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Sustainable investing: mind the measurement gap

Invisible author — Tue, 16 Apr 2019 09:50:42 +0000

Over the past decade, the sustainability revolution has made its way into the world of finance, with institutions and individuals keen to invest.

Our pull on the planet’s resources has reached a point where issues such as climate change, water scarcity and the energy crisis require a concerted effort between multi-lateral institutions, governments, corporates and private individuals.

The United Nations has estimated that developing countries face an annual funding gap of USD2.5 trillion in meeting the Sustainable Development Goals (SDGs), which are key to our planet’s future.

Private capital can play a significant role in bridging this funding gap. Increasingly, investors have been adopting a range of sustainable investing solutions, from ESG-friendly funds to impact investing solutions in frontier economies.

Standard Chartered’s recent survey across the global financial hubs of Singapore, Hong Kong, the UAE and UK, revealed significant interest among affluent and high-net-worth investors to put their savings towards key SDGs, including Affordable and Clean Energy and Clean Water and Sanitation.

The ‘measurement gap’

Sustainable investing is on the rise, but it will plateau unless the industry develops standardised measurement, which tops the list of investor concerns.

According to the Global Impact Investing Network, 59 per cent percent of impact investors set targets to measure their progress on social and/or environmental indicators. This is backed by our own survey: investors are looking for specific measurement indicators and want to see them improve by 20-30 per cent through their sustainable investment. For instance, 44 per cent of investors looking to support SDG 7 – Affordable and Clean Energy – want to see a tangible reduction in energy consumption in return for their funding of conservation and efficiency initiatives.

Mobilising private capital – a USD5.4 trillion opportunity

USD5.4tn is the size of wealth pool held by affluent and high-net-worth individuals in just Singapore, Hong Kong, the UAE and UK. Right now, around 17 per cent is channelled towards sustainable investing, with UK investors out in front.

Research we carried out in 2018 told us that in Asia, 84 per cent of investors engage in some form of sustainable investing. The funds going towards sustainable investing can potentially multiply: while these investors currently allocate 16 per cent of their wealth to philanthropy, eight out of 10 of them are willing to shift some of this capital towards sustainable investing, if standardised impact measurement can be provided. Based on this trend, we could see up to USD870bn in potential fund flows from philanthropy towards sustainable investing.

"Our goal – as responsible managers of wealth and capital – should be to drive greater flows of funds towards sustainable investing"

The numbers all led to the same conclusion: sustainable investing is a huge global opportunity and by overcoming the measurement gap, we can channel billions of dollars towards positive impact.

Banks, fund managers and think tanks have the opportunity to club resources, information and expertise to contribute to the development of industry standards, aligned with investor expectations and strong risk management frameworks.

Standard Chartered is working to overcome the challenge with an 'Impact Philosophy' strongly focused on focus on measurement and underpinned by the Theory of Change, made popular by the US-based Aspen institute as a way to describe long-term goal of an initiative and the connections between activities and outcomes that occur at each step of the way. With a similar thought process, we have developed a measurement methodology for our clients in line with the global Impact Reporting and Investment Standards.

Our goal – as responsible managers of wealth and capital – should be to build on the growing interest and drive a greater flow of funds towards sustainable investing. That means playing an active role in shaping the sustainable investing narrative, providing access to the right solutions and developing industry standards to help investors measure the positive change driven by their money.

Click here to start your sustainable investing journey today

The sky’s the limit for the emerging affluent

Ben Hung — Mon, 29 Oct 2018 01:34:12 +0000

Can someone achieve a better life for themselves than their parents enjoyed? Whether they do is a question of social mobility, a key issue in countries around the world. Here there is a contrast between East and West – while social mobility is slowing in the West, across our markets in Asia, Africa and the Middle East the people we have identified as the 'emerging affluent' are enjoying upward social mobility.

Their wealth and social status have moved upwards beyond that of their parents and our latest study provides new insights into this level of social mobility as well as the ambitions the emerging affluent have in life. We surveyed 11,000 emerging affluent consumers and found that 59% are enjoying social mobility. India and China had the highest figures, where more than six in 10 (67%) are experiencing upward social mobility.

"Jane, a client of ours, feels like she’s in a better position financially than her parents were when she was growing up"

Jane Ngambona, a client living in Nairobi, is a prime example. She pursued higher education – an opportunity her parents didn’t have – and now has a stable job working as a finance officer for a private equity firm. She rents a two-bedroom house and has bought a plot of land on which to one day build a home. She saves for her retirement, but also likes to travel and visit family in Europe and America. She feels like she’s in a better position financially than her parents were when she was growing up – in her words “the sky’s the limit in terms of reaching my life goals.”

