G., through its H.I.G. Europe affiliate, currently has a team of over 50 investment professionals based in Europe, operating out of offices in London, Hamburg, Madrid and Paris. H.I.G. Europe is one of the most active private equity investors in Europe, having completed 28 investments since it began investing in 2008. In July 2013, H.I.G. Capital successfully closed H.I.G. European Capital Partners II at €825 million ($1.1 billion), significantly above its initial target. The fund will follow the strategy of its predecessor fund, focusing on buyout and growth capital investments in middle-market companies primarily in Western Europe.
Mr. Legnani was previously founding partner of Atlantis Partners in Milan, the leading independent institutional investment firm focused on Italian mid-size companies in Special Situations. Before that, Mr. Legnani has successfully invested in a significant number of buyout transactions, both directly and through specialized private equity funds (the London based Stellican and the US based Wexford Management) serving as operating board member for several portfolio companies. Previously, he worked in investment banking for Goldman Sachs in London.
In commenting on his appointment, Mr. Legnani stated, “I am very excited to join the H.I.G. team. H.I.G. is ideally positioned to successfully invest in Italy, given the significant amount of capital at its disposal and its experience in working with both growth companies and businesses facing operational and/or financial challenges. Focusing on midsize companies with a turnover above €50 million, H.I.G. targets the backbone of the Italian economy.” Mr. Legnani also added that he expects H.I.G. to be flexible in its approach in Italy, providing both debt and equity capital and investing in either majority or minority stakes in promising Italian businesses with a strong and sustainable competitive position. He also expects H.I.G. Capital to assist Italian companies to capitalize on international growth and expansion opportunities, given its global presence and its wide team of international experienced professionals.
Wikimedia CommonsCusco from Sacsayhuamán ruins. FIAP Organizes its International Seminar 2014 in Cusco
The International Federation of Pension Fund Administrators (FIAP) and the Peruvian Association of Private Pension Fund Administrators (AAFP) are pleased to welcome you to the 12th International Seminar FIAP and the 1st International Conference of the AAFP, entitled “Reinforcing the Foundations of the Individually-Funded Pension System to Ensure its Sustainability”. The event will take place on May 15 and 16, 2014, at the Cusco City Hall Convention Center, in the archeological city of Cusco, Peru.
The topics to be discussed, based on the principles of economic freedom and individual savings, aim at identifying the mechanisms that enable underpinning the foundations of the sustainability of the individually-funded pension system. The selected topics are highly relevant internationally for the members of the individually-funded pension system, pension fund administrators and government authorities.
FIAP and AAFP have invited speakers and panelists of the highest professional standing, who will discuss the key factors affecting the development of the individually-funded pension system, such as low pension coverage and retirement saving patterns; the returns on of the managed funds and the tools available for managing risks in unpredictable situations; the degree of efficiency and competence of the industry and its impact on administrative costs, and the type and quality of pensions; corporate government practices, transparency and relationships with members and pensioners; and finally, the coexistence of alternative contributory pension systems.
This event coincides with the celebration of the XXI Anniversary of the Private Pension Funds System in Peru and the XVIII FIAP Annual Assembly. As on former occasions, the event will be attended by participants from different parts of the world (FIAP members and others), including government authorities, congressmen, officials of international agencies, and representatives of pension fund managers, investment funds, mutual funds and insurance companies, as well as other personalities related to the financial and social security sectors.
Photo: Intel Free Press. Deal Activity Continues in Emerging Markets as Private Equity Investors See Opportunity in Adversity
Private equity investment activity held steady for emerging markets in 2013, and despite a sluggish start to the year, deal volume gained momentum in the last six months, according to the Emerging Markets Private Equity Association (EMPEA). This investment activity led to an overall capital flow of US$24 billion in emerging markets last year, representing 883 deals and a 7% decline in capital year-over-year from 2012. While fundraising was down with only 150 funds raising US$36 billion in 2013, a 19% decline in total capital raised compared to 2012, the relatively constant deal volume indicates that private equity investors continue to find investable companies across a diverse array of markets.
“Fundraising in private equity follows a cyclical pattern and we are still in a downturn phase of the cycle. The investment side is the real story, however, because where others see adversity, private equity investors see opportunity,” commented Robert van Zwieten, President and CEO, EMPEA. “Private equity continues to be the optimum way to tap into emerging market investment opportunities. We expect that these markets will adapt, greatly diverse as they are, to the new economic realities of a moderate Chinese economic slow-down and US interest rates rising gradually over time. For the time being, with asset re-pricing underway and local currencies depreciating in many emerging markets, this is a favorable time for highly discerning fund managers to put capital to work in select sectors.”
