Wednesday, 28 December 2016

Back to BRIC (Part Two)

Following last week’s article regarding the BRIC economies, I received emails from clients curious to know just how strongly I believed in BRIC and more specifically what statistics I could show to suggest that recent improved performance of emerging market countries would continue.  As a result I decided to follow on from last week’s article and go into a little more detail regarding some of the key economic factors behind the scenes.
The drivers of emerging markets underperformance over the past several years, such as uncertainty over US Federal Reserve interest rate policy, US dollar appreciation, global growth prospects, and declining commodity prices, appear to be dissipating.  Even with the strong performance of 2016, I believe that emerging markets still have room to run. Compared to developed markets, emerging markets equities have similar profitability levels but are much less expensive, and I believe it is an opportune time to consider an allocation to emerging markets stocks for the medium term. (Note: allocation and medium-term are key)
Here are the main reasons why:

-       Improving Current Accounts
After peaking in late 2007, current account balances in the emerging markets deteriorated as global growth and trade slowed. Since 2013, however, these current account balances have improved. In 2016, emerging markets export growth has increased due to higher oil prices and some stability in the US dollar.
-       Superior Debt-to-GDP Ratio
While US dollar–denominated debt has increased in both emerging and developed markets, emerging markets debt to GDP is still less than half that of the US and lower than both the UK and eurozone. Importantly, China has driven the majority of the debt increase in emerging markets. When China is excluded, emerging markets have relatively stable debt to GDP.  Investor fears about a Chinese credit crisis may be unwarranted, and although China’s debt to GDP remains high it is still lower than that of those in the developed markets, including the United States and Europe. In addition, China’s shadow banking system is less than 50 per cent of GDP, compared to the United States and the euro zone, where shadow banking exceeds 150 per cent of GDP. The growth of non-performing loans (NPLs) has accelerated in recent years, but considerable work has been done to manage NPL formation, including provisioning, restructuring, and writing off bad loans. We are encouraged that most of China’s debt is issued in its local currency.
-       Attractive Yields
After the financial crisis many emerging markets central banks tightened policy, while central banks in the developed markets cut rates and implemented bond-purchase programs, pulling yields toward the zero-bound, or even into negative territory. As investors continue to hunt for higher real yields globally, they have been migrating back to emerging markets assets across fixed income, currencies, and high-dividend equities.

-       Lower Inflation, Higher Growth
Over the past few years, several emerging markets have been plagued by inflation, which has hindered their economic growth. Recently, however, inflation has slowed across emerging markets, allowing for a more accommodative central bank policy. While emerging markets currency appreciation against the US dollar has helped reduce inflation, we believe the key drivers have been weak capacity utilisation, growth, and pricing power.

In conclusion, after an extended slump, emerging markets have rebounded strongly in 2016. However, relative valuations have not changed significantly as emerging markets equities remain inexpensive compared to other global equities. For 2017 (and beyond) I see emerging markets as an exciting opportunity as part of a well-balanced portfolio that will provide access to some relatively cheap company equities, many of whom continue to show string and resilient profitability.

Wednesday, 7 December 2016

Back to BRIC?

Coined by former Goldman Sachs chief economist and ex-UK government minister Jim O’Neill in 2001, the BRIC bloc of Brazil, Russia, India and China was supposed to represent the fastest-growing emerging economies outside of the G7 group of western developed economies.  Yet the investment case for the feted BRIC economies has been overshadowed in recent years by the poor performance of the Brazil and Russia equities markets. While Chinese and Indian markets have continued to deliver strong returns, sanctions-hit Russia and politically turbulent Brazil have lagged their counterparts.
Over the past three years, the MSCI India index has generated a return of 52.70% and the Chinese index is up by 32.28%.  Brazil, meanwhile has managed just 0.20% growth and the Russian index is down by -1.54% during the same period.
However we may be about to see a shift.  In its outlook for the G20 group of advanced economies, the OECD has forecast real GDP growth of 7.6% for India and 6.4% for China in 2017. After difficult years for the Russian economy following the imposition of sanctions, real GDP is expected to expand by 0.8% during 2017, and Brazil too is expected to emerge from the economic doldrums with flat growth after difficult years for the South American economy.
Sentiment toward emerging markets continues to become more positive as many investors look for higher yields and the risk perception toward the asset class improves.  A rebound in emerging-market currencies, easing concerns about a hard landing in China, attractive valuations and robust economic fundamentals in many economies are some of the factors that have continued to support the performance of emerging markets.  GDP growth in many countries has also been slowly improving, and over the next few years, countries like Russia and Brazil could see the biggest relative improvements.
As two of the largest and fastest-growing economies of the BRIC bloc, China and India continue to offer many opportunities to investors.  Three funds in the Investment Association universe have at least 25% exposure to India and China and have outperformed the MSCI BRIC index over the past three years.  Fidelity’s £878m Emerging Asia fund – which has a 31.1% weighting to China and 34.7% of its portfolio in Indian stocks – has returned 50.84% over three years. 
Of the dedicated BRIC funds in the IA universe, the HSBC GIF BRIC Markets Equity fund has been the best performer over the past 12 months, delivering a return of 43.44%, compared with a 24.49% rise for the average IA Global Emerging Markets fund.  However, the HSBC fund had a poor 2015 making a loss of 17.77% compared with a fall of 13.46% for its composite benchmark. It has an annualised return of just 0.82% over three years.  The $765m (£614.6m) Templeton BRIC fund has returned an impressive 33.08% over the past year. Yet, the fund also struggled in 2015 after reporting a 10.25% loss, compared with only a 8.23% contraction in the MSCI BRIC index.  It would seem that historical highs within BRIC markets have been short lived.

So why is now the right time for investors to return?  Well there are a number of reasons.  The recent rise in commodity prices, a cautious US Federal Reserve  boosting emerging market currency strength, post-recession leading to improved economic stability (Russia and Brazil), and increasing political momentum in key EM economies all suggest now could be an opportune time for investors.  No question that some of the volatility and uncertainty will remain, but on balance the future for these emerging markets has to be bright.  Relative to stocks in developed countries both on valuation and risk basis, companies in Asia are at the bottom of the earnings cycle and expected by many to deliver better earnings growth in 2017.

Wednesday, 30 November 2016

Passive vs Active Investing

The issues investors need to get to grips with when looking at index trackers. Any conversation about investing will eventually come round to the active versus passive debate: is it better to pay more for a manager who will take ‘bets’ in the hope of beating the market or to just accept market-like returns and make a big saving on management fees?

There’s no definitive answer to this of course, but the second approach – which is known as index tracking or passive investing – has a strong following in the US and is growing in popularity at an ever increasing rate in the UK and Europe.

Index investing revolves around the view that it is difficult to outperform the market over the long term so attempting to match its performance by tracking it as closely as possible is the best approach. These products have a very simple objective: follow an index’s performance but don’t add to effort or cost in trying to beat it.