Our client Jane enjoys travelling, is optimistic about her future and feels like the sky's the limit in terms of reaching her goals

Scaling the social ladder

And there are people like Jane across the 11 markets we surveyed (China, Hong Kong, India, Indonesia, Kenya, Malaysia, Nigeria, Pakistan, Singapore, South Korea and the UAE).

Across education, employment and housing the emerging affluent are scaling the social ladder and fuelling their expanding economies by outstripping their parents’ success:

85% went to university, compared to half of their fathers and 41% of their mothers
88% of the socially mobile own their home, compared to 78% of their parents
75% of the socially mobile are in management positions or running their own business, compared to 52% of their fathers and 34% of their mothers

Supercharged mobility

We also identified a smaller group (7% of the total) who we found are enjoying supercharged social mobility, ascending further and faster than their peers with dramatic increases in income, education and career success.

Looking to the future, the emerging affluent aspire to build on their success and continue to improve their lives and those of their children. As a group they are confident about their futures and believe that smart financial choices will improve their social status – nearly seven in 10 of the emerging affluent said that managing their finances effectively holds the key to greater social mobility. And across all markets, paying for children’s education was ranked as the most important savings priority.

"42% said that they felt held back in their aspirations by their lack of financial knowledge"

While the emerging affluent are hungry to improve their financial position, a missed opportunity across all markets is a lack of professional guidance – 42% said that they felt held back in their aspirations by their lack of financial knowledge.

An important thing we found in our study was the importance of digital which makes financial products more visible and accessible, allowing users to make more informed decisions quickly and easily: 65% of the emerging affluent said familiarity with digital tools has been vital to their personal success.

We believe the economic power of the emerging affluent represents a significant driver of economic prosperity in some of the world’s most dynamic countries. Their ambition and dynamism are helping to create jobs and wealth across Asia, Africa and the Middle East.

Read the full report for more.

Let us help you reach your life goals

We’re helping clients like Jane through our Premium Banking offering, which has been launched in eight markets, most recently Kenya, and is designed to help consumers like Jane reach their ambitions. Visit your local site for more information

Asia’s generation X joins millennials on sustainable investment path

Invisible author — Thu, 21 Jun 2018 10:00:58 +0000

Sustainable investing – the investment approach of ’doing well by doing good’ – is gaining ground in Asia, according to our first ever study on how the region’s affluent consumers feel about impact investing.

Our research reveals that affluent and high-net-worth investors in Singapore, Hong Kong, China and India plan to increase the proportion of sustainable investments in their portfolios to an average of 19 per cent in three years (from 17 per cent currently), with Chinese investors leading the way with an expected allocation of 23 per cent by 2021.

Yet despite this growing appetite, the findings indicate a significant knowledge gap among the respondents on what sustainable investing is. Despite a staggering 86 per cent of them saying they are currently engaged in sustainable investments, only 16 per cent can provide even a partially accurate definition, demonstrating that they have a limited understanding of what it entails and the returns and impact it can achieve.

Who are Asia’s sustainable investors?

70 per cent of respondents in our research are ‘value seekers’, essentially investors who do not have a broad knowledge of sustainable the investment approach, whose interest is profit-driven and who expect their sustainable investments returns to be higher than mainstream opportunities (see table below).

While millennials are typically associated with leading the charge in the sustainable investing trend in Asia, our study reveals that mature investors – those aged 34-49 (generation X) – are joining the cause. A group of respondents whom we call the ‘altruistic investor’ – primarily made up of generation X – are more willing to accept a financial trade-off between doing good and generating returns.

"Sustainable investing in Asia may be in its early days, but investor interest is clearly growing"

Invisible author

Asia’s sustainable investors – who they are and what motivates them

Type of investor	Demographic	Level of engagement	Motivations
Altruistic investor	Gen X (age 35-49), predominantly male	Understand and are engaged	Help create a better future Do good while earning a profit Give back to society / help the environment
Value seeker	Millennials (age 20-34), predominantly female	Engaged in but unable to correctly define	Better returns Help create a better future Diversification Better risk management
Unengaged	Boomers (age 50 and above)	Not currently engaged due to lack of information and perceived lower returns and high risk involved

The main difference between the two generations of investors is that the millennials tend to be savvier in understanding that they do not always need to sacrifice their economic gains to make a positive impact.

