Business Times - 09 Sep 2009
Despite losing an estimated US$25b in 2008, few people on or off Wall St have capitalised on this crisis as deftly as Warren Buffett
(NEW YORK) Warren E Buffett has two cardinal rules of investing. Rule No 1: Never lose money. Rule No 2: Never forget Rule No 1.
Well, a lot of old rules got trashed when the financial crisis struck - even for the Oracle of Omaha.
At 79, Buffett is coming off the worst year of his long, storied career. On paper, he personally lost an estimated US$25 billion in the financial panic of 2008, enough to cost him his title as the world's richest man. (His friend and sometime bridge partner, Bill Gates, holds that honour, according to Forbes.)
And yet, few people on or off Wall Street have capitalised on this crisis as deftly as Buffett. After counselling Washington to rescue the nation's financial industry and publicly urging Americans to buy stocks as the markets reeled, in he swooped.
Buffett positioned himself to profit from the market mayhem - as well as all those taxpayer-financed bailouts - and thus secure his legacy as one of the greatest investors of all time.
When so many others were running scared last autumn, Buffett invested billions in Goldman Sachs - and got a far better deal than Washington. He then staked billions more on General Electric.
While taxpayers never bailed out Buffett, they did bail out some of his stock picks. Goldman, American Express, Bank of America, Wells Fargo, US Bancorp - all of them got public bailouts that ultimately benefited private shareholders like Buffett.
If Buffett picked well - and, so far, it looks as if he did - his payoff could be enormous. But now, only a year after the crisis struck, he seems to be worrying that the broader stock market might falter again.
After boldly buying when so many were selling assets, his conglomerate, Berkshire Hathaway, is pulling back, buying fewer stocks while investing in corporate and government debt. And Buffett is warning that the economy, though on the mend, remains deeply troubled.
'We are not out of problems yet,' Buffett said last week in an interview, in which he reflected on the lessons of the last 12 months.
'We have got to get the sputtering economy back so it is functioning as it should be.'
Still, Buffett hardly sounded shellshocked in the wake of what he once called the financial equivalent of Pearl Harbor. (An estimated net worth of US$37 billion would be a balm to anyone's psyche.)
'It has been an incredibly interesting period in the last year and a half. Just the drama,' Buffett said. 'Watching the movie has been fun, and occasionally participating has been fun too, though not in what it has done to people's lives.'
Investors big and small hang on Buffett's pronouncements, and with good reason: if you had invested US$1,000 in the stock of Berkshire in 1965, you would have amassed millions of dollars by 2007.
Despite that formidable record, the financial crisis dealt him a stinging blow. While he has not changed his value-oriented approach to investing - he says he likes to buy quality merchandise, whether socks or stocks, at bargain prices - Buffettologists wonder what will define the final chapters of his celebrated career.
In doubt, too, is the future of a post-Buffett Berkshire. The sprawling company, whose primary business is insurance, lost about a fifth of its market value during the last year, roughly as much as the broader stock market.
While Berkshire remains a corporate bastion, it lost US$1.53 billion during the first quarter, then its top-flight credit rating. It returned to profit during Q2.
Time is short. While he has no immediate plans to retire, Buffett is believed to be grooming several possible successors, notably David L Sokol, chairman of MidAmerican Energy Holdings at Berkshire and also chairman of NetJets, the private jet company owned by Berkshire.
After searching in vain for good investments during the bull market years, Buffett used last year's rout to make investments that could sow the seeds of future profits.
Justin Fuller, author of the blog Buffettologist and a partner at Midway Capital Research and Management, said the events of the last year, while painful for many, provided Buffett with the opportunity he had been waiting for.
'He put a ton of capital to work,' Fuller said. 'The crisis gave him the ability to put one last and lasting impression on Berkshire Hathaway.'
For the moment, Buffett seems to be retrenching a bit. Like so many people, he was blindsided by the blowup in the housing market and the recession that followed, which hammered his holdings of financial and consumer-related companies.
He readily concedes he made his share of mistakes. Among his blunders: investing in an energy company around the time oil prices peaked, and in two Irish banks even as that country's financial system trembled.
Buffett declined to predict the short-run course of the stock market. But corporate data from Berkshire shows his company was selling more stocks than it was buying by the end of Q2, according to Bloomberg News.
Its spending on stocks fell to the lowest level in more than five years, although the company is still deftly picking up shares in some companies and buying corporate and government debt.
Among the stocks Buffett has been selling lately is Moody's, the granddaddy of the much-maligned credit ratings industry. Berkshire, Moody's largest shareholder, said last week that it had reduced its stake by 2 per cent\. \-- NYT
Wednesday, September 9, 2009
Wednesday, September 2, 2009
Who will succeed in the coming super-cycle?
Business Times - 01 Sep 2009
Shift of economic power to the East will create huge opportunities for emerging economies
By GERARD LYONS
A PROFOUND change is under way in the world economy. The balance of economic and financial power is shifting from the West to the East.
This shift could usher in a super-cycle of strong, sustained growth for those economies best-positioned to succeed. The successful countries will be those with financial clout or natural resources, or with the ability to adapt and change with the times.
The current crisis, triggered by a systemic failure of the financial system in the West and by an imbalanced world economy, is a sign of this global shift.
Savings flowed 'uphill' from regions running current account surpluses, such as the Middle East and Asia, to deficit countries such as the United States, Spain and the UK.
Some blame the savers, not just the borrowers. This is harsh. The countries that provided the savings to fuel the global boom were not the problem, but are part of the solution. The 1944 Bretton Woods agreement, which has driven thinking since, placed no obligations on savers to correct global imbalances.
The onus was put on countries with deficits to take corrective action. This has to change. A more balanced global economy is needed. The West should spend less and save more, while the Middle East and Asia should do the reverse.
Achieving this will take years, and the implications are huge. The West will become relatively poorer. Money and savings will flow eastwards as multinationals and pension funds invest in markets with higher growth and rising incomes.
Asia will need to change its growth model and boost domestic demand. At this year's Asian Development Bank meeting in Bali, there was a determination to put steps in motion to achieve this, with a focus on social safety nets to discourage saving for a rainy day.
Asia also needs to deepen and broaden its capital markets to allow firms to raise funds, invest and generate jobs. Over the next decade, Asia needs 750 million extra jobs for its young, growing population.
Achieving this would create a huge market for the West to sell into, but at the price of greater global competition. In recent years, the pace and scale of change on the ground in economies as diverse as Brazil, Vietnam and China have been profound.
Furthermore, the catch-up potential of these and others, such as India and Indonesia, is huge. Despite the crisis, the recent infrastructure boom seen in the Middle East continues, particularly in Saudi Arabia and Qatar.
As a result, emerging countries are accounting for an increasing share of global growth. Although the change is widespread, it is China and India that naturally attract attention.
China is still a poor country with huge imbalances, yet its rise over the last three decades has been phenomenal. Now, China is heading into a new development phase, building its infrastructure to compete at every level.
China's US$586 billion stimulus package over this year and next is supplemented by two profound measures - one aimed at building a social safety net and the other at helping farmers to buy consumer goods.
As a result, this year alone the increase in Chinese consumer spending may make up for more than half the shortfall in US consumption. China's growth is forcing others to step up a gear, too.