There are advantages to passive investing. Tracking an index means that risk is spread across the market, thus reducing the chance of an investor finding themselves overly exposed to one area just because it is the favoured hunting ground of an active investor. History tells us that active managers are by no means guaranteed to get their calls right. This approach also cuts down on research and trading costs, meaning trackers tend to have an automatic head start ahead of their more expensive rivals.

However, there are risks too. Investors in tracking are fully exposed to broad market declines, whereas savvy active fund managers can protect their investors by holding parts of the market they expect to hold up well. They can even up their exposure to cash if they feel particularly threatened.

Moreover, as with any fund, there’s always the risk of picking the wrong product. While in a perfect world all passive funds would be equal, there’s a number of key issues that differentiate them and can make some perform much better than others. Just because you buy an index tracker does not necessarily mean you get index returns. Indeed, sometimes the difference in performance can be significant.

Passive investors typically make use of two kinds of fund: traditional indexed funds (often referred to as trackers) or exchange-traded funds (ETFs).

Trackers are essentially the standard unit trust or open-ended investment company (OEIC) that most investors are familiar with, but they are not actively managed and simply seek to replicate an index. They are bought directly from a fund management company or through a platform.

The aim of an ETF is the same. The key difference is that these products are traded on stock exchanges, meaning unlike unit trusts and OEICs they are priced continually through the day and investors can buy or selling whenever the exchange is open, rather than at limited times. Given that the issue of costs often drives investors to passive funds in the first place, it’s no surprise that this is one of the first things they consider. Costs are of course very important; while some trackers are very cheap, charging less than 0.1 per cent in some cases, others are almost as expensive as active fund managers. However, while a cheap tracker has an automatic head start, this doesn’t mean it will necessarily deliver a better result. Some of the cheapest trackers on the market have been very poor at replicating their index, which in most cases cancels out the cost advantage they had in the first place.

As always seek professional advice from a qualified advier where appropriate.

Friday, 11 November 2016

The “Indian Star” still set to shine

Indian equities are more attractively valued than most other emerging market stocks and could be the star set to shine brightest within the rallying emerging market space due to more attractive valuations and stronger economic fundamentals. The country’s stock market is likely to have further to run despite concerns that the MSCI Emerging Markets index has already performed strongly this year.

India has lagged behind rallying regions such as Brazil and Russia year-to-date, which have been bolstered by the increase in commodity prices and formerly poor returns reducing valuation risk for investors. The rebound in emerging markets has been driven by a rally in value stocks, particularly in markets which had been worst hit. Both Russia and Brazilian markets had suffered from political issues and were impacted by the collapse in commodity and oil prices, India on the other hand has slipped behind as the initial euphoria of prime minister Narendra Modi’s election gave way to disappointment that changes were not likely to immediately impact the economy.

Following five lacklustre years for emerging market equities, the sector rapidly gained popularity this year due to aforementioned commodity prices and heightened political uncertainty across most developed markets. This, combined with historically high valuations across the likes of the US and the UK, led to many investors piling into the market.

Given that the MSCI Emerging Markets index has almost tripled the performance of the FTSE 100 and has outperformed the MSCI World index by more than a third in 2016 so far, investors could well be looking to trim their emerging market exposure rather than adding to it.

However, there are three main drivers at play for the Indian economy specifically, which could therefore have a positive knock-on effect on Indian equities. Firstly, market valuations in the country are far cheaper on average than other emerging market countries and, while valuations are still high, says they are not particularly so for India.

Secondly, the country’s GDP is strong, with the Indian economy growing by 7.3 per cent last year compared to 6.9 per cent in China and 3.1 per cent for the rest of the world. According to the country’s GDP data, this is expected to rise to 7.5 per cent in 2017. India’s current account deficit has fallen from 4.7 per cent of GDP in 2013 to 1 per cent expected this year, whilst overseas debt is now 23 per cent of GDP. As such the country is less sensitive to rising US interest rates or a strong dollar.
The third main driver for India is its favourable demographics, given that 55 per cent of the population are under 30 while 54 per cent are of working age, which he says will continue to rise given the skew to under 30s.

The implementation of a goods and services tax, the increase in the number of Indian citizens with access to a bank account and widespread foreign direct investment are all set to improve corporate governance and boost the economy’s growth. There is still a long way to go before Indian reforms are complete and there are risks when investing in any emerging market. However, the reforms being made today could unlock India’s potential. Much of the reform will help reduce corruption which has plagued the country and bring the informal economy into the mainstream. Modi is also making India a much easier place for companies to conduct business.

The growth potential of India and indeed the growth already coming through is not currently reflected in the market’s valuations which are trading close to their long-term averages and thus provides an interesting investment opportunity. As always seek advice where appropriate.

Monday, 31 October 2016

Time to get excited about market valuations?

Investors should be excited about attractively-valued and under-the-radar opportunities at the moment rather than worrying about the strong performance of most major indices. The increasing popularity of high-quality, dividend-paying stocks has led to industry ‘laggards’ trading on attractive valuations and the price of value plays tends to have an inverse relationship with their returns and is therefore seeing plenty of opportunities across markets.

This comes at a time when many investors have been worried about valuations, with a number of managers opting to position themselves away from traditional assets given low yields on bonds and strong returns of dividend-paying blue-chips. However, given the high levels of geopolitical and macroeconomic uncertainty on the horizon, many are continuing to buy dividend-paying stalwarts in a bid to protect their portfolios.

A general focus on yield has morphed into a focus on buying high-quality companies, which has in turn led to a select group of defensive mega-caps performing exceptionally well over the last five years. As a result, there has been a greater dispersion between this select pool of stocks and those which fall outside of this category.

The aggregate valuation suggests that market ‘laggards’ are historically cheap and, although past performance is no guide to future returns, we could be near a turning point where value stocks will outperform growth holdings. However, investors need to have a long-term time horizon to utilize this trend and this is why active managers have struggled to outperform recently – not only have expensive, low-volatility stocks surged in popularity and outperformed, they are often extremely large companies and are therefore well-represented in their respective indices.

As such active managers would have to hold incredibly high weightings in these businesses in order to beat their benchmarks and, given that such companies don’t tend to offer the best returns over the long term, they are often overweight smaller companies instead.

From a regional perspective, we are underweight the US market for valuation reasons.  When looking at the S&P 500 index’s price-to-revenue ratio versus its real rate of return (return minus inflation), the index achieves a stronger performance when it is on a lower starting value. As you would expect, the lower the starting value the higher the subsequent return, which is a good sign – starting valuations really matter.

Bear in mind that inflows at the moment are all into S&P 500 trackers. Wake up everybody – I don’t know what you’re expecting but there’s a high risk you’re going to be disappointed. Instead, the area of the market we see the most opportunities in is emerging markets, although isn’t a blanket call as there are lots of different areas and pockets of opportunity throughout the sector.

As with other major indices, there are larger companies which also account for large portions of the indices that investors would do well to avoid. In developed markets companies with growth potential – the Amazons, the Microsofts – they’re really well-recognised and you pay massive multiples for them.

In emerging markets, companies with very good growth potential are far cheaper. This is where your macro risk comes in. A lot of people were saying this time last year that emerging markets are very risky and, low and behold, they’ve been the best-performing equity region this year. We have seen this start to unwind a little but we still think it has a long way to go. If you look at the price-to-revenue metric again, the divergence between emerging and developed markets is almost back to where it was in the early 2000s which saw significant emerging market outperformance. As always seek professional advice where appropriate.

Wednesday, 12 October 2016

What’s wrong with active investment funds in 2016?

Given that active funds have struggled to outperform their benchmarks over recent months, why has this year has been particularly difficult for active managers? Only 25 per cent of funds within the IA UK All Companies and IA UK Equity Income sectors have managed to outperform the FTSE All Share index year to date, according to data from FE Analytics.

Out of these funds, more than a quarter of them are also passive investment vehicles, suggesting that active managers have had a particularly difficult time in 2016. Ultra-loose monetary policy, a cheaper pound and a surprisingly positive market reaction following the EU referendum results have been cited as reasons that the FTSE All Share index has surged over recent months.

Since the announcement of a vote for Brexit on 23 June the index has returned 9.12 per cent, despite the outcome widely being seen as being negative for financial markets prior to the vote. While the index has done well though, actively managed funds have struggled to outperform their benchmarks, with the IA UK All Companies and the IA UK Equity Income sectors underperforming the FTSE All Share by an average of 5.05 and 5.52 percentage points respectively since the start of the year with returns of 7.6 and 7.13 per cent.

This trend can also be seen outside of the UK, with the IA Global and IA Global Equity Income sectors achieving approximately 87 per cent of the returns of the MSCI AC World index year-to-date. What’s more, figures from the Investment Association shows that equity funds suffered outflows of £2.2bn in July, which is the most recent time period the data covers.

Given this backdrop, why have actively-managed funds struggled so much in 2016 when so many have managed to outperform their benchmarks during previous years?

Two things have happened this year: high beta has been rewarded, and of course, we have had a Brexit result. Both of these did not suit the style of managers who were more focused on quality and less cyclical earnings. Also a number of managers that positioned themselves for a ‘Bremain’ vote and thus struggled in the sharp rally just following the referendum.

When markets are largely driven by macro events, as in 2016, it makes it difficult for active managers to consistently outperform. Not only did the ‘leave’ vote lead to many market areas being sold off indiscriminately, a number of other macroeconomic factors such as the changing oil price and Saudi’s decision to limit production meant that unloved sectors suddenly surged. 

It could be argued that, if there are indeed periods where actively-managed funds are likely to underperform, it could be more cost-effective to hold passive investment vehicles instead such as index tracking funds. The trend towards passive funds has been growing for years and will continue to do so, given that most active managers tend to underperform passive funds over time generally.
Ultimately investors need to identify the above-average active managers that are out there and in particular avoid buying and selling them at the worst times. If they do these two things, they can achieve superior outcomes with active than they could with passive. While some investors might be tempted to reduce their active exposure and buy into passives given the recent underperformance of many funds, our preference is for both types of investment vehicle to be dynamically blended to maximise returns.

A change in sentiment based on short-term fund performance is likely to do more harm than good to investors’ portfolios, despite the challenging macroeconomic climate. As always, seek professional advice where appropriate.

Friday, 23 September 2016

Why Diversification Matters part 2

The primary goal of diversification isn’t to maximize returns. Its primary goal is to limit the impact of volatility on a portfolio. To better understand this concept let us consider some hypothetical portfolios with different asset allocations. We have looked at the average annual return for each hypothetical portfolio from 1926 through 2015, including reinvested dividends and other earnings.

The most aggressive portfolio - comprised of 70% domestic stocks and 30% international stocks, had an average annual return of 10%. Its best one-year return was nearly 163%, while in its worst year it would have lost nearly 68%. That’s probably too much volatility for most investors to endure.

Changing the asset allocation slightly, however, tightened the range of those swings very volatile swings without giving up too much in the way of long-term performance. For instance, a portfolio with an allocation of 49% domestic stocks, 21% international stocks, 25% bonds, and 5% short-term investments would have generated average annual returns of almost 9% over the same period, albeit with a narrower range of extremes on the high and low end with a best single year performance of 109% and a worst year of -52%. When looking at the other asset allocations, adding more fixed income investments to a portfolio will slightly reduce one’s expectations for long-term returns, but may significantly reduce the impact of market volatility. This is a trade-off many investors feel is worthwhile, particularly as they get older and more risk-averse.

Factoring time into your diversification strategy

People are accustomed to thinking about their savings in terms of goals: retirement, education, a down payment, or a vacation. But as you build and manage your asset allocation—regardless of which goal you’re pursuing—there are two important things to consider. The first is the number of years until you expect to need the money—also known as your time horizon. The second is your attitude toward risk—also known as your risk tolerance.

For instance, think about a goal that’s 25 years away, like retirement. Because your time horizon is fairly long, you may be willing to take on additional risk in pursuit of long-term growth, under the assumption that you’ll usually have time to regain lost ground in the event of a short-term market decline. In that case, a higher exposure to domestic and international stocks may be appropriate.

But here’s where your risk tolerance becomes a factor. Regardless of your time horizon, you should only take on a level of risk with which you’re comfortable. The other thing to remember about your time horizon is that it’s constantly changing. So, let’s say your retirement is now 10 years away instead of 25 years—you may want to reallocate your assets to help reduce your exposure to higher-risk investments in favor of more conservative ones, like bond or money market funds.

Once you’ve entered retirement, a large portion of your portfolio should be in more stable, lower-risk investments that can potentially generate income. But even in retirement, diversification is key to helping you manage risk. At this point in your life, your biggest risk is outliving your assets. So just as you should never be 100% invested in stocks, it’s probably a good idea to never be 100% allocated in short-term investments if your time horizon is greater than one year. After all, even in retirement you will need a certain exposure to growth-oriented investments to combat inflation and help ensure your assets last for what could be a decades-long retirement.

Regardless of your goal, your time horizon, or your risk tolerance, a diversified portfolio is the foundation of any smart investment strategy.

Thursday, 8 September 2016

Why Diversification Matters (Part 1)

Diversification is the practice of spreading your investments around so that your exposure to any one type of asset is limited. This practice is designed to help reduce the volatility of your portfolio over time.

One of the keys to successful investing is learning how to balance your comfort level with risk against your time horizon. Invest your retirement nest egg too conservatively at a young age, and you run the risk that the growth rate of your investments won’t keep pace with inflation. Conversely, if you invest too aggressively when you’re older, you could leave your savings exposed to market volatility, which could erode the value of your assets at an age when you have fewer opportunities to recoup your losses.