“We believe that [this difference between generations of investors] will be a key differentiator in further developing the ecosystem, as well as moving sustainable investing into the mainstream,” says Vic Malik, our Head of Investment Advisory for Private Banking ASEAN & South Asia and Global South Asian Community.

What is sustainable investing?

Some call it impact investment, while others refer to it as socially responsible investing or values-based investing. So what exactly is sustainable investing?

“There are many faces to sustainable investing, depending on what an investor prefers to focus on when identifying an opportunity to pursue,” says Malik. “Broadly speaking, we define sustainable investment as investing capital in businesses, funds or other financial vehicles that actively seek to generate social and/or environmental benefits and financial returns,” he adds.

What’s next for sustainable investing in Asia?

“Sustainable investing in Asia may be in its early days, but investor interest is clearly growing,” says Malik.

Bridging the knowledge gap by educating investors on the available opportunities and the impact their investment dollars can have beyond financial gains, and how it doesn’t mean sacrificing investment returns, is the most pressing agenda, says Didier von Daeniken, our Global Head, Private Banking and Wealth Management. “Imagine being able to use your investment dollars to make a positive impact on society and the environment, while at the same time enjoy market-competitive returns.”

Click here to find out more about our sustainable investment offerings.

This file opens in a new windowReport: sustainable investing in Asia is on the rise

What does the future hold for Dubai’s property market?

Shehzad Hameed — Tue, 29 May 2018 08:49:18 +0000

Global property prices increased on average by 2.1 per cent in 2017, up from 1.6 per cent the previous year, according to Knight Frank’s Prime International Residential Index.

Oversupply in Dubai, however, has meant that prices there softened by 5 per cent over the same period, although the picture is brighter than this statistic suggests.

The Dubai market has always been relatively volatile, with textbook market cycles seemingly accelerated within a very short timeline. Such behaviour can be expected in growing markets, with each significant price movement resulting in a slightly more measured response.

But the market does appear to be maturing. Performance has improved over previous years, and sentiment is also encouraging, with the impact of caps on borrowing, caps on loan payments and falling oil prices starting to recede.

Supply side issues appear to be inhibiting this early stage positivity, although some neighbourhoods have been impacted more than others. Significant oversupply in Downtown – Dubai’s central hub is dragging down average property prices, whereas market sentiment in more up-market areas such as Emirates Hills, The Lakes and the Palm Jumeirah is positive, as an abundance of amenities, high-quality properties and good transport links continue to attract demand.

Who’s investing in Dubai’s property market?

Dubai’s property market is made up of a diverse investor base, with over 200 nationalities investing in the 18 months to June 2017. The market has drawn significant Chinese investment, and the country now ranks sixth-highest for inbound property investment, having been eighth-highest as recently as May last year. A policy shift that grants Chinese nationals visas on arrival in Dubai has been a key driver of this, as well as the increased connectivity permitted by direct flights to 13 Chinese cities.

"The UAE government’s commitment to stimulating the local economy will no doubt benefit property prices in the long run"

Shehzad Hameed Head of Retail Banking, UAE

Similarly, with direct access to Dubai now available from 12 US cities, an increase in tourism should result in increased investment from US nationals. The current weakness of the US dollar, against which the dirham is pegged, presents buying opportunities for other international investors, too. Purchases denominated in the British pound and the euro are still benefitting from a relative discount, while those made in Russian roubles can secure property 12.5 per cent cheaper than a year ago, according to Knight Frank Research.

Meanwhile, the UAE government’s commitment to stimulating the local economy as well as recent visa and foreign ownership changes, will no doubt benefit property prices in the long run. 43 per cent of its 2018 budget is earmarked to develop important sectors such as infrastructure and transport, as well as public services and the development of a knowledge-based economy. This commitment will very likely result in overall economic stimulation and growth in the property market.

That said, the viability of international property investment into Dubai should be taken in context of other global opportunities. As a direct contrast to Dubai’s emerging market, exploring one of the world’s most mature property markets, London, will make for a useful comparison.

This file opens in a new windowHow to find gems in the London and Dubai property markets

Click here for more information about international mortgage solutions offered by our UAE business.