India's general election this summer saw the government re-elected with a larger majority that could usher in a period of reform, boosting investment and innovation. With 600 million people aged under 25, the potential for India, if it gets this right, is huge.
There are serious implications for commodities, trade and financial flows. Already China accounts for one-third of global demand for metals, and this is rising. India could follow suit, not just in metals, but in food as well.
The outcome will be higher commodity prices, increased investment in countries rich in resources and in water, and a growing need for technological solutions. Regional trade flows are already shifting, with more bilateral deals, rising intra-Asian trade, and greater flows of commodities, goods and investment between Asia and the Middle East, Africa and Latin America.
This will continue, and as it does, it will spell problems for the US dollar. There is a slow-burning fuse underneath the US dollar. A decade ago, Asian central banks held one-third of global currency reserves, and this has now risen to two-thirds, the bulk in US dollars.
Although this has been called the 'dollar trap', the reality is that countries do not want to sell the US dollar actively. Instead, passive diversification is under way. As reserves build, fewer are put into the US dollar.
Brazil and China recently discussed paying for each other's trade in their own currencies, not in US dollars, as is the norm. As trade flows change, we expect more countries to manage their exchange rates against baskets of currencies with which they trade.
The shift of economic power from the West to the East will create profound challenges for many economies, not least the US. It will create huge opportunities for emerging economies, especially those which can position themselves to benefit from the new reality.
Regardless of the winners and losers, this shift is inevitable, and it is crucial to correcting the imbalances in the global economy.
The writer is chief economist and group head of global research at Standard Chartered Bank
Shift of economic power to the East will create huge opportunities for emerging economies
By GERARD LYONS
A PROFOUND change is under way in the world economy. The balance of economic and financial power is shifting from the West to the East.
This shift could usher in a super-cycle of strong, sustained growth for those economies best-positioned to succeed. The successful countries will be those with financial clout or natural resources, or with the ability to adapt and change with the times.
The current crisis, triggered by a systemic failure of the financial system in the West and by an imbalanced world economy, is a sign of this global shift.
Savings flowed 'uphill' from regions running current account surpluses, such as the Middle East and Asia, to deficit countries such as the United States, Spain and the UK.
Some blame the savers, not just the borrowers. This is harsh. The countries that provided the savings to fuel the global boom were not the problem, but are part of the solution. The 1944 Bretton Woods agreement, which has driven thinking since, placed no obligations on savers to correct global imbalances.
The onus was put on countries with deficits to take corrective action. This has to change. A more balanced global economy is needed. The West should spend less and save more, while the Middle East and Asia should do the reverse.
Achieving this will take years, and the implications are huge. The West will become relatively poorer. Money and savings will flow eastwards as multinationals and pension funds invest in markets with higher growth and rising incomes.
Asia will need to change its growth model and boost domestic demand. At this year's Asian Development Bank meeting in Bali, there was a determination to put steps in motion to achieve this, with a focus on social safety nets to discourage saving for a rainy day.
Asia also needs to deepen and broaden its capital markets to allow firms to raise funds, invest and generate jobs. Over the next decade, Asia needs 750 million extra jobs for its young, growing population.
Achieving this would create a huge market for the West to sell into, but at the price of greater global competition. In recent years, the pace and scale of change on the ground in economies as diverse as Brazil, Vietnam and China have been profound.
Furthermore, the catch-up potential of these and others, such as India and Indonesia, is huge. Despite the crisis, the recent infrastructure boom seen in the Middle East continues, particularly in Saudi Arabia and Qatar.
As a result, emerging countries are accounting for an increasing share of global growth. Although the change is widespread, it is China and India that naturally attract attention.
China is still a poor country with huge imbalances, yet its rise over the last three decades has been phenomenal. Now, China is heading into a new development phase, building its infrastructure to compete at every level.
China's US$586 billion stimulus package over this year and next is supplemented by two profound measures - one aimed at building a social safety net and the other at helping farmers to buy consumer goods.
As a result, this year alone the increase in Chinese consumer spending may make up for more than half the shortfall in US consumption. China's growth is forcing others to step up a gear, too.
India's general election this summer saw the government re-elected with a larger majority that could usher in a period of reform, boosting investment and innovation. With 600 million people aged under 25, the potential for India, if it gets this right, is huge.
There are serious implications for commodities, trade and financial flows. Already China accounts for one-third of global demand for metals, and this is rising. India could follow suit, not just in metals, but in food as well.
The outcome will be higher commodity prices, increased investment in countries rich in resources and in water, and a growing need for technological solutions. Regional trade flows are already shifting, with more bilateral deals, rising intra-Asian trade, and greater flows of commodities, goods and investment between Asia and the Middle East, Africa and Latin America.
This will continue, and as it does, it will spell problems for the US dollar. There is a slow-burning fuse underneath the US dollar. A decade ago, Asian central banks held one-third of global currency reserves, and this has now risen to two-thirds, the bulk in US dollars.
Although this has been called the 'dollar trap', the reality is that countries do not want to sell the US dollar actively. Instead, passive diversification is under way. As reserves build, fewer are put into the US dollar.
Brazil and China recently discussed paying for each other's trade in their own currencies, not in US dollars, as is the norm. As trade flows change, we expect more countries to manage their exchange rates against baskets of currencies with which they trade.
The shift of economic power from the West to the East will create profound challenges for many economies, not least the US. It will create huge opportunities for emerging economies, especially those which can position themselves to benefit from the new reality.
Regardless of the winners and losers, this shift is inevitable, and it is crucial to correcting the imbalances in the global economy.
The writer is chief economist and group head of global research at Standard Chartered Bank
Jamie Oliver to open Italian restaurant chain in Asia
Business Times - 26 Aug 2009
(HONG KONG) Celebrity chef Jamie Oliver is planning to launch 30 Italian family-style restaurants in Asia, with the first one set to open its doors to his gastronomic followers in Hong Kong early next year.
The move marks the first step in taking his chain Jamie's Italian - which now has five eateries in England - outside his hometown, to a region which takes pride in its rich diversity of international cuisine and where the economy is picking up faster than anywhere else in the world.
'Why Asia? Of all the markets, it has by far the fastest-growing economy,' said Edward Pinshow, president of Tranic Franchising, which formed a venture with Jamie's Italian International for the Asia expansion. 'The Chinese have become extremely fond of Italian food. In Japan, Jamie's become a household name,' he said yesterday.
Mr Pinshow told AFP that the first stage of the expansion was to open six restaurants in Hong Kong and Singapore, for which he is now raising about US$200 million.
They plan to roll out another 24 eateries in other parts of the region over the next five years, with China, Japan, Taiwan and Korea among the most likely candidates for location.
Mr Pinshow said they are now working hard to get their first restaurant - a 5,000 sq ft, 180-seat venue in Hong Kong - ready for opening in the second quarter of next year.
He said the menu would offer a full-course meal with antipasti, main dish, dessert, plus a glass of Italian wine, for an average of HK$300 (S$55.70) per head\. \-- AFP
(HONG KONG) Celebrity chef Jamie Oliver is planning to launch 30 Italian family-style restaurants in Asia, with the first one set to open its doors to his gastronomic followers in Hong Kong early next year.