According to EMPEA’s data, some of the biggest year-over-year gains from 2013’s deployment of capital went to markets beyond the BRICs– including those in Southeast Asia, East Africa and Latin America (ex. Brazil) – a strong indication of where investors are seeing the most promising prospects for growth. Taking a closer look within each region, the following ten notable emerging markets private equity (EM PE) investment trends stood out from the past year.
There was greater diversity in the types of deals executed across emerging markets, with venture capital (VC) investment accounting for 43% of deal activity in EM PE, following an annual upward trend since 2009, when VC made up only 17% of deals.
While Emerging Asia accounted for 78% of VC deal activity across emerging markets, the largest disclosed VC deal took place in Latin America for Panama-based online language school Open English.
US$2.2 billion was invested through 61 deals in Southeast Asia in 2013, a six-year high in terms of activity and a 39% increase in capital from 2012.
In China, deal activity rebounded in the fourth quarter, with 89 investments executed—the most in a single quarter for the country since Q3 2011.
PE investment in India proved resilient, increasing 11% in volume and holding flat in total capital, year-over-year. Investment in the country was robust in part due to a 33% increase in the number of VC deals.
CEE and CIS showed healthy exit activity with six liquidity events valued at an estimated total of US$3.5 billion, according to third-party data. Three of the six exits were in Russia-based companies.
Russia and Turkey accounted for 48% of deal flow in CEE and CIS.
Seven PE deals closed in Tunisia and ten in United Arab Emirates, comprising 45% of MENA investment activit.
Mexico witnessed a five-year high in capital invested and also saw one of the year’s top ten largest deals for emerging markets: Axis Capital’s US$200 million buyout of Oro Negro.
For Sub-Saharan Africa, capital invested reached a five-year high of US$1.6 billion, a 43% increase since last year, and East African deals increased by 29%.
Morningstar has announced the agenda for the Morningstar Ibbotson Conference taking place Feb. 20-21 at the JW Marriott Desert Ridge in Phoenix, Arizona. The conference, Morningstar’s premier event for institutional investors, will feature thought leaders from academic institutions, the financial services industry, and Morningstar. They will discuss the changing investment landscape and some of the latest advancements in investing and financial planning with a focus on delivering better financial outcomes.
David Laibson, Ph.D., Robert I. Goldman Professor of economics at Harvard University and research associate at the National Bureau of Economic Research, will discuss different kinds of risk, and how investors can improve their asset allocation by increasing investments in good risks while decreasing investments in bad risks.
Additional general session speakers include:
Nardin Baker, chief investment strategist for Guggenheim Partners, who will share his latest research about the benefits of low volatility investing in markets around the globe, and how investors can take advantage of these opportunities;
Roger Ibbotson, Ph.D., founder of Ibbotson Associates (which Morningstar acquired in 2006), professor of finance at Yale School of Management, and partner at Zebra Capital Management, who will examine how to use stocks with less popular characteristics—small cap, value, illiquidity—to get more return while taking on less risk;
Harvey Rosenblum, Ph.D., executive vice president and director of research for the Federal Reserve Bank of Dallas, who will provide his outlook for the U.S. economy;
Sam L. Savage, Ph.D., executive director of ProbabilityManagment.org and consulting professor at Stanford University, who will discuss the flaw of using averages when modeling uncertain situations and new techniques for making more accurate predictions;
James Upton, senior portfolio specialist and chief strategic officer for Morgan Stanley, who will explore the outlook for emerging markets and growth prospects for various countries.
A series of breakout sessions, a number of which will feature new research, will include the following topics:
Time Diversification—Evaluating whether equities really become less risky over longer investment periods and the implications for investors;
Quantitative Equity Ratings—Overview of Morningstar’s forward-looking quantitative ratings for equities;
Controlled Volatility Strategies—Approaches for managing volatility without using guaranteed products and the pros and cons for those with no liability to hedge;
Momentum, Acceleration, and Crash—New research about the contribution of accelerated stock prices to crashes;
Time-Varying Return Estimates—Estimating capital market assumptions when expected returns are not constant;
Economic Policy Reform in China—Analysis of the risks and opportunities from new economic reform in China;
Global Economic Outlook—Morningstar’s outlook for the global economy;
Persistence in Mutual Fund Performance—Do some mutual funds show consistent performance and how can investors improve their odds of successful fund selection?