A version of this article appears in a report produced by our Jersey branch. The Jersey Branch of Standard Chartered Bank is regulated by the Jersey Financial Services Commission. The principal place of business of the Jersey Branch of Standard Chartered Bank is: 15 Castle Street, St Helier, Jersey JE4 8PT. Jersey is not part of the United Kingdom and all business transacted with Standard Chartered Bank, Jersey Branch and other Standard Chartered Group Offices outside of the United Kingdom, are not subject to some or any of the investor protection and compensation schemes available under United Kingdom law. This commentary is provided for general information purposes only, it does not take into account the specific investment objectives or financial situation of any particular person or class of persons and it has not been prepared as investment advice for any such person

Could the London property market continue to grow despite Brexit uncertainty?

Scott Le Flour — Tue, 29 May 2018 08:25:15 +0000

With ongoing uncertainty surrounding Brexit, the short- to mid-term prospects for the UK economy are unclear. In the absence of certainty around fundamentals, one can look to investor sentiment instead; after all, value is in the eye of the beholder.

At a recent discussion with property experts – a roundtable hosted by Standard Chartered Jersey – the general sentiment was that there are still growth opportunities in London, if you look in the right places.

UK house prices increased by 3.2 per cent between January 2017 and January 2018. This figure hides the variation in growth rates between the UK’s regional markets. At the upper end, the West and the Southwest have experienced 5 per cent growth, whereas prime London property prices have fallen by -0.7 per cent. It is important to caveat here that there is considerable disparity between the capital values of the average property prices between these areas.

As an example, the average value of a London property is £480,000, whereas in the Northeast the average purchase price is £124,000, according to real estate consultant Knight Frank. With such variance in underlying property values, it is no surprise that regional markets within the UK will move at differing speeds.

This file opens in a new windowHow to find gems in the London and Dubai property markets

"If you had invested £100 into London property 20 years ago, it would now be worth around £1,200"

Scott Le Flour Head of Retail Banking, Jersey

Historically, London has outperformed other UK regions. Our analysis shows that if you had invested £100 into London property 20 years ago it would now be worth about £1,200. That same £100 would be worth £720 if you had invested in the Southeast, £600 in Wales, £450 if you had invested in the FTSE 100, £350 in gold, and just £240 if you had kept it as cash in the bank. Considering the risk-adjusted returns of these asset classes, one could argue that London property has performed the best.

Development brings demand

Focusing on the London region, there is also considerable variance between neighbouring boroughs. Demand is starting to increase in the lesser known areas such as Shoreditch, Peckham, Stratford, Brixton, Shepherd’s Bush and Putney, thanks to investment from developers as well as improvements in infrastructure such as Crossrail – the east-west railway currently in development that will cut journey times by about half for some commuters and bring an additional 1.5 million people within 45 minutes of the city centre. Demand in such areas is likely to be further underpinned by the continued and forecasted net influx of skilled professionals into London.

Looking at the top performers in terms of yields over 2017, King’s Cross at 4.1 per cent has fared best, followed by Canary Wharf at 3.05 per cent, Chiswick at 3.05 per cent and Belsize Park at 3.02 per cent.

The top-performing areas in the London property market in 2017 were King's Cross, Canary Wharf, Chiswick and Belsize Park

Of course, Brexit remains a risk to the UK property market, however, purchasing during periods of a weaker pound has proven prudent over the last couple of years. The strong fundamentals remain true, such as a stable system of government, the certainty of the UK legal system and a well-established, highly regulated finance system. In addition, many investors have found value in student accommodation, which allows them to marry investment opportunities with a desire to support their children through higher education.

There are contradicting forecasts for the mid-term. Some believe the market may take a hit over the next three years, while others believe prime central London is still likely to perform well. These contradicting views are most likely due to the uncertainty regarding Brexit. According to Knight Frank, however, the UK property market should expect 14.2 per cent growth over the next five years. As far as central London in concerned, it is anticipated that the east will perform strongest at 13.1 per cent, followed by the west at 12.6 per cent, and outer London at 12.5 per cent.

With growth on the agenda there are significant opportunities to be had in the London property market. As with all property investments, however, it's more about where you buy than what you buy.

Find out more about Standard Chartered Bank Jersey's latest mortgage solutions.

You can contact our Jersey office on +44 (0) 1534 704601 . Open 9.00am to 5.00pm (GMT), Monday to Friday.