One way to balance risk and reward in your investment portfolio is to diversify your assets. This strategy has many complex iterations, but at its root it’s simply about spreading your portfolio across several asset classes. Diversification can help mitigate the risk and volatility in your portfolio, potentially reducing the number and severity of stomach-churning ups and downs. Remember, diversification does not ensure a profit or guarantee against loss.

The four primary components of a diversified portfolio

Developed Market stocks – These are shares of US, UK, Japanese and EU companies. Stocks represent the most aggressive portion of your portfolio and provide the opportunity for higher growth over the long term. However, this greater potential for growth carries a greater risk, particularly in the short term. Because stocks are generally more volatile than other types of assets, your investment in a stock could be worth less if and when you decide to sell it.

Bonds - Most bonds provide regular interest income and are generally considered to be less volatile than stocks. They can also act as a cushion against the unpredictable ups and downs of the stock market, as they often behave differently than stocks. Investors who are more focused on safety than growth often favour government or other high-quality bonds, while reducing their exposure to stocks. These investors may have to accept lower long-term returns, as many bonds—especially high-quality issues—generally don’t offer returns as high as stocks over the long term.

Short-term investments - These include money market funds and short-term CDs (certificates of deposit). Money market funds are conservative investments that offer stability and easy access to your money, ideal for those looking to preserve principal. In exchange for that level of safety, money market funds usually provide lower returns than bond funds or individual bonds.

International stocks - Stocks issued by emerging market companies often perform differently than their developed market counterparts, providing exposure to alternative opportunities. If you’re searching for investments that offer both higher potential returns and higher risk, you may want to consider adding some foreign stocks to your portfolio.

Additional components of a diversified portfolio

Sector funds - Although these invest in stocks, sector funds, as their name suggests, focus on a particular segment of the economy. They can be valuable tools for investors seeking opportunities in different phases of the economic cycle.

Commodity focused funds - While only the most experienced investors should invest in commodities, adding equity funds that focus on commodity-intensive industries to your portfolio—such as oil and gas, mining, and natural resources—can provide a good hedge against inflation.

Real estate funds - Real estate funds, including real estate investment trusts (REITs), can also play a role in diversifying your portfolio and providing some protection against the risk of inflation.

Asset allocation funds - For investors who don’t have the time or the expertise to build a diversified portfolio, asset allocation funds can serve as an effective single-fund strategy as the asset allocation is managed for you by the manager.

Tuesday, 23 August 2016

What is an emerging market?

There is some dispute among financial institutions about what exactly constitutes an emerging market, but what most of them seem to agree on is that the sector is likely to deliver the highest growth rates over the long-term. There is no hard and fast definition of an emerging market, but they are understood to include countries that have yet to achieve the standard of living and GDP per capita of the developed world – principally western Europe, North America and Australasia. 

The poorest countries in the world are not necessarily considered emerging markets: frontier markets are at a lower level of economic and political development. In theory, countries should be expected to move up the categories as they grow richer. Which category a country falls into is in the eye of the beholder: different institutions have different definitions. By and large they agree, but this is not always the case.

South Korea is an example of a country that sits on the border between two categories. FTSE considers it to have gained developed world status, while MSCI considers it to be an emerging market. Countries can even be demoted, with Greece seeing its status cut as a developed market by Russell last year, and MSCI and FTSE both considering doing the same.

All the risks associated with emerging markets are magnified in frontier markets, and recent history suggests it is much harder to make money in such funds. The MSCI Frontier Markets index was launched in February 2008 and data shows it has struggled since then compared with the emerging markets index. Many analysts suggest that frontier markets are too specialist for the majority of investors, and are more appropriate for investors with large portfolios who can better absorb losses and who want to diversify their riskier holdings.

Why invest in emerging markets? Emerging markets generally see higher economic growth than the developed world. Most commentators expect this to continue for many years to come. For those who invest in funds, there may be an additional benefit, in that emerging markets are less well-researched than their developed counterparts. There are fewer analysts working on the companies and fewer funds with local knowledge, meaning that it is generally accepted that managers are more likely to outperform the wider market. This means that the best funds in the sector have managed to beat their peers by a large amount.

What are the risks? Along with the higher growth potential associated with emerging markets comes higher risk. Data shows that the volatility of the MSCI Emerging Market index tends to be significantly higher than that of the FTSE All Share. There are a number of reasons for this on a company and fund level. Some funds have a better track record of managing those risks, and it is noticeable that those that sit at the top of the performance tables are run by fund houses known for taking a more cautious approach.

How can you invest in emerging markets?  Emerging markets are now a mainstream asset class, and it is rare to find an investor without an emerging markets fund in their portfolio. There is a large amount of choice: investors can buy a fund that specialises in emerging Asia, China, Latin America, south-east Asia, or even emerging European countries such as Russia and the old Warsaw Pact nations.

For most investors, a general emerging markets fund is likely to be more appropriate, advisers say, as the diversification they supply lessens the currency and political risks that are taken on with emerging markets funds. As always seek professional advice where appropriate.

Wednesday, 3 August 2016

How could Donald Trump impact your portfolio?

How would investors’ portfolios would be affected if ‘The Trump’ was to win the US presidential election in September.

The real estate mogul and media personality, who has funded his own campaign, has struck a chord with many Republican supporters thanks to his rhetoric surrounding immigration, foreign policy and very laissez-faire attitude to government intervention.

Still, though, the bookies are preparing for a Hilary Clinton-led Democrat victory at the polls no matter who leads the Republican Party. Though Trump will no doubt have to moderate if he is to stand for the election in order capture the floating voter, his statements so far (“We will build a wall and they will pay for it”, being one of them) have led many to view his rising popularity as a major headwind for global financial markets. 

It’s our view the upcoming election in the US is what the market should be worried about – not the June referendum on the UK’s future relationship with the EU. Barry Eichengreen – former senior policy advisor to the International Monetary Fund and now professor of economics and political science at University of California, Berkeley – recently gave his thoughts on Trump’s huge rise in popularity and the impact his victory at the election in September would have on markets.

According to Eichengreen, there are four primary reasons behind his surge in the polls – and they are all longstanding issues that have largely been masked by the housing boom prior to the global financial crisis. These are the developing inequality problem since the early 1970s in the US, concerns about the US’s trading partners, immigration and the US’s role in the world. He says that Trumps policies will have a profound effect on the US and therefore global markets.

In terms of financial reform, Trump has said he would repeal the Dodd- Frank Act of 2010 but hasn’t provided an indication of what financial reform, if any, would be used as a substitute. The Dodd–Frank Wall Street Reform and Consumer Protection Act was brought in by president Barack Obama in June 2010 in order to “to promote the financial stability of the United States by improving accountability and transparency in the financial system, to end ‘too big to fail’, to protect the American taxpayer by ending bailouts, to protect consumers from abusive financial services practices, and for other purposes”.