The move marks the first step in taking his chain Jamie's Italian - which now has five eateries in England - outside his hometown, to a region which takes pride in its rich diversity of international cuisine and where the economy is picking up faster than anywhere else in the world.
'Why Asia? Of all the markets, it has by far the fastest-growing economy,' said Edward Pinshow, president of Tranic Franchising, which formed a venture with Jamie's Italian International for the Asia expansion. 'The Chinese have become extremely fond of Italian food. In Japan, Jamie's become a household name,' he said yesterday.
Mr Pinshow told AFP that the first stage of the expansion was to open six restaurants in Hong Kong and Singapore, for which he is now raising about US$200 million.
They plan to roll out another 24 eateries in other parts of the region over the next five years, with China, Japan, Taiwan and Korea among the most likely candidates for location.
Mr Pinshow said they are now working hard to get their first restaurant - a 5,000 sq ft, 180-seat venue in Hong Kong - ready for opening in the second quarter of next year.
He said the menu would offer a full-course meal with antipasti, main dish, dessert, plus a glass of Italian wine, for an average of HK$300 (S$55.70) per head\. \-- AFP
Hedge your equities portfolio
Business Times - 26 Aug 2009
The six-month stock rally looks likely to continue but the risks have risen sharply along with prices, writes LIM SAY BOON
INVESTORS who have yet to hedge their equities positions - something that is always important to do for long-term portfolios - should look into this pretty quickly. On balance, the stock rally of the past six months should continue. But the risks have risen sharply along with prices.
The recent 20 per cent correction in stock prices on the Shanghai stock exchange might not have marked the end of the rally. But it is a warning shot. More than that, it was probably also a glimpse into the future - at how the cyclical rebound in the equities markets could end.
This has not been a high-quality rally. The underlying recovery in the global economy has been driven by inventory restocking and government fiscal and monetary stimulus. Meanwhile, the markets for risky assets - stocks, corporate debt, and commodities - have been helped along by a huge amount of liquidity sitting on the sidelines, in bank deposits and money market funds. The 'frightened money' appears to have started re-entering the market, with bets in favour of government intervention trumping deflation (see Chart 1).
But what happens after the 'mechanical' business of inventory restocking runs its course? The US consumer has been weakened by a one-third decline in the average home price and frightened by employment approaching 10 per cent. There must be serious questions over the ability of the US consumer to sustain the economic recovery beyond inventory restocking.
And even more importantly, as the panic of the past two weeks over Chinese stocks has shown, this is a monetary stimulus-dependent rally. On speculation that the Chinese government might start pulling back money supply and credit growth, the Shanghai stock market collapsed. This is not surprising given the correlation between money supply growth and the performance of the Shanghai Composite Index (see Chart 2).
But this is not just a Chinese market phenomenon. Monetary stimulus - cheap money and plenty of it - has been crucial in sustaining the 'wassail on Wall Street' (and elsewhere). The markets understand this. So they are closely scrutinising almost every word from central bankers around the world for hints of imminent 'exit'.
Events of the past 12 months have been tagged 'the Great Recession meets the Great Government Intervention'. On many measures, the 'Great Government Intervention' has prevailed. The global economy is already in recovery. Economies from Germany to Japan to Singapore are out of recession. The US is likely to be confirmed in coming months as having emerged from recession in Q3 2009.
Asset price performance
Going forward, three factors will be crucial to the future of the ongoing recovery in risky asset prices. The first relates to the strength of the cyclical rebound in the global economy. The second is about growth drivers beyond inventory restocking. And the third relates to the eventual unwinding of government stimulus.
There is a serious risk of disappointment in the strength of the economic rebound in coming months. To date, the economic data has been weighted in favour of performances beating market consensus. The equities bulls appear to be betting on the continuation of better-than-expected data.
That is, they are counting on a sharp rebound following the deep decline of the past 18 months. They are betting on the mechanical process of recovery from sharp inventory destocking, further supported by aggressive government stimulus.
However, recoveries from recessions associated with financial crises have tended to be weaker than those from simple 'cyclical recessions'.
Meanwhile, in the US, unemployment is approaching 10 per cent, house prices are down by an average of around 33 per cent, and the US household savings rate had surged from almost zero savings to around 6.2 per cent of disposable income at its recent high (before pulling back more recently to 4.6 per cent). If this marks a 'new frugality' among US consumers, the global economy is going to struggle to find new drivers for growth.
And if governments start withdrawing fiscal and monetary stimulus while the world is still fumbling around for a new growth paradigm, that would almost certainly trigger a sharp correction in the rally in stocks, corporate bonds, commodities, and commodity currencies. At this stage of the recovery, the stimulus is the party 'punchbowl'. Take that away and the party ends.
On balance, central bankers are likely to be very circumspect about withdrawing stimulus. In the US, looking back some 40 years, the Federal Reserve has never raised its policy rate until the decline in the unemployment rate has been unambiguously entrenched.
That has meant a lag of months, even a year, after the peaking of unemployment. In China, there has been a tendency by the Chinese government over recent cycles to pull in money supply growth only during peaks or close to peaks of industrial production and export growth.
Currently, US unemployment has only just shown very early signs of peaking. Meanwhile, in China, exports are still in deep year-on-year contraction. And with prices in deflation, there is little incentive at this stage for the Chinese government to reverse course on monetary policy.
So money is likely to continue to be plentiful and cheap. Low interest rates are likely to continue forcing investors into the risky asset markets in search of higher returns. And late-comers to the rally could push the markets into an overshoot of fundamentals.
For example, the Shanghai Composite prior to the recent correction was trading at 3.8 times book value. And even with the correction, it is still trading at around 3.6 times book. Eventually, when earnings growth kicks back in, the focus will turn to price-earnings valuations and high returns on equity will eventually justify the high price-to-book valuations. But this has not happened yet - hence the 'overshoot' of fundamentals.
Prices for risky assets are likely to push higher, notwithstanding all the unresolved fundamental problems. But the easy money has been made. Prepare for a rougher ride from here. Volatility - measured by the S&P 500 volatility index VIX - recently hit a low of around 23 per cent. It is still trading around 25 per cent, a far cry from its crisis peak of 90 per cent. Volatility is cheap. Investors should consider buying a proxy for VIX (see Chart 3).
The less aggressive investor might want to start taking profits off the table while continuing to ride this liquidity rally. They might put those profits into VIX to hedge their equities portfolios. They might also want to consider low correlation plays such as gold.
Lim Say Boon is the chief investment strategist for Standard Chartered Group Wealth Management and Standard Chartered Private Bank
The six-month stock rally looks likely to continue but the risks have risen sharply along with prices, writes LIM SAY BOON
INVESTORS who have yet to hedge their equities positions - something that is always important to do for long-term portfolios - should look into this pretty quickly. On balance, the stock rally of the past six months should continue. But the risks have risen sharply along with prices.
The recent 20 per cent correction in stock prices on the Shanghai stock exchange might not have marked the end of the rally. But it is a warning shot. More than that, it was probably also a glimpse into the future - at how the cyclical rebound in the equities markets could end.
This has not been a high-quality rally. The underlying recovery in the global economy has been driven by inventory restocking and government fiscal and monetary stimulus. Meanwhile, the markets for risky assets - stocks, corporate debt, and commodities - have been helped along by a huge amount of liquidity sitting on the sidelines, in bank deposits and money market funds. The 'frightened money' appears to have started re-entering the market, with bets in favour of government intervention trumping deflation (see Chart 1).
But what happens after the 'mechanical' business of inventory restocking runs its course? The US consumer has been weakened by a one-third decline in the average home price and frightened by employment approaching 10 per cent. There must be serious questions over the ability of the US consumer to sustain the economic recovery beyond inventory restocking.
And even more importantly, as the panic of the past two weeks over Chinese stocks has shown, this is a monetary stimulus-dependent rally. On speculation that the Chinese government might start pulling back money supply and credit growth, the Shanghai stock market collapsed. This is not surprising given the correlation between money supply growth and the performance of the Shanghai Composite Index (see Chart 2).
But this is not just a Chinese market phenomenon. Monetary stimulus - cheap money and plenty of it - has been crucial in sustaining the 'wassail on Wall Street' (and elsewhere). The markets understand this. So they are closely scrutinising almost every word from central bankers around the world for hints of imminent 'exit'.
Events of the past 12 months have been tagged 'the Great Recession meets the Great Government Intervention'. On many measures, the 'Great Government Intervention' has prevailed. The global economy is already in recovery. Economies from Germany to Japan to Singapore are out of recession. The US is likely to be confirmed in coming months as having emerged from recession in Q3 2009.
Asset price performance
Going forward, three factors will be crucial to the future of the ongoing recovery in risky asset prices. The first relates to the strength of the cyclical rebound in the global economy. The second is about growth drivers beyond inventory restocking. And the third relates to the eventual unwinding of government stimulus.
There is a serious risk of disappointment in the strength of the economic rebound in coming months. To date, the economic data has been weighted in favour of performances beating market consensus. The equities bulls appear to be betting on the continuation of better-than-expected data.
That is, they are counting on a sharp rebound following the deep decline of the past 18 months. They are betting on the mechanical process of recovery from sharp inventory destocking, further supported by aggressive government stimulus.
However, recoveries from recessions associated with financial crises have tended to be weaker than those from simple 'cyclical recessions'.
Meanwhile, in the US, unemployment is approaching 10 per cent, house prices are down by an average of around 33 per cent, and the US household savings rate had surged from almost zero savings to around 6.2 per cent of disposable income at its recent high (before pulling back more recently to 4.6 per cent). If this marks a 'new frugality' among US consumers, the global economy is going to struggle to find new drivers for growth.
And if governments start withdrawing fiscal and monetary stimulus while the world is still fumbling around for a new growth paradigm, that would almost certainly trigger a sharp correction in the rally in stocks, corporate bonds, commodities, and commodity currencies. At this stage of the recovery, the stimulus is the party 'punchbowl'. Take that away and the party ends.
On balance, central bankers are likely to be very circumspect about withdrawing stimulus. In the US, looking back some 40 years, the Federal Reserve has never raised its policy rate until the decline in the unemployment rate has been unambiguously entrenched.
That has meant a lag of months, even a year, after the peaking of unemployment. In China, there has been a tendency by the Chinese government over recent cycles to pull in money supply growth only during peaks or close to peaks of industrial production and export growth.
Currently, US unemployment has only just shown very early signs of peaking. Meanwhile, in China, exports are still in deep year-on-year contraction. And with prices in deflation, there is little incentive at this stage for the Chinese government to reverse course on monetary policy.
So money is likely to continue to be plentiful and cheap. Low interest rates are likely to continue forcing investors into the risky asset markets in search of higher returns. And late-comers to the rally could push the markets into an overshoot of fundamentals.
For example, the Shanghai Composite prior to the recent correction was trading at 3.8 times book value. And even with the correction, it is still trading at around 3.6 times book. Eventually, when earnings growth kicks back in, the focus will turn to price-earnings valuations and high returns on equity will eventually justify the high price-to-book valuations. But this has not happened yet - hence the 'overshoot' of fundamentals.
Prices for risky assets are likely to push higher, notwithstanding all the unresolved fundamental problems. But the easy money has been made. Prepare for a rougher ride from here. Volatility - measured by the S&P 500 volatility index VIX - recently hit a low of around 23 per cent. It is still trading around 25 per cent, a far cry from its crisis peak of 90 per cent. Volatility is cheap. Investors should consider buying a proxy for VIX (see Chart 3).
The less aggressive investor might want to start taking profits off the table while continuing to ride this liquidity rally. They might put those profits into VIX to hedge their equities portfolios. They might also want to consider low correlation plays such as gold.
Lim Say Boon is the chief investment strategist for Standard Chartered Group Wealth Management and Standard Chartered Private Bank
Should shareholders own companies?
Business Times - 02 Sep 2009
BREAKINGVIEWS.COM
By EDWARD HADAS
SHAREHOLDERS own companies. That is what the law says, but when it comes to big listed corporations, most of these owners don't take much care over their property. Lord Myners, the UK City minister, is the latest to complain about this cavalier approach.
Mr Myners' previous suggestions for reform - selling votes, and offering extra votes to long-term holders - don't address the main problem: Most shareholders these days can't or won't think like owners. But his latest proposal - to have more non-voting shares for apathetic investors - is a sensible acknowledgement of the reality that most equity investors make bad owners.
Small private investors generally don't know enough about business and finance. The professional portfolio investor looks only a year or two ahead, and the constant struggle to outperform peers leaves almost no time to worry about individual holdings. Pure traders rarely look more than a few weeks ahead. Even activist investors are often just looking for a quick turn.
Ideally, equity investors might somehow be prodded to take a more active and long-term interest in management. But it is hard to see how that can happen without draconian changes in capital markets: Ending the cult of relative performance and imposing multi-year minimum holding periods.
But something less radical could work even better. Why not admit that absentee equity investors of large publicly traded companies shouldn't generally be treated as owners in the first place? That seems to be the thinking underpinning Mr Myners' idea that many shareholders could choose to disenfranchise themselves by investing in B-shares.
The attribution of ownership to common shares is something of a historical accident. It can still work well for small companies run by their controlling shareholders. But for big companies, common shares are best seen as one of many types of capital. Bondholders and lending banks provide other types of financial capital. Workers bring human capital. Governments and communities offer social capital. There is no good reason to give equity holders absolute priority over all the other capital providers, in the broad sense of the term.
The responsibilities of ownership are best handed to management. Top managers often say that 'shareholder value' is their only or their ultimate concern. That may be true in some theoretical sense - especially if they are talking about shareholder value a generation or two from now. But in practice, the managers spend most of their time trying to serve and balance the needs and desires of many constituencies.
Shareholders are certainly one of them, and should be more important than, say, former workers. But equity investors typically focus on strong quarterly earnings and pleasing patter. Those are usually less important than such other management - or rather ownership - responsibilities as big investment decisions, keeping key workers on board, meeting environmental regulations and ensuring that there is enough cash to keep up with debt payments.
Managers overall do a good job in working for all capital providers. They are certainly better placed to run companies day-to-day and quarter-to-quarter than any outsiders, including the so-called owners. Even when it comes to company-shaping decisions - major investments, acquisitions or being acquired - managers are better placed than anyone else.
As long as markets are liquid, most shareholders will prefer to sell than to try to change companies. That's probably a sensible use of their time, since it's hard to believe these outsiders could add much value to corporate decision-making, even if they tried.
If you want someone to oversee the managers, it should not be the shareholders but the board of directors. Board members aren't generally as short-term in their thinking as the shareholders who usually rubber-stamp their election. A well-chosen board can offer managers outside perspective, relevant experience and even ethical guidance. True, few boards are good at standing up to domineering chief executives. But that's the nature of collaborative enterprises. No system of corporate governance will ever be perfect.
Mr Myners' notion of creating voting and non-voting shares could help address one of the main weaknesses of the current system: That it is too hard to change incompetent boards. If only half the shares carried votes and the prices of voting and non-voting shares were not much different, it would take roughly half as much money to influence corporate direction. That lower threshold could reduce complacency.
In any case, corporate reformers should leave indifferent shareholders alone. For anyone who is serious about improving the oversight of companies - and protecting the long-term interests of shareholders - the board of directors should be the first port of call.
BREAKINGVIEWS.COM
By EDWARD HADAS
SHAREHOLDERS own companies. That is what the law says, but when it comes to big listed corporations, most of these owners don't take much care over their property. Lord Myners, the UK City minister, is the latest to complain about this cavalier approach.
Mr Myners' previous suggestions for reform - selling votes, and offering extra votes to long-term holders - don't address the main problem: Most shareholders these days can't or won't think like owners. But his latest proposal - to have more non-voting shares for apathetic investors - is a sensible acknowledgement of the reality that most equity investors make bad owners.
Small private investors generally don't know enough about business and finance. The professional portfolio investor looks only a year or two ahead, and the constant struggle to outperform peers leaves almost no time to worry about individual holdings. Pure traders rarely look more than a few weeks ahead. Even activist investors are often just looking for a quick turn.
Ideally, equity investors might somehow be prodded to take a more active and long-term interest in management. But it is hard to see how that can happen without draconian changes in capital markets: Ending the cult of relative performance and imposing multi-year minimum holding periods.
But something less radical could work even better. Why not admit that absentee equity investors of large publicly traded companies shouldn't generally be treated as owners in the first place? That seems to be the thinking underpinning Mr Myners' idea that many shareholders could choose to disenfranchise themselves by investing in B-shares.
The attribution of ownership to common shares is something of a historical accident. It can still work well for small companies run by their controlling shareholders. But for big companies, common shares are best seen as one of many types of capital. Bondholders and lending banks provide other types of financial capital. Workers bring human capital. Governments and communities offer social capital. There is no good reason to give equity holders absolute priority over all the other capital providers, in the broad sense of the term.
The responsibilities of ownership are best handed to management. Top managers often say that 'shareholder value' is their only or their ultimate concern. That may be true in some theoretical sense - especially if they are talking about shareholder value a generation or two from now. But in practice, the managers spend most of their time trying to serve and balance the needs and desires of many constituencies.
Shareholders are certainly one of them, and should be more important than, say, former workers. But equity investors typically focus on strong quarterly earnings and pleasing patter. Those are usually less important than such other management - or rather ownership - responsibilities as big investment decisions, keeping key workers on board, meeting environmental regulations and ensuring that there is enough cash to keep up with debt payments.
Managers overall do a good job in working for all capital providers. They are certainly better placed to run companies day-to-day and quarter-to-quarter than any outsiders, including the so-called owners. Even when it comes to company-shaping decisions - major investments, acquisitions or being acquired - managers are better placed than anyone else.
As long as markets are liquid, most shareholders will prefer to sell than to try to change companies. That's probably a sensible use of their time, since it's hard to believe these outsiders could add much value to corporate decision-making, even if they tried.
If you want someone to oversee the managers, it should not be the shareholders but the board of directors. Board members aren't generally as short-term in their thinking as the shareholders who usually rubber-stamp their election. A well-chosen board can offer managers outside perspective, relevant experience and even ethical guidance. True, few boards are good at standing up to domineering chief executives. But that's the nature of collaborative enterprises. No system of corporate governance will ever be perfect.
Mr Myners' notion of creating voting and non-voting shares could help address one of the main weaknesses of the current system: That it is too hard to change incompetent boards. If only half the shares carried votes and the prices of voting and non-voting shares were not much different, it would take roughly half as much money to influence corporate direction. That lower threshold could reduce complacency.
In any case, corporate reformers should leave indifferent shareholders alone. For anyone who is serious about improving the oversight of companies - and protecting the long-term interests of shareholders - the board of directors should be the first port of call.
A comfortable, not lavish, retirement
Business Times - 02 Sep 2009
Surviving retirement without a big pension that never runs out isn't easy, but it's possible with sensible tweaking along the way
By RON LIEBER
WHEN you retire, you'll probably want to visit your grandchildren more than once each year. Perhaps you'll aim to give money each month to charity or your religious congregation.
The amount you have saved will clearly matter a great deal in whether you can do these things. But so will your portfolio withdrawal rate - the percentage of your assets that you take out each year to pay your expenses. You want it to be high enough to afford fun and generosity but low enough that you have little risk of running out of money.
Until a few years ago, the standard advice was that 4 or 4.5 per cent was about the best you could do. So if you had US$500,000 in savings, 4 per cent would give you about US$20,000 in your first year of retirement to augment Social Security and any other income. Then, you could give yourself a raise each year based on inflation. At 3 per cent inflation, you'd end up with US$20,600 in the second year of retirement and so on from there.
More recently, however, several studies have suggested that withdrawing 5 or even 6 per cent was possible - and still prudent. Retirees rejoiced.
And then the stock market fell to pieces. In the wake of the carnage, people who hope to retire anytime soon will probably be starting with a kitty smaller than they had expected just a few years ago. So an extra percentage point on the withdrawal rate matters even more than it might have in 2007. It could be the difference between travelling to see family or not, or it could determine when you get to retire in the first place.
But could it also lead you on a path towards ruin? This week, I went back to two of the researchers who had come up with the more generous formulas to see whether they're sticking by them. Not only are they staying the course, but one is telling his clients that they can take out as much as 6 per cent of their money during the next year. How can they justify something like this after the year we've just had?
Setting a rate
Here's one big reason to be suspicious about applying that same 4.5 per cent withdrawal rate to all people, no matter when they retire: Should a person who had the bad luck to retire in March 2009, at the stock market's recent bottom, spend 4.5 per cent of, say, US$350,000, or could they spend a bit more? After all, people who retired a year or two earlier with the same portfolio, before the bulk of the stock market's decline, might have started with 4.5 per cent of US$550,000 (and taken inflation-adjusted raises each year from that initial amount until they died).
It didn't seem right to Michael E Kitces, a financial planner and director of research at Pinnacle Advisory Group in Columbia, Maryland. He said he was uncomfortable with all the decisions made based on 'the day you happen to come into my office and the balance on that day'. In fact, he started looking into this before the market collapsed, and his research ended up suiting the conditions of the last year perfectly. He tried to figure out whether one could estimate how much better or worse stockmarket returns might be in the years after big declines - and whether the answer might allow for a more generous initial withdrawal rate.
What he concluded was that the overall market's price-earnings ratio - taking the current price for the Standard & Poor's 500-stock index divided by the average inflation-adjusted earnings for the past 10 years before the date of withdrawal - was predictive enough to produce guidelines. Then he came up with the following suggestions for a portfolio of 60 per cent stocks and 40 per cent bonds meant to last through 30 years of retirement.
If the ratio was above 20, indicating that stocks were overvalued, then a 4.5 per cent withdrawal rate was prudent given that the stock market was likely to fall. But if it was between 12 and 20 (the historical median is roughly 15.5), a 5 per cent rate was safe, tested against every historical period for which data was available. And if it was under 12 - a level it almost got to earlier this year - a rate of 5.5 per cent would work.
The most recent figure was 17.67, which suggests a 5 per cent withdrawal rate for current retirees. It had been above 20 until last October.
Mr Kitces gets his ratios from a set of data that Yale professor Robert Shiller creates and stores on Yale's website, at http:bit.ly/3gexz.
Making adjustments
Jonathan Guyton, a financial planner with Cornerstone Wealth Advisors in Edina, Minnesota, looked at the 4.5 per cent baseline and asked a different question: Couldn't it be a whole lot higher if a client was willing to forgo the annual inflation raise when conditions called for a bit of thrift? And if so, under what conditions would that happen - and would people be willing to, in effect, cut their own retirement paycheck?
It didn't take Mr Guyton long to find out. Two studies he worked on in 2004 and 2006 led him to the following conclusions about a portfolio meant to last 40 years: Using Mr Kitces' research to establish a baseline initial withdrawal rate of up to 5.5 per cent (or 5 per cent given valuations at the moment), the initial withdrawal rate could rise another whole percentage point, to 6.5 per cent, if at least 65 per cent of the money was in a variety of stocks, as long as the owner followed a few rules.
First, if the portfolio lost money in any given year, there would be no raise at all for inflation. And if the size of the withdrawal, in dollars, in any year amounted to an actual percentage rate of the remaining portfolio that was at least 20 per cent more than the initial withdrawal rate, retirees would have to take a 10 per cent cut in their annual allowance that year. Then, the increase for inflation would build on that new base the following year.
While Mr Guyton also put a 'prosperity' rule into place that allowed for a 10 per cent increase in particularly good years, 2008 tested his 'capital preservation' rule first. So he cut his clients' withdrawals by 10 per cent.
How did they take it? 'Many of them said, 'really, that's all?' ' he recalled. 'Keep in mind how dire things seemed.' Others blanched, noting that they had played by the rules and didn't cause the financial crisis. But they came around when Mr Guyton gave them a good talking to. 'For us to maintain the same degree of long-term financial security for you that you said you wanted, this is what you need to do,' he told them. 'It's a system. And the great thing about a policy is that it leaves no doubt about what you are supposed to do.' Another cut of 10 per cent might severely hurt their purchasing power, but the stock market's performance since March suggests that it won't be necessary in the coming months.
The real world
The actual execution of these strategies requires a bit more work.
You need to figure out what stocks and bonds should make up your investments in the first place, for instance, and how best to minimise taxes when you sell each year.
All this together seems complicated enough to suggest to a cynic that it's just a ruse to keep a client coming back each year for costly check-ups. That said, surviving retirement without a big pension that never runs out isn't easy, and paying a bit of money each year in exchange for help in prudently raising your withdrawal rate by 20 per cent does not strike me as completely insane.
Retirees also have to wonder whether the market will behave in the future as it has in the past. Or whether retirees can realistically stick to a strict budget.
'Even if you tell me that spending fluctuates a bit here and there, we still have to start somewhere,' said Mr Kitces. 'What on earth is your alternative? Are you not going to give any spending recommendations whatsoever?'
Mr Guyton solves this issue for clients who can afford it by carving out a separate discretionary fund. Retirees can spend that money on anything, but once it's gone, it's gone - unless they manage to replenish it out of their regular annual withdrawal.
There are still plenty of retirees and advisers who will balk at what appears to be outsize aggressiveness, whatever the studies indicate. To them, Mr Guyton suggests an entirely different consideration.
'The only problem is you run out of money? I don't buy that,' he said. 'For a lot of people who lock in on a 4 per cent figure, it's a formula for regret. They get 15 years in and look back at all of the things they didn't do. And now their health is gone.' - NYT
Surviving retirement without a big pension that never runs out isn't easy, but it's possible with sensible tweaking along the way
By RON LIEBER
WHEN you retire, you'll probably want to visit your grandchildren more than once each year. Perhaps you'll aim to give money each month to charity or your religious congregation.
The amount you have saved will clearly matter a great deal in whether you can do these things. But so will your portfolio withdrawal rate - the percentage of your assets that you take out each year to pay your expenses. You want it to be high enough to afford fun and generosity but low enough that you have little risk of running out of money.
Until a few years ago, the standard advice was that 4 or 4.5 per cent was about the best you could do. So if you had US$500,000 in savings, 4 per cent would give you about US$20,000 in your first year of retirement to augment Social Security and any other income. Then, you could give yourself a raise each year based on inflation. At 3 per cent inflation, you'd end up with US$20,600 in the second year of retirement and so on from there.
More recently, however, several studies have suggested that withdrawing 5 or even 6 per cent was possible - and still prudent. Retirees rejoiced.
And then the stock market fell to pieces. In the wake of the carnage, people who hope to retire anytime soon will probably be starting with a kitty smaller than they had expected just a few years ago. So an extra percentage point on the withdrawal rate matters even more than it might have in 2007. It could be the difference between travelling to see family or not, or it could determine when you get to retire in the first place.
But could it also lead you on a path towards ruin? This week, I went back to two of the researchers who had come up with the more generous formulas to see whether they're sticking by them. Not only are they staying the course, but one is telling his clients that they can take out as much as 6 per cent of their money during the next year. How can they justify something like this after the year we've just had?
Setting a rate
Here's one big reason to be suspicious about applying that same 4.5 per cent withdrawal rate to all people, no matter when they retire: Should a person who had the bad luck to retire in March 2009, at the stock market's recent bottom, spend 4.5 per cent of, say, US$350,000, or could they spend a bit more? After all, people who retired a year or two earlier with the same portfolio, before the bulk of the stock market's decline, might have started with 4.5 per cent of US$550,000 (and taken inflation-adjusted raises each year from that initial amount until they died).
It didn't seem right to Michael E Kitces, a financial planner and director of research at Pinnacle Advisory Group in Columbia, Maryland. He said he was uncomfortable with all the decisions made based on 'the day you happen to come into my office and the balance on that day'. In fact, he started looking into this before the market collapsed, and his research ended up suiting the conditions of the last year perfectly. He tried to figure out whether one could estimate how much better or worse stockmarket returns might be in the years after big declines - and whether the answer might allow for a more generous initial withdrawal rate.
What he concluded was that the overall market's price-earnings ratio - taking the current price for the Standard & Poor's 500-stock index divided by the average inflation-adjusted earnings for the past 10 years before the date of withdrawal - was predictive enough to produce guidelines. Then he came up with the following suggestions for a portfolio of 60 per cent stocks and 40 per cent bonds meant to last through 30 years of retirement.
If the ratio was above 20, indicating that stocks were overvalued, then a 4.5 per cent withdrawal rate was prudent given that the stock market was likely to fall. But if it was between 12 and 20 (the historical median is roughly 15.5), a 5 per cent rate was safe, tested against every historical period for which data was available. And if it was under 12 - a level it almost got to earlier this year - a rate of 5.5 per cent would work.
The most recent figure was 17.67, which suggests a 5 per cent withdrawal rate for current retirees. It had been above 20 until last October.
Mr Kitces gets his ratios from a set of data that Yale professor Robert Shiller creates and stores on Yale's website, at http:bit.ly/3gexz.
Making adjustments
Jonathan Guyton, a financial planner with Cornerstone Wealth Advisors in Edina, Minnesota, looked at the 4.5 per cent baseline and asked a different question: Couldn't it be a whole lot higher if a client was willing to forgo the annual inflation raise when conditions called for a bit of thrift? And if so, under what conditions would that happen - and would people be willing to, in effect, cut their own retirement paycheck?
It didn't take Mr Guyton long to find out. Two studies he worked on in 2004 and 2006 led him to the following conclusions about a portfolio meant to last 40 years: Using Mr Kitces' research to establish a baseline initial withdrawal rate of up to 5.5 per cent (or 5 per cent given valuations at the moment), the initial withdrawal rate could rise another whole percentage point, to 6.5 per cent, if at least 65 per cent of the money was in a variety of stocks, as long as the owner followed a few rules.
First, if the portfolio lost money in any given year, there would be no raise at all for inflation. And if the size of the withdrawal, in dollars, in any year amounted to an actual percentage rate of the remaining portfolio that was at least 20 per cent more than the initial withdrawal rate, retirees would have to take a 10 per cent cut in their annual allowance that year. Then, the increase for inflation would build on that new base the following year.
While Mr Guyton also put a 'prosperity' rule into place that allowed for a 10 per cent increase in particularly good years, 2008 tested his 'capital preservation' rule first. So he cut his clients' withdrawals by 10 per cent.
How did they take it? 'Many of them said, 'really, that's all?' ' he recalled. 'Keep in mind how dire things seemed.' Others blanched, noting that they had played by the rules and didn't cause the financial crisis. But they came around when Mr Guyton gave them a good talking to. 'For us to maintain the same degree of long-term financial security for you that you said you wanted, this is what you need to do,' he told them. 'It's a system. And the great thing about a policy is that it leaves no doubt about what you are supposed to do.' Another cut of 10 per cent might severely hurt their purchasing power, but the stock market's performance since March suggests that it won't be necessary in the coming months.
The real world
The actual execution of these strategies requires a bit more work.
You need to figure out what stocks and bonds should make up your investments in the first place, for instance, and how best to minimise taxes when you sell each year.
All this together seems complicated enough to suggest to a cynic that it's just a ruse to keep a client coming back each year for costly check-ups. That said, surviving retirement without a big pension that never runs out isn't easy, and paying a bit of money each year in exchange for help in prudently raising your withdrawal rate by 20 per cent does not strike me as completely insane.
Retirees also have to wonder whether the market will behave in the future as it has in the past. Or whether retirees can realistically stick to a strict budget.
'Even if you tell me that spending fluctuates a bit here and there, we still have to start somewhere,' said Mr Kitces. 'What on earth is your alternative? Are you not going to give any spending recommendations whatsoever?'
Mr Guyton solves this issue for clients who can afford it by carving out a separate discretionary fund. Retirees can spend that money on anything, but once it's gone, it's gone - unless they manage to replenish it out of their regular annual withdrawal.
There are still plenty of retirees and advisers who will balk at what appears to be outsize aggressiveness, whatever the studies indicate. To them, Mr Guyton suggests an entirely different consideration.
'The only problem is you run out of money? I don't buy that,' he said. 'For a lot of people who lock in on a 4 per cent figure, it's a formula for regret. They get 15 years in and look back at all of the things they didn't do. And now their health is gone.' - NYT
Navigating the global credit crisis
Business Times - 02 Sep 2009
MONEY MATTERS
Coming months are likely to show not only recovery but, in the case of US, accelerating recovery investors have been hoping for
By NORMAN VILLAMIN
INVESTORS can learn a lot from history. Looking back at the first quarter of 2009, many investors, fretting about the woeful state of the global economy, failed to focus on the things that matter - valuation and the rapid acceleration of global policy momentum. As it turned out, the combination of these factors created the backdrop for the sharp rally in global equities over the past six months.
Looking forward now from the heights that global equity prices have achieved, it is understandable that investors are getting increasingly wary. Admittedly, the valuation case has weakened with the rallies to date. But global policy effectiveness has not waned. Rather, it has begun to shift from the Chinese-led successes of the first half of 2009 to a broader, global story, with US policy achievements, in particular, emerging recently. This leaves the prospect, we believe, for another leg in the global rally in equities that began in March 2009.
Continued momentum in US economic and earnings data in coming weeks, underpinned by US policy momentum of the second quarter, is expected to drive this leg of the rally. Year-to-date, economic recovery momentum has been key to identifying relative outperformers globally. With emerging markets recovering from the 'Great Recession' more quickly than developed markets, economic momentum reflected in data releases has been a focus of market attention in the current rally. Recall, early in the year, news of the US and Chinese economic policy changes that helped set the stage for a bottoming in global markets. With Chinese stimulus coming sooner and more aggressively, unsurprisingly, the MSCI China rose 35 per cent in the first half of 2009, compared with a meagre 5 per cent for MSCI World.
With Chinese policy now stabilising, as Beijing tries to contain rapid year-to-date loan growth, US growth momentum is beginning to benefit from Washington's stimulus efforts of the late-first quarter of 2009. Their effectiveness was most recently seen in the July 2009 expansion of the Institute of Supply Management's New Orders Index, which historically has provided a three to six-month lead to turns in the US economy. Indeed, the most recent reading suggests that investors' concerns about job growth in the United States may begin to be addressed in coming months (see chart), providing further economic support to the earnings drivers that may emerge come October this year.
Looking a bit further ahead, the US third-quarter earnings season likewise looks set to provide support to the market in coming weeks. Indeed, during the rally since March, the US earnings season - the first six weeks of each quarter - was a key driver for market performance. Recall, as the first-quarter earnings season got under way in April, world equities, represented by MSCI World, rallied 18 per cent before stalling in mid-May as the earnings season came to a close. Similarly, as the second-quarter earnings season got under way in July 2009, world equities rallied another 12 per cent up to mid-August, as the season came to a close again. In total, on a compounded basis, the earnings-season rallies accounted for almost two-thirds of the 52 per cent rise in global equities up to Aug 21. With another earnings season quickly coming upon us in October, Tobias Levkovich, Citi's US equity strategist, notes that upward revisions to earnings expectations could continue into the northern autumn, potentially providing a catalyst for the next leg of the rally we have seen since March.
The resumption of US economic growth momentum and positive prospects for US earnings surprises in the third quarter suggest he global economic recovery is starting to transition from one with China as the sole driver to a more balanced US-China model. Indeed, since mid-year, this transition in policy and data has resulted in US equities outperforming their Chinese counterparts, with MSCI US rising 11.5 per cent up to Aug 21, exceeding the 5.7 per cent increase in MSCI China over the same period.