The Jersey Branch of Standard Chartered Bank is regulated by the Jersey Financial Services Commission. The principal place of business of the Jersey Branch of Standard Chartered Bank is: 15 Castle Street, St Helier, Jersey JE4 8PT. Jersey is not part of the United Kingdom and all business transacted with Standard Chartered Bank, Jersey Branch and other Standard Chartered Group Offices outside of the United Kingdom, are not subject to some or any of the investor protection and compensation schemes available under United Kingdom law. This commentary is provided for general information purposes only, it does not take into account the specific investment objectives or financial situation of any particular person or class of persons and it has not been prepared as investment advice for any such person

Why Asia’s tech industry is a magnet for investors

Clive McDonnell — Tue, 22 May 2018 14:01:46 +0000

Home to two of the world’s biggest technology companies – Samsung and Tencent – Asia’s tech sector is increasingly becoming a global force to be reckoned with, offering good value for investors and consumers alike.

‘Winner takes all’ is the new mantra for Asia’s cash-rich tech companies, which span the technology spectrum from cloud computing to internet shopping, as they spend to increase their market share. The growing trend for mergers and acquisitions in the sector helped Asia tech stocks rise by an impressive 60 per cent in 2017.

Meanwhile, sovereign wealth funds are eager for a piece of the pie. They’ve been pouring money into Asia’s technology ‘unicorns’ – private companies valued at USD1 billion or more – in a bid to get maximum exposure to the most promising tech companies, and their eggs are not confined to one basket.

"Despite the huge wave of investment, Asia's technology industry is still in its infancy"

Clive McDonnell Head of Equity Investment Strategy

In some cases, private funds are backing two or more companies that provide the same services in the same country, in a bid to ensure they end up the winner, whichever investment comes out on top. Moves like this demonstrate just how big investors think the prize is.

And as the battle to back the right companies continues, consumers in some of Asia’s fastest-growing economies are proving to be the biggest winners of all as they leapfrog their way into the future. Across India, Indonesia, the Philippines and China, affordable smartphones act as the gateway to the internet for those who could not dream of owning a personal computer, while the traditional aspiration to own a car is being replaced with the convenience of on-demand transport apps.

A growing, but infant, industry

Yet despite the huge wave of investment, we believe Asia’s technology industry is still in its infancy, especially given the significant demand for infrastructure across the region. Developing Asia needs to invest USD26 trillion by 2030 to resolve its infrastructure gap , according to the Asian Development Bank.

Across the region, hundreds of billions of dollars need to be spent to expand telecommunication and broadband networks, water supply, power and transport systems. These investments are expected to push technology to the limits, given the increased focus on energy efficiency and promoting a cleaner environment. Think about all buses in China switching from oil to electric transmission, not to mention the introduction of self-driving cars, in the not-too-distant future; or solar power accounting for a greater share of India’s electricity grid; or hi-tech desalination plants helping Asia tackle a growing water deficit.

These possibilities will likely present investors with unprecedented opportunities to make long-term returns. If you add to this the fact that tech unicorns in Asia, which are not currently accessible to ordinary investors, could start to list their shares on regional exchanges in the coming months, the tech industry will likely continue to boom.

This is not research material and it has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research. This commentary is provided for general information purposes only, it does not take into account the specific investment objectives or financial situation of any particular person or class of persons and it has not been prepared as investment advice for any such person(s). Further details can be found in these terms & conditions.

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ESG investing: what is it and will it give me better returns?

Manpreet Gill — Mon, 21 May 2018 11:09:14 +0000

Companies are becoming increasingly aware of their environmental, social and governance (ESG) footprint, while growing numbers of investors consider ‘sustainability’ a crucial part of their portfolio.

As more and more companies work to improve their ESG practices – which can include areas such as promoting energy efficiency and focusing on community contributions – there is rising evidence to suggest that investors who apply ESG criteria to their investment allocation could see significant benefits, regardless of whether their goal is to ‘impact’ invest or simply end up with better returns.

What is ESG investing?

ESG investing involves applying a set of agreed criteria to select companies that uphold ESG standards. Examples of common criteria include those agreed at the UN Global Compact (the UN Principles for Responsible Investing) and the Sustainability Accounting and Standards Board.

‘Sustainability’ as an investment approach now has a weight of research behind it. The study From the Stockholder to the Stakeholder, by Arabesque Partners and the University of Oxford, suggests that more than 20 per cent of global assets are now managed in a “sustainable and responsible” way. Moreover, awareness of ESG issues has grown considerably, as evidenced by the rising use of ESG data. The trend is not just a phenomenon for institutional investors alone: a 2015 study by Campden Research found that almost 60 per cent of ultra-high-net-worth families considered impact investing as a distinct asset class.

"ESG investing may end up helping investors build a better investment allocation"

Manpreet Gill Head of Fixed Income, Currencies and Commodities Investment Strategy

However, there is clearly room for investor awareness to rise further. Our survey on sustainable investing trends noted that a “lack of information” was the main barrier against adding more investments in ESG strategies, while the perception of lower returns versus regular investment strategies appears to be a second hurdle.

Why invest using ESG criteria?

The reasons for adopting a ‘sustainable’ investment approach can vary, and are not just performance oriented. Some investors see it as a way to enhance investment returns; for others, it’s an approach that is consistent with their values or beliefs. For example, an investor may choose to avoid investments in alcohol, tobacco or gambling as they may find these socially objectionable.

As we lay out in more detail below, we see ESG as a strategy that can: 1) help a portfolio outperform the broader market in select situations; and 2) reduce volatility.

So how does it work?

There are many ways to apply ESG criteria to an investment strategy. Initial ESG strategies tended to concentrate on an ‘exclusionary’ approach, in which the investible universe is screened with these criteria before applying any other decision-making processes. The main downside of this approach is blindly screening out potentially strong sources of investment performance. More nuanced approaches incorporate ESG as an additional factor within a broader decision-making process, or involve actively working with companies to improve their sustainability scores.

No drag on investment returns

The good news for investors who want to ensure their investments have a positive, sustainable impact, is that they can achieve this goal via ESG strategies without sacrificing investment returns.
ESG investing may actually end up helping investors build a better investment allocation. Evidence suggests that incorporating sustainability factors leads to improved risk management, partly because ESG-compliant firms face lower costs of capital (i.e. a lower cost of borrowing in bond or equity markets) and a low risk premium due to greater transparency, and tend to face a lower risk of their assets becoming ‘stranded’ or worthless.

For an ESG-focused investor, this means that even if returns with and without sustainable investing factors are similar, the same return may be obtained by taking less risk. This point is illustrated in the chart below, in which we show that investment allocations that include a small allocation to ESG equities offer better returns for the level of risk taken in most cases.

ESG investing: risk and return

The evidence on whether an ESG-based investment strategy leads to outperformance relative to a global equities benchmark is mixed. While a majority of studies argue there is a reasonably high chance that adding socially responsible investing criteria can lead to better investment returns over time, this is often sensitive to whether the ESG criteria are used to simply screen out investments that do not meet their conditions, or whether they are used as an additional factor as part of a broader investment process. Where the evidence appears more compelling is that incorporating ‘sustainability’ as a criterion appears to support improved corporate performance in specific parts of the market, such as bonds, real estate and emerging market equities.

ESG investing does not come without risks, though. There is a suggestion, for example, that active exclusion of ‘sin’ sectors (such as alcohol and tobacco) can detract from performance over time. In addition, a greater share of the market trying to meet ESG criteria means it will become harder and harder for the approach to outperform.

Nevertheless, on balance, we believe the positive characteristics of ESG investing outweigh the risks, and we expect it will be something that everyday investors increasingly demand.

Say goodbye to the ‘Goldilocks’ investment landscape

Clive McDonnell — Mon, 23 Apr 2018 11:41:34 +0000

We are entering a new era of market volatility.

Equity and bond investors need to be prepared as the not-too-hot-not-too-cold ‘Goldilocks’ landscape of 2017 gives way to a more turbulent reflationary scenario – characterised by slightly faster growth and inflation – in 2018.

That Goldilocks scenario came about thanks to a combination of steady growth, low inflation and falling market volatility, which helped drive investor returns. The effect on global asset markets was extremely positive. But change is now afoot, and we believe investors should be prepared for greater uncertainty as the global economic cycle matures.

"The sweet spot in global equity and bond markets is behind us, and generating returns from the market will become trickier"

Clive McDonnell Head of Equity Investment Strategy

Equity market volatility, as measured by the S&P500 VIX index, is likely to trade in a volatile range of 15-20 in 2018, far higher than the low of 9.1 back in November last year.

Meanwhile, inflation, as measured by the US core consumer price index, has also passed the low for this cycle. It’s currently 2.1 per cent, up from 1.7 per cent in August 2017. As inflation rises, so do bond yields, although we believe that structural factors, including demographics and job insecurity, are likely to limit the upside on both.

The combination of moderately higher bond yields and increased volatility has significant implications for investors as it implies that the sweet spot in global equity and bond markets is behind us, and generating returns from the market will become trickier.

Why we prefer equities

Despite the market uncertainty, equities are still our preferred asset class, and we believe investors should have an above-benchmark allocation. Asia ex-Japan is our preferred market, reflecting a combination of factors, including strong earnings growth expectations for 2018 and attractive valuations at 13 times the 2018 consensus earnings forecast.

Within Asia ex-Japan, China is our preferred market because strong earnings growth and financial de-leveraging is reducing risks in the financial sector. In addition, investor flows are rising from Shanghai to Hong Kong, as mainland China investors warm up to Hong Kong-listed equities, especially in the technology and financial sectors. The flows through the Hong Kong-Shanghai Stock Connect system now account for 15 per cent of turnover in the Hong Kong stock market (Hang Seng Index), up from 10 per cent last year.

"While we are likely headed for more turbulent times, we do not believe that investors should feel nervous"

Clive McDonnell Head of Equity Investment Strategy

Asia will benefit from a weaker US dollar

We expect the US dollar to weaken further, albeit moderately; a shift that is likely to be positive for Asia ex-Japan and other emerging markets. This is because, as the US dollar weakens and Asian currencies strengthen, regional central banks release local currency to buy US dollars in order to hold down the value of their local currencies. While some of the increase in local currency supply can be absorbed via issuing bonds, it generally has the effect of increasing domestic liquidity and holding interest rates lower than would otherwise be the case. We expect higher liquidity and lower interest rates to drive equities and other local asset prices higher.

Bonds are still core

Fixed-income investors also need to adapt to the new era of higher inflation and volatility, as it is likely to undermine returns from developed market government bonds. We continue to view bonds as core to investors’ holdings, preferring emerging market US dollar and local currency bonds. These bonds include a wide-yield premium over US treasuries that offer a cushion in a rising yield environment. The recovery in commodity prices is also an important driver of emerging market (EM) US dollar bonds, while a weaker US dollar is positive for EM local currency bonds.

The ‘just right’ investment scenario looks like it’s behind us. But while we are likely headed for more turbulent times, we do not believe that investors should feel nervous, as the kind of valuations we’re seeing suggest global equities and emerging market bonds still have the potential to deliver positive returns.

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How long can the bull market last?

Rachel Harris — Mon, 19 Mar 2018 14:03:25 +0000

March marks the end of nine years of the equity bull market that started in the aftermath of the global financial crisis. The US S&P500 stock index has quadrupled in that time, while the MSCI All Country World index has tripled over the same period. While it’s tough to repeat this sterling performance year after year – as the equity market correction in February and the return of volatility highlighted so vividly – the broader macroeconomic outlook suggests that the next 12 months are likely to be another constructive year for investors.

The pick-up in global growth, which resulted in strong corporate earnings and rising equity valuations last year, is likely to continue over the coming months, driving stock market performance. Meanwhile, a gradual revival of inflation in the US, euro area and Japan reduces the risk of excessive monetary policy tightening, supporting bonds.

A valid question we get from investors is: how much longer can this bull market last? After a nine-year economic recovery, we are clearly at a fairly late stage in the business cycle. However, history teaches us that equities tend to see some of the strongest gains in the final stages of the business cycle. This lesson is one reason why we prefer equities over bonds.

"One of the key assumptions driving our positive view on emerging market assets is that the US dollar is likely to continue weakening modestly in 2018"

Equities to outperform bonds

Our preference for equities is because the outlook for global earnings growth remains reasonably strong, driven in many regions by expansion in profit margins. This offers grounds for further equity market gains, beyond just higher valuations. Although valuations are undoubtedly above long-term averages in most regions, they are not too stretched. Historically, equity markets have, on average, delivered positive returns from similar valuation levels.

Asia ex-Japan is our preferred equity market, supported by both profit margin expansion and valuations that remain inexpensive relative to developed markets. We also believe emerging markets outside Asia warrant more attention – their economies’ relatively tight correlation with commodity prices has been a key source of support for them over the past year. Meanwhile, the US has led a surge in corporate earnings revisions following the tax cuts late last year, cementing the market’s status as a core holding.