It has been the largest piece of financial regulation since the Great Depression. While the deregulation of the banks in the late 1980s through to the 2000s caused soaring financial markets, any changes to the current system are seen as dangerous by many.

That being said, he also notes how Trump plans to blow up the US’s existing trade agreements – a move that many are worried given the prospect of a trade war in that scenario. As such, if Trump were to win the election, Eichengreen believes the effect would be very negative for financial markets thanks to his right-wing polices and would cause a fall in sentiment among global investors.

“However, the difference for the United States is that things that are bad for financial markets tend to be good for the dollar. The dollar remains the only safe haven currency, so when Lehman Brothers failed the dollar strengthened because people value safety of liquidity,” Eichengreen said. The US treasury market is the most liquid financial market in the world, so we might see that peculiar chain of events again [if Trump became president] – financial markets that crash and a dollar that strengthens to the extent that US exports become less competitive are not a good combination for the US economy.

Monday, 18 July 2016

Are you harming your portfolio by ‘buying the dips’?

Over the last year high looking valuations have led investors to pile into low-quality investments.
Piling into low-quality cyclical stocks just because a market correction has brought them down to more attractive valuations is one of the biggest mistakes investors can make in the current environment. The resources and energy sectors are prime examples of where investors need to be careful, as the bounce in these areas over recent weeks could be the result of overconfidence as economic data stabilises.

The growth versus value argument is often at the forefront of investors’ minds and recently, given that the FTSE World Growth index has continuously outperformed the FTSE World Value index over one, three, five, 10 years. While some investors believe this could continue, many others believe in the ‘mean reversion’ theory, which means it is only a matter of time before the scales rebalance and value starts to outperform.

Many investors are simply looking at a cheap valuation but perhaps haven’t analysed whether they’re buying good long-term value or whether they’re cheap for a very good reason. Although the concept of ‘buying the dips’ is often used as an investment thesis, I often caution against placing too much emphasis on this when building a portfolio. Instead, investors should hold a combination of value and momentum stocks in order to spread risk and maximise long-term returns in their portfolios.

Instead of buying based on market valuations relative to historical pricing, investors are better advised to establish an asset allocation strategy at outset which suits their long-term investing goals and then rebalance back to this position at set intervals, regarding of what the market is doing at that time. This removes the emotion and psychology from investment decisions.

Another danger related to impulse-buying deep value plays is that investors can find themselves enticed by the high yields they have on offer. For instance, more than 10 per cent of the FTSE 100 index – which is of course heavily weighted in mining and oil & gas stocks – is yielding upwards of 6 per cent.

However, yields increase if the value of the underlying holding falls as well as if the dividend payments simply rise. To avoid this risk investors need to keep thinking back to a stock’s cash flow and whether it’s sufficient to pay the dividend that is on offer. Perhaps the market should be sending a message to you as an investor that obviously if a dividend yield is high, it’s high for a reason because the return you’re getting is above-normal in terms of the dividend yield and so consequently you’re being paid because the risk is higher.

We believe the market areas that will continue to do well over the medium term are technology companies, telecom businesses and consumer stocks that are producing products people will want or need over a longer term time scale.

Too many investors place too much emphasis on short-term performance, whether it’s buying shares or funds because they are already delivering or strong performance or targeting those that are in doldrums but are cheaply-valued.

By adopting either of these approaches, investors are in danger of taking too much risk. They could buy shares or funds just as they peak or invest in areas which could be depressed for some time to come.

The reality is that nobody can consistently call short-term market movements. The best approach is therefore to take a long term perspective, try not to be too clever and try not to be overly influenced by short-term performance.

Friday, 1 July 2016

Why multi-asset investing works.

Multi asset investing can be easily arranged through your existing portfolio of investments but becoming ever more popular are multi-asset funds that are able to invest across the full range of asset classes and may include equities, bonds, property and cash. A multi-asset approach provides a greater degree of diversification than investing in a single asset class. The benefits of diversification within multi-asset strategies are the investments being spread over a broad range of strategies, styles, sectors and regions which can help cushion the occasional shocks that come with investing in a single asset class. This enhances the potential for investing in the best-performing asset class and reduces the impact of the worst-performing asset class.

Many investors look to multi-asset funds to provide a lower-risk investment than a pure equity fund, but with greater prospects for growth than a pure bond fund. Amid market volatility in global markets, multi-asset funds, which were once considered institutional or pension fund-oriented products, are gaining traction among many individuals as part of their investment portfolio.
The reasons are many for the newfound popularity. The speed at which fund managers can implement changes in asset allocation is faster compared to traditional funds, along with the ability of the fund to choose from a wide variety of asset classes anywhere in the world. The third reason is the ease with which individuals can invest.

In the current market environment of subdued global growth and limited return expectations across a number of asset classes, the main benefit of multi-asset investing relates to the greater choice and flexibility embedded in the investment process compared to single-asset class funds. Fund returns will depend a lot more on alpha generation (returns above the market average) as investment opportunities will present themselves in a much more scarce fashion than in the past.

Because growth is scarce at present and income is hard to generate without additional risk. That means an income-seeking investor is facing the worst of both the worlds. If you are a single-asset class fund manager, then you can either manage income or volatility. This is where multi-asset really aims to provide an outcome that investors are looking for.

Most investors understand the advantages of multi-asset investing; having some investments that should in theory go up in value when others go down makes pretty obvious sense. The trouble in very volatile markets — as we saw during the 2008 global financial crisis — is that different kinds of investments can suddenly all go down together, even if they would ordinarily be expected to perform differently. The return expectations based on the current economic conditions have come down a lot. Every additional risk is no longer producing the additional return that it used to. It’s a big dilemma that we are facing.

A lot of asset classes are in neutral now as the growth is scarce and we think there has been a big shift in the way investors should look at markets. With the US Fed finally embarked on an interest rate hike, you need to be a lot more careful in identifying where the opportunities are. With the growth outlook so subdued, it’s no longer one strategy that would generate strong returns which is where a multi asset strategy comes to the fore.

True diversification is hard to find but exposure to relatively scarce asset types, which perform in a way that is truly different from the major traditional asset classes, like company shares and bonds can help a multi-asset strategy weather future volatility. Investors who are looking for more stability could therefore consider a multi-asset strategy appropriate for their individual risk approach. 

Wednesday, 15 June 2016

How can I set investment objectives?

How can investors analyse their investment goals and objectives and align them with appropriate investment strategies. The first step is setting your objectives. Being clear from the start what you are trying to achieve should help you tailor your investments to your personal circumstances. There is no one right set of investments for you, but there are certainly many wrong ways to put a portfolio together.

Your objective should take into account the what – the amount of money you need and its purpose – and the when – when you need the money and how long it must last, however, probably the most important factor to consider is the level of risk you are prepared to take on.

Risk is often measured using volatility but this isn’t necessarily what you or I would perceive as risk when running our own investments. We are more likely to be concerned with whether or not we are losing money, whether or not we are beating inflation, and whether or not we are on track for our goals.  Volatility can help us understand how likely a fund’s value is to fluctuate, but you need to take into account the other questions when putting together a portfolio. You need to consider the potential for the fund to make money in the longer term. You will have to take more risk to get bigger gains, and this means your portfolio is probably going to vary a lot in value during its life.

In asking yourself what your attitude to risk is, you need to decide how you would react if your portfolio lost money; this is a highly personal question that depends on your individual emotional make-up. What if you don’t see the gains you were hoping for? What if you actually see your portfolio lose value? If you think you would react badly to losses and feel inclined to shift everything into very low-risk assets, you could end up with the worst of both worlds: a fall in the value of your portfolio and a set of funds that are likely to take a long time to even make those losses back.

Being realistic and honest is the key: it is easy to be blasé about losses before you first start seeing the real pounds and pence you have won with your hard work slip away from you as a market falls. It may be that you have a number of different objectives and are prepared to tolerate different levels of risk with the funds set aside for each.  Once you have worked out the risk you are prepared to take, look at your objectives again. If you aren’t prepared to take the amount of risk necessary to give you a chance of making enough money to reach your objectives, you need to revisit your aims and rethink them.

The other variable you have is time. With more time you have the potential for better returns with a lower level of risk. On the other hand, if the time you want to draw down the investment is near, you may want to reduce the risk in your portfolio, even if this is likely to leave you with less than you want. This could be preferable to leaving open the possibility of suffering big losses at the last moment.

Each factor affects the other, which means you have to think through the possibilities. Ultimately, you can’t define your objectives independently of considering your attitude to risk, which means taking into consideration the assets and funds that are available and how you are likely to react to their behaviour. 

Thursday, 2 June 2016

How to have enough money for retirement

How to ensure you have enough money for retirement.

An enjoyable and relaxing retirement is what most people spend their working life waiting for, but how does anyone know they have enough saved up to make sure that dream becomes a reality?

This has always been a prominent concern for those reaching their twilight years, but with life expectations now far longer than they have ever been and the recent changes to the pension system it is now a far more worrying question than it has been for other generations. Nevertheless, to break it down more easily, retirees should divide their prospective costs into four manageable categories – essential income needs, known costs, unknown costs and legacy. It is far easier to manage one’s retirement income if it is no longer viewed as a homogenous block and therefore lets run through the different categories

Essential income needs

As it names suggests, this categories relates to all of a retiree’s most basic needs such as paying the bills, buying groceries or even paying off a mortgage.

Given that information, savers should only use very low risk assets as their propensity for loss should be much lower here. These assets could include bonds and other defensive securities, rather than equities. Investors may even wish to consider using part of their pension savings to purchase an annuity, which is a series of equal payments at regular intervals spanning the rest of an individual’s life to help provide the certainty of meeting these income needs as the income they produce will last as long as you live.

Known and unknown costs

Known costs include lifestyle choices, holidays and events. You can think of this category of what you really want to do when you retire, whether this is to travel the world, spending an inordinate amount of time on the golf course or to put the grandchildren through education.

For this category, investors can afford to take a higher degree of risk than for ‘essential income needs’ as they may need to grow their pot of savings in order to pay for these lifestyle choices over time. The types of investments they may wish to consider include absolute return or multi-asset funds which generate their returns from a diverse range of securities.

In terms of unknown costs, these relate to out of the blue payments such as potential hospital bills or an unexpected breakdown. Again, investors can afford to be medium risk for this bracket but may want to build up a six-month cash buffer from their overall savings to make sure they can access those funds easily.


Legacy, while relatively sombre, relates to the assets you leave behind for your loved ones.

Given people are generally getting older, investors can afford to take a higher degree of risk initially as these savings may not be needed for another 25 to 30 years. As a result of this, investors can afford a higher degree of equity exposure. Over time they will need to consider reducing that risk.

The past is, of course, no guide to the future but the FTSE All Share index has returned 1,433.70 per cent over the last 30 years so if an investor had put £10,000 into the market, they would have since seen a gain of more than £151,000 today.

Investors should sit down with their children  to discuss this, however, as  any such planning will not only affect the long term  value of a potential inheritance but may help their children with their own savings planning.

As always seek advice where appropriate from a qualified and regulated financial adviser.        

Thursday, 19 May 2016

Using ratios to aid investment decisions

How ratios can aid investment decisions.

Most investment fund managers use quantitative analysis (mathematical modelling) to some extent in assessing where to commit their assets to. Indeed, there are managers who only use quantitative criteria in their decision-making processes. Part of that analytical process will involve looking at historical performance, and gauging it by a series of ratios and measurements.

When considering your own investments, the decisions cannot hinge solely on the amount of return that a fund generates. Investors will also want to consider other factors: what degree of risk was assumed in order to make that return? By how much has the fund outperformed a notional risk-free investment? Has the manager demonstrated skill in adding extra returns, or merely tracked the fund's benchmark?

Answers to these questions can be found in the performance measurements available on most fund factsheets. There are three key ratios that can help to differentiate between funds and these are the Sharpe ratio, the Alpha ratio and the Beta ratio.

The Sharpe Ratio

This is a commonly-used measure which calculates the level of a fund's return over and above the return of a notional risk-free investment, such as cash or Government bonds. The difference in returns is then divided by the fund's standard deviation - it's volatility, or risk measurement. The resulting ratio is an indication of the amount of excess return generated per unit of risk.

Sharpe is useful, when comparing similar portfolios or instruments. There is no absolute definition of a 'good' or 'bad' Sharpe ratio, beyond the thought that a fund with a negative Sharpe would have been better off investing in risk-free government securities. But clearly the higher the Sharpe ratio the better: as the ratio increases, so does the risk-adjusted performance. In effect, when analysing similar investments, the one with the highest Sharpe has achieved more return while taking on no more risk than its fellows.

The Alpha and Beta Ratios

Alpha is a measure of a fund's over- or under-performance by comparison to its benchmark. It represents the return of the fund when the benchmark is assumed to have a return of zero, and thus indicates the extra value that the manager's activities have contributed: if the Alpha is 5, the fund has outperformed its benchmark by 5%, and the greater the Alpha, the greater the outperformance.

Beta is a statistical estimate of a fund's volatility by comparison to that of its benchmark, i.e. how sensitive the fund is to movements in the section of the market that comprises the benchmark. A fund with a Beta close to 1 means that the fund will generally move in line with the benchmark. Higher than 1, and the fund is more volatile than the benchmark, so that with a Beta of 1.5, say, the fund will be expected to rise or fall 1.5 points for every 1 point of benchmark movement. High Beta is, therefore, an advantage in a rising market - a 15% gain for every 10% rise in the benchmark - obviously the converse is the case when falls are expected. This is when managers will look for Betas below 1, so that in a down market the fund will not perform as badly as its benchmark.

When Alpha is taken in conjunction with Beta, a fund with negative Alpha and 1+ Beta is an indication of poor performance: managers are subjecting funds to volatility that is higher than the benchmark, while achieving returns that are lower than the benchmark attained. So, if Alpha indicates better/worse performance compared with the index, Beta shows higher/lower risk.

As always seek advice where appropriate when making investment decisions.

Friday, 6 May 2016

How to manage currency risk

How to manage currency risk

Currency risk is a fact of life for many expats. Many investors find it tempting to ignore currency risk, believing that it will all “even out in the end” but this is not an option for most families who need to draw down funds from their investment portfolio or their pensions. Significant currency risk needs to be managed actively and families should balance currency exposures in the same way they balance asset class exposures.

Understanding Currency Risk

Defining what “currency risk” means to each person is important. Someone living in Cyprus and spending Euros but drawing their income from their investments or pensions in Sterling has significant currency risk. For a family with a long term currency spend bias to the euro, for example, someone relocating or retiring to Cyprus from a non-euro country, an appropriate currency spread might be 50% euros, 30% Sterling, and 20% other currencies (like US$). In contrast, a family who thinks and spends globally might adopt a more diversified basket of currencies as a target. Those that plan to stay in Cyprus for less than 2 years would be well advised to retain most of their assets in the original currency.

Managing the Risk

In the past, families tended to manage currency risk by investing in assets with the same currency profile as the families’ spending or long-term liabilities. Traditionally many UK families would invest predominantly in UK equities and sterling bonds to minimise any mismatch. Any overseas investments would be seen as ‘diversification,’ and the foreign currency exposure would form part of this diversification. As the world has become more global, European investors have tended to invest more globally. For a portfolio with global bonds, global equities, hedge funds, and private investments, US dollar exposure has increased markedly as a proportion of total assets.

While some European family investors see this additional US dollar exposure as a risk, others might like the US dollar exposure, seeing it as a “safe-haven” currency that will diversify overall portfolio risk when markets are very volatile. The value of this type of currency diversification was demonstrated in 2008. When markets headed south and sterling nosedived, having unhedged US dollar assets provided a useful counterweight to a UK family’s portfolio.

Hedging Currency Exposure

For families who want to preserve the underlying exposures of the portfolio but have a significant mismatch between currency exposures and liabilities, considering currency hedging makes sense. There are a number of ways to change the currency exposure of a portfolio. Two of the most popular include using hedged share classes and currency forwards.

The easiest way to hedge unwanted foreign currency exposure is to invest in vehicles with hedged share classes (i.e. Euro based international bond funds). These are commonly available for most major currencies, particularly for global bond funds. The main advantage of this approach is the operational simplicity for the family. The main disadvantage is that it can be more costly.
If the appropriate hedged share classes are not available, or

Friday, 22 April 2016

Generating Retirement Income

A simple, effective way to generate the income needed in retirement

One of the biggest challenges most people face in retirement is generating the regular income they need and maintaining it for the rest of their lives.

You may have substantial assets, but they're not limitless, so you must be careful how you manage them. To meet the dual goals of generating needed income and sustaining it this is what you do.
First, determine the amount of annual income you need currently—say, €50,000—and then determine the best place(s) to get it. It won't all come from your retirement account because you likely have other income sources: State benefits, perhaps a pension, an inheritance, earnings from a part-time job and funds from other savings or investments.

All of those could reduce dramatically the amount you need to generate annually—perhaps to as little as €25,000 or €30,000.

To determine the rate of return you need to earn on your investments in retirement, factor together all of these realities and your personal preferences: Do you want to leave something for your heirs, preserve capital or spend it down? Then it's time to design a portfolio to meet that target.

Once you have the right portfolio, what is the best way to invest it? Well, if diversification is important to use throughout your working career, as I have long espoused, then it's doubly important once you're in retirement.

A diversified portfolio, of course, contains some assets that don't generate income or dividends, along with others that produce those unpredictably, making it difficult to carry on your lifestyle.
That's solved by a systematic withdrawal plan. It's simple and effective and it works like this: You decline to pocket the interest and dividends from your investments, instead reinvesting them back into the portfolio. To compensate for giving up that income, you arrange to receive a similar monthly amount from your account.

There's a big difference between that and drawing the income that a portfolio produces, as many retirees opt to do. Here's an illustration: Say you had invested €100,000 in a one-year fixed interest bank deposit and received the annual interest each year from 2005 through 2015. The interest would have fluctuated wildly—from €700 to €4,210—and produced €19,520 in income over the 10 years. The original €100,000 remained unchanged.

However, if you instead created a diversified portfolio the account's value would have grown to €198,126. You could then start producing twice as much income and easily offset inflation.
You could have systematically withdrawn twice as much in annual income as the bank deposit, and your account value would still have been 74 percent higher than the banks value. Even if you took triple the income of the bank deposit, your account would still have ended nearly 40 percent higher than the bank deposit.

Simply matching, doubling or tripling the banks income, however, would have left you with inconsistent monthly and yearly amounts. To solve that problem, you could have arranged for a consistent monthly withdrawal, just as you get from Social Security or a pension.

If you took a 5 percent income stream from the starting capital you would have received €50,000 income and your ending value would still have been €158,680—or 58% more than what you started with.

Of course, my illustration is hypothetical over a specific time period. Different periods and asset mixes would produce different results and, as always, past performance does not guarantee future results but you get the idea. I recommend this as the best approach for generating the regular income you want/need to live on in retirement and sustaining it for your lifetime.

Wednesday, 6 April 2016

Three stocks to watch for in the event of a Brexit

Which companies could be set to either benefit from a Brexit or will defend against volatility caused by a ‘leave’ majority decision? The prospect of a Brexit has dominated headlines recently, with almost a month still to go before the official campaign period begins on 15 June. Understandably, this has left investors feeling confused as to where to put their money, given that nobody is able to predict how markets will behave whether the UK leaves or stays in the EU. It’s a commonly held view that a ‘leave’ vote could severely bruise the home market as we are more dependent on the EU as a trading partner than they are on us. However, there are still plenty of individual stocks that could offer attractive opportunities despite Brexit concerns.

Merlin Entertainments

This FTSE 100 stock hit the headlines last year following the tragic incident in which four Alton Towers visitors suffered life-changing injuries in a rollercoaster crash. Unsurprisingly, this caused the stock’s price to plummet and between June and the end of September it had fallen by 20 per cent.
In the event that sterling weakens in both the run-up to the referendum or as a result of a pro-Brexit vote, we believe the stock would be set to reap the benefits on a transactional basis. Sterling weakness could make it more attractive for tourists to come into the country, and which company has the number one amount of tourist attractions? It’s Merlin obviously and with London being a disproportionately big part of their portfolio, they would be a clear beneficiary.

British American Tobacco

The £76bn tobacco giant is renowned for being a ‘stalwart’ stock with a reliable income but many investors could be deterred by its seemingly hefty price tag. Visually it looks expensive but we think it’s cheap. It’s a well-run tobacco business and they remain at the forefront of innovative product launches, whether it’s the low heat cigarette they have coming out or the range of major e-cigarette brands they have, so we think that they’re in good shape. Primarily though, we like them from a valuation standpoint.

The stock has historically done well over the longer term, having outperformed the FTSE 100 more than six times over the last decade with a total return of 316.25%.


Centrica could be a good play for those worried about a Brexit but who still want to buy into the UK market. The UK imports a lot of gas from Norway, which would become quite expensive; we import electricity from France which would be more expensive; but we’d probably get a compensating increase in the power price, so some of the utilities like Centrica could be a viable option. You can avoid the stocks that will suffer a particularly hard landing. For example, you can paint quite a negative picture around financial services in the short term and as economic growth in the UK is likely to struggle too you don’t want to hold any purely UK based firms.

Utilities giant Centrica has been hit particularly hard by the plummet in commodity prices and the fall in household bills over the last 18 months, announcing last month that its energy profits were down to £255m during 2015. As such, it confirmed a dividend cut despite its major competitor British Gas announcing a significant increase in profits over the same time frame. This could mean that the stock is a good value play in the event of a Brexit given its current underperformance.

As always you should seek professional advice where appropriate from a qualified and CYSEC regulated advisor.

Monday, 21 March 2016

A simple, effective way to generate the income needed in retirement

One of the biggest challenges most people face in retirement is generating the regular income they need and maintaining it for the rest of their lives.

You may have substantial assets, but they're not limitless, so you must be careful how you manage them. To meet the dual goals of generating needed income and sustaining it this is what you do.
First, determine the amount of annual income you need currently—say, €50,000—and then determine the best place(s) to get it. It won't all come from your retirement account because you likely have other income sources: State benefits, perhaps a pension, an inheritance, earnings from a part-time job and funds from other savings or investments.

All of those could reduce dramatically the amount you need to generate annually—perhaps to as little as €25,000 or €30,000.

To determine the rate of return you need to earn on your investments in retirement, factor together all of these realities and your personal preferences: Do you want to leave something for your heirs, preserve capital or spend it down? Then it's time to design a portfolio to meet that target.
Once you have the right portfolio, what is the best way to invest it? Well, if diversification is important to use throughout your working career, as I have long espoused, then it's doubly important once you're in retirement.

A diversified portfolio, of course, contains some assets that don't generate income or dividends, along with others that produce those unpredictably, making it difficult to carry on your lifestyle.
That's solved by a systematic withdrawal plan. It's simple and effective and it works like this: You decline to pocket the interest and dividends from your investments, instead reinvesting them back into the portfolio. To compensate for giving up that income, you arrange to receive a similar monthly amount from your account.

There's a big difference between that and drawing the income that a portfolio produces, as many retirees opt to do. Here's an illustration: Say you had invested €100,000 in a one-year fixed interest bank deposit and received the annual interest each year from 2005 through 2015. The interest would have fluctuated wildly—from €700 to €4,210—and produced €19,520 in income over the 10 years. The original €100,000 remained unchanged.

However, if you instead created a diversified portfolio the account's value would have grown to €198,126. You could then start producing twice as much income and easily offset inflation.
You could have systematically withdrawn twice as much in annual income as the bank deposit, and your account value would still have been 74 percent higher than the banks value. Even if you took triple the income of the bank deposit, your account would still have ended nearly 40 percent higher than the bank deposit.

Simply matching, doubling or tripling the banks income, however, would have left you with inconsistent monthly and yearly amounts. To solve that problem, you could have arranged for a consistent monthly withdrawal, just as you get from Social Security or a pension.
If you took a 5 percent income stream from the starting capital you would have received €50,000 income and your ending value would still have been €158,680—or 58% more than what you started with.

Of course, my illustration is hypothetical over a specific time period. Different periods and asset mixes would produce different results and, as always, past performance does not guarantee future results but you get the idea. I recommend this as the best approach for generating the regular income you want/need to live on in retirement and sustaining it for your lifetime.

Friday, 4 March 2016

The importance of active management in emerging markets.

Investors in emerging markets would be well placed to take a discerning approach to both sector and country allocations in 2016 given current volatility and uncertainty.

The reality for emerging markets is one of a highly differentiated backdrop where opportunities do remain plentiful but only for those willing to be active in their asset allocations.

This generally means an underweight in financial services and significant overweight exposure to the healthcare and consumer sectors. Energy, materials, and industrials, likewise, are substantially underweight in an active strategy.

It’s not the emerging markets universe of 10 years ago where a rising tide was floating all boats – and that means you have to work all the harder to identify value and to avoid the risks. The index is one with significant commodity-related exposure which hides some very attractive growth opportunities.
In financials, the strategy’s sector allocation demonstrates this discriminating approach. Even though exposure to the sector overall is below that of the comparative index, holdings in life insurance companies are a key part of the portfolio, including through Hong Kong-headquartered insurance company AIA.

AIA and its UK-listed peer Prudential have product ranges targeted specifically at the Asian market and so have witnessed high rates of new business growth as countries in the region become wealthier and the number of middle class consumers has increased.

Even so, insurance penetration rates remain low and this means the scope for future growth remains high. In Indonesia, for example, the current life insurance market would be 64 times bigger than it is today if penetration rates were equivalent to those of the UK. By the same measure, China’s would be 31 times bigger.

On a country view, there is an element of misinterpretation about China’s growth prospects by the financial media as the economy rebalances away from commodities and primary industry and further towards consumption.

While there has been a decline in GDP growth, this has largely been caused by a deceleration in primary and secondary industries. Tertiary industry, by contrast, has performed far better, remaining more or less stable since 2012, albeit with a marginal decline.

Elsewhere, India offers opportunity after more than four years of pent-up demand during the economic slowdown preceding the election of prime minister Narendra Modi in May 2014.
The new government’s been doing the right thing and we’re beginning to see stronger growth coming through. The country benefits from positive demographics, and low credit penetration and that helps underline the investment case even as far as the potential for growth in things like car ownership.
Finally, consider the power of demographics to drive future growth, most significantly through changes in the working age population. According to UN estimates, the likes of Malaysia, the Philippines, Peru and India are forecast to see significant GDP tailwinds between 2011 and 2035 as their working age populations grow.

In contrast, developed countries such as Japan and Germany are expected to see sharp declines in the number of people in work over the same period – and this will likely create a drag on GDP growth. In terms of their productivity potential, emerging market countries are generally in a superior position versus their developed market peers.

But even here, a discriminating approach is important, he says, noting that Russia, Korea and Thailand – all of which sit in the emerging markets universe – are expected to experience a decline in their working age populations of between 10-15% between 2011 and 2015.

It underlines the point that not all emerging markets are the same and that active management is the key. As always, consider opting for high quality investments with a focus on income producing assets and seek advice where appropriate.