Therefore, although we can appreciate the caution investors are expressing, given that valuations are no longer cheap, expected news flow leads us to believe that caution will not be rewarded by the markets in the coming months. Rather, we encourage investors to manage their risk by managing their exposure within global equities. We expect that Asian equities, even after a near-50 per cent rally year-to-date, as indicated by MSCI Asia ex-Japan, may participate in this next leg. However, unlike the first half of 2009, where they trumped the flattish 5 per cent performance of global equities, we don't believe that they will necessarily lead regional performances as they did in the first semester.
Rather, investors who ignored US equities early in the year may wish to reconsider opportunities provided by this market. However, they should keep in mind that while recovery looks entrenched, the US recovery is expected to come in sub-trend, with GDP growth in the recovery phase falling short of previous cycle peaks. With this in mind, investors may seek to focus on opportunities that continue to under-price even the modest economic recovery we expect.
In this regard, we see opportunities in US and global energy services companies. While global crude prices have rallied from near-production cost at the beginning of the year to above US$70 a barrel recently, Citi analysts are still able to identify stocks where down-cycle price-to-book value multiples remain in place. As a result, even though global book valuations are expected to recover at only a moderate pace, the prospect for price-to-book value multiple expansion leaves an attractive risk-reward outlook for investors looking ahead.
Despite our optimism through to year-end, we must admit that the global recovery story must be strengthened further to sustain the rally into the new year. China, already grappling with rapid loan growth, must moderate its aggressive easing policy of early-2009 and structurally, continue to build its domestic consumer base. As for the US, it needs to transition its economy from a stimulus-led recovery back to a private sector-driven demand story.
On balance, though, while there are certainly concerns on the horizon, news flow over the coming months is expected to show not only recovery but, in the case of the US, accelerating recovery that investors have been hoping for, leaving the balance of risk and reward through year-end still pointed in favour of the reward camp, and creating an opportunity for investors to broaden out their focus from first-half leader emerging markets to include opportunities presented by US markets as well.
The writer is head of investment analysis & advice, wealth management, Asia-Pacific, Citi
MONEY MATTERS
Coming months are likely to show not only recovery but, in the case of US, accelerating recovery investors have been hoping for
By NORMAN VILLAMIN
INVESTORS can learn a lot from history. Looking back at the first quarter of 2009, many investors, fretting about the woeful state of the global economy, failed to focus on the things that matter - valuation and the rapid acceleration of global policy momentum. As it turned out, the combination of these factors created the backdrop for the sharp rally in global equities over the past six months.
Looking forward now from the heights that global equity prices have achieved, it is understandable that investors are getting increasingly wary. Admittedly, the valuation case has weakened with the rallies to date. But global policy effectiveness has not waned. Rather, it has begun to shift from the Chinese-led successes of the first half of 2009 to a broader, global story, with US policy achievements, in particular, emerging recently. This leaves the prospect, we believe, for another leg in the global rally in equities that began in March 2009.
Continued momentum in US economic and earnings data in coming weeks, underpinned by US policy momentum of the second quarter, is expected to drive this leg of the rally. Year-to-date, economic recovery momentum has been key to identifying relative outperformers globally. With emerging markets recovering from the 'Great Recession' more quickly than developed markets, economic momentum reflected in data releases has been a focus of market attention in the current rally. Recall, early in the year, news of the US and Chinese economic policy changes that helped set the stage for a bottoming in global markets. With Chinese stimulus coming sooner and more aggressively, unsurprisingly, the MSCI China rose 35 per cent in the first half of 2009, compared with a meagre 5 per cent for MSCI World.
With Chinese policy now stabilising, as Beijing tries to contain rapid year-to-date loan growth, US growth momentum is beginning to benefit from Washington's stimulus efforts of the late-first quarter of 2009. Their effectiveness was most recently seen in the July 2009 expansion of the Institute of Supply Management's New Orders Index, which historically has provided a three to six-month lead to turns in the US economy. Indeed, the most recent reading suggests that investors' concerns about job growth in the United States may begin to be addressed in coming months (see chart), providing further economic support to the earnings drivers that may emerge come October this year.
Looking a bit further ahead, the US third-quarter earnings season likewise looks set to provide support to the market in coming weeks. Indeed, during the rally since March, the US earnings season - the first six weeks of each quarter - was a key driver for market performance. Recall, as the first-quarter earnings season got under way in April, world equities, represented by MSCI World, rallied 18 per cent before stalling in mid-May as the earnings season came to a close. Similarly, as the second-quarter earnings season got under way in July 2009, world equities rallied another 12 per cent up to mid-August, as the season came to a close again. In total, on a compounded basis, the earnings-season rallies accounted for almost two-thirds of the 52 per cent rise in global equities up to Aug 21. With another earnings season quickly coming upon us in October, Tobias Levkovich, Citi's US equity strategist, notes that upward revisions to earnings expectations could continue into the northern autumn, potentially providing a catalyst for the next leg of the rally we have seen since March.
The resumption of US economic growth momentum and positive prospects for US earnings surprises in the third quarter suggest he global economic recovery is starting to transition from one with China as the sole driver to a more balanced US-China model. Indeed, since mid-year, this transition in policy and data has resulted in US equities outperforming their Chinese counterparts, with MSCI US rising 11.5 per cent up to Aug 21, exceeding the 5.7 per cent increase in MSCI China over the same period.
Therefore, although we can appreciate the caution investors are expressing, given that valuations are no longer cheap, expected news flow leads us to believe that caution will not be rewarded by the markets in the coming months. Rather, we encourage investors to manage their risk by managing their exposure within global equities. We expect that Asian equities, even after a near-50 per cent rally year-to-date, as indicated by MSCI Asia ex-Japan, may participate in this next leg. However, unlike the first half of 2009, where they trumped the flattish 5 per cent performance of global equities, we don't believe that they will necessarily lead regional performances as they did in the first semester.
Rather, investors who ignored US equities early in the year may wish to reconsider opportunities provided by this market. However, they should keep in mind that while recovery looks entrenched, the US recovery is expected to come in sub-trend, with GDP growth in the recovery phase falling short of previous cycle peaks. With this in mind, investors may seek to focus on opportunities that continue to under-price even the modest economic recovery we expect.
In this regard, we see opportunities in US and global energy services companies. While global crude prices have rallied from near-production cost at the beginning of the year to above US$70 a barrel recently, Citi analysts are still able to identify stocks where down-cycle price-to-book value multiples remain in place. As a result, even though global book valuations are expected to recover at only a moderate pace, the prospect for price-to-book value multiple expansion leaves an attractive risk-reward outlook for investors looking ahead.
Despite our optimism through to year-end, we must admit that the global recovery story must be strengthened further to sustain the rally into the new year. China, already grappling with rapid loan growth, must moderate its aggressive easing policy of early-2009 and structurally, continue to build its domestic consumer base. As for the US, it needs to transition its economy from a stimulus-led recovery back to a private sector-driven demand story.
On balance, though, while there are certainly concerns on the horizon, news flow over the coming months is expected to show not only recovery but, in the case of the US, accelerating recovery that investors have been hoping for, leaving the balance of risk and reward through year-end still pointed in favour of the reward camp, and creating an opportunity for investors to broaden out their focus from first-half leader emerging markets to include opportunities presented by US markets as well.
The writer is head of investment analysis & advice, wealth management, Asia-Pacific, Citi
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