Opportunities in emerging market bonds

Among bonds, we prefer emerging market debt as we believe it offers an attractive balance between yield and quality. Emerging market (EM) US dollar government bonds offer a reasonably attractive yield (c.5 per cent) sourced from a mix of both investment grade and high-yield government debt.

While emerging market bonds are sensitive to rising US Treasury yields, a modest rise in inflation means the benchmark 10-year Treasury yield is unlikely to rise significantly above 3 per cent. Add to that the relatively higher yield buffer offered by the EM US dollar government bonds, and this makes them an attractive source of regular income.

One of the key assumptions driving our positive view on emerging market assets is that the US dollar is likely to continue weakening modestly in 2018, which will encourage continued capital flows into emerging markets. We believe the European Central Bank (ECB) has a greater chance of surprising the market by withdrawing its asset buying programme sooner than the current expectation, which is September. In contrast, further US Federal Reserve rate hikes are unlikely to dramatically surprise the market.

Against this backdrop, we expect the euro to extend gains, especially if the ECB remains on the path of gradually removing monetary policy accommodation. A softer US dollar is likely to be positive for emerging market currencies, creating an opportunity to add exposure to emerging market local currency bonds.

"There is value in favouring equities, while also starting to think about alternative strategies that have lower drawdown risks"

Manage downside risks with alternatives

While we remain constructive on the global economic backdrop, it is extremely difficult to time the end of the business cycle. The fact that US equities and high-yield bond markets have historically peaked six-to-nine months ahead of a US recession makes the investment decision even harder. Inflation is the main risk to the ‘reflationary’ scenario, especially further into 2018. A larger-than-expected rise in inflation would mean the environment could turn too hot, forcing central banks to tighten policy sooner than expected.

Given the risks, we believe there is value in favouring equities, while also starting to think about managing downside risks by allocating to alternative strategies – such as equity long-short strategies, which benefit from both rising and falling equity markets – that have lower drawdown risks and less correlation with traditional asset classes.

Seizing China’s ‘new economy’ opportunity

Clive McDonnell — Tue, 23 Jan 2018 16:49:46 +0000

For international investors looking for the next big opportunity, China’s ‘new economy’ companies offer plenty.

In contrast to economies in Japan, Europe and to a lesser extent the US, new growth drivers in China have emerged in the technology, transportation and consumer services sectors. The marginal return on investment in these sectors is increasing and they do not have the same dependence on debt as companies in China’s old economy – such as manufacturing – sectors.

Big data is a big deal

If ‘big data’ generates competitive advantage for businesses in the first half of this century, China’s leading technology companies have a unique advantage. China’s vast population of 1.4 billion people are avid smartphone and social media users, giving these companies a huge stream of data to analyse – and use – to grow their business.

"China’s government understands the importance of creating new growth drivers"

This data will inevitably help China’s technology companies tailor-make new solutions for their customers, especially in the sharing economy. This is evident from the emergence of major app-based companies dedicated to cab-sharing, bike-sharing and online retailing over the past five years.

China’s government understands the importance of creating new growth drivers to take over from the old economy behemoths. It has approved foreign investment by China’s technology sector leaders, even as authorities clamped down against foreign investment by old-economy conglomerates, enabling them to access the latest know-how from abroad and help China rise up the technology ladder.

Belt and Road is the next big growth driver

China’s huge population provides the ‘new economy’ sector an attractive market to experiment new ideas and technology. However, the economy is also relatively protected, which some investors worry could result in the companies resting on their laurels.

Policymakers are very much aware of this.

China’s Belt and Road (B&R) initiative – which involves large-scale infrastructure development along China’s centuries-old trade routes across Asia, Africa, the Middle East and Europe – is part of the solution to ensure Chinese companies continue growing. B&R offers new opportunities and a road map to tap into millennial consumers across a much wider market. Chinese companies are taking advantage of this opportunity by gradually grabbing market share in the instant messaging, e-commerce and sharing economy across South and South-East Asia.

"There are a range of Chinese companies listed in the US, UK, Singapore and Hong Kong"

There is an opportunity for global investors here. During the 1990s growth spurt, international investors did not have easy access to rapidly growing companies in China’s finance, materials and energy sectors, as many were unlisted. Today, there are a broad range of Chinese companies in fast-growing technology, transportation and consumer services sectors which are listed in the US, UK, Singapore and Hong Kong. This has made them easily accessible to global investors, and those looking for some of the most exciting growth opportunities worldwide today should look no further than their nearest stock exchange.