Do Fund Flows Signal Future Performance—Do fund asset flows serve as a contrarian indicator for intermediate-term performance?
Jazz, Firefighters, and Hedge Funds—How to improvise in dynamic, uncertain environments;
Industry-Specific Human Capital, Outside Wealth, and Optimal Portfolio Choice—How do an investor’s occupation, geographic location, and pension benefits affect his optimal portfolio allocation?
“The U.S. stock market has been on a tear over the last five years, but the trend may not be sustainable in the long run. Developed markets are looking at rising debt and rapidly aging populations, while emerging markets could hold promises and pitfalls,” Thomas Idzorek, president of Morningstar Investment Management, a unit of Morningstar, said. “For two days, we’ll bring together some of the leading minds in the financial service sector to share new ideas and techniques for managing risk and pinpointing bright spots in the capital markets.”
Philip Apel, Head of Fixed Income at Henderson. Short Term Squalls But Long-Term Outlook Still Fair
It was unlikely that the relative calm that had characterised markets in the latter part of 2013 was going to last. Most notable has been the correction in equities, with the bullish tone punctured, perhaps only temporarily, by the US Federal Reserve pursuing its tapering of asset purchases and fresh fears about the strength of emerging markets.
Citi’s widely-followed US economic surprise index has dipped slightly but its still elevated level betrays the fact that the media have been quick to promote negative stories and linger on earnings disappointments even when much of the hard economic and earnings data remains positive. This is not too surprising given that a change in tone is eminently more readable than a continuation of yesterday’s news.
In our view, little has fundamentally changed. Our key strategic themes remain as previously. We continue to expect the global recovery to strengthen, led by the US, Japan and the UK. Europe should be better in 2014 than last year albeit still facing the headwinds of a banking system that needs to shrink and the ongoing requirement to implement structural reforms to improve fiscal sustainability.
Whilst core government bond yields pulled back in January, they are likely to resume their rising trend if, as expected, the US economy continues to improve and tapering is completed by the end of the year. That said, we are closely watching inflation, which is forecast to remain at low levels, particularly if disinflationary forces emanate from emerging market economies.
The current environment lends itself to some key themes within our portfolios. Core European bonds are expected to outperform US bonds given the divergent growth and monetary policies of the two regions – Europe is at an earlier stage to the economic cycle than the US and this gives the European Central Bank greater capacity for further monetary policy accommodation. We expect higher yields in the long end of the UK rates markets. We also expect a steeper European yield curve (rates lower for longer at the short end but longer maturity bonds underperforming) versus a flatter yield curve in the US where we expect the 5-year part of the curve to come under pressure as an improving economy puts upwards pressure on rates.
In emerging markets, we have been relatively cautious on local debt markets in general, although expressing bullish views in Mexico. We started to acquire some short maturity bonds in selected emerging markets that are offering value i.e. where we do not expect the degree of rate hikes currently priced in to be delivered, for example in South Africa. We may have been a little early, given the broader emerging market sell-off but we have kept some powder dry because of just such a possibility.
At the currency level our preference is to be long the US dollar, whilst short the Australian dollar, Euro and yen.
Within credit markets, the longer-term theme of low interest rates and improving economic data continues to lead demand for higher-yielding corporate securities, particularly in Europe. With low default incidence and good corporate liquidity, that should sustain the popularity of lower-rated corporate bonds over 2014. We are, however, aware that credit markets have been more resilient than equities in the latest shake-out so there is some near term vulnerability for credit should the ‘risk-off’ phase be prolonged.
In our Euro credit strategy, we are continuing to favour subordinated bonds, BBB-rated bonds and high yield because these sectors of the market have a higher spread and lower interest rate sensitivity. Investment-grade non-financial sector valuations are less compelling than a year ago and consequently we are more cautious about these sectors, particularly the cyclicals. Another aspect of non-financials is the degree of potential event risk from merger and acquisition activity and re-leveraging, especially in the telecoms sector. This may offer some upside in the high yield market but in investment grade the key will be to avoid the poor performers rather than picking winners.
Looking ahead, with duration the bigger threat to bond returns than defaults, floating rate and multi-asset credit strategies are likely to remain in vogue given their lower rates sensitivity and attractive yield.
