Global Investing

Credit rally: Bubble or not?

Corporate bonds are back in vogue this year but how sustainable is it?

Just to highlight how bullish people have become, see following comments from fund managers:

“We do see scope for 2012 to deliver narrower corporate credit spreads and that will be the major positive contributor to fixed income returns this year.” – Chris Iggo, CIO Fixed Income, AXA Investment Managers)

“Corporate bonds should be a major source of performance for the bond component of Carmignac Patrimoine (fund) in 2012.” – French asset manager Carmignac Gestion

Bank of America Merrill Lynch’s performance data as of end-Jan shows high-yield bonds are the second best performing in the bond group with YTD gains of 2.9%, ahead of 10-year Treasuries at 0.8 percent. The best performing is “preferreds”, a sort of hybrid bond/equity instrument which returned 4% this year already.

BofA’s investment team thinks equities will catch up and outpace bonds over the medium term however, because equities have had secular underperformance, pension funds and other clients are structurally under-positioned in stocks, and relative valuations favourequities.

Currency hedging — should we bother?

Currency hedging — should we bother?

Maybe not as much as you think, if we are talking purely from a equity return point of view — according to the new research that analysed 112 years of the financial assets history released by Credit Suisse and London Business School this week.

Exchange rates are volatile and can significantly impact portfolios — but one can never predict if currency moves erode or enhance returns. Moreover, hedging costs (think about FX overlay managers, transaction costs, etcetc).

For example, the average annualised return for investors in 19 countries between 1972 (post-Bretton Woods) to 2011 is 5.5%, hedged or unhedged. For a U.S. investor, the figures were 6.1% unhedged or 4.7% hedged (this may be largely because only two currencies — Swiss franc and Dutch guilder/euro — were stronger than the U.S. dollar since 1900).

Base, worst and best case scenarios from Coutts

UK private bank Coutts (established in 1622, the year of the Glencore Massacre and two years before the Bank of England was founded) has been very bearish.

It still attaches a high, 25 percent chance to a partial or complete euro zone breakup and has been recommending its investors to position very defensively.

The chart below shows their base-case assumptions of S&P 500 index at 1,300 (about 3% below the current level), along with best and worst case scenarios.

Without real sign of rate cuts, Indian equity rally still fragile

Indian equities are among the best emerging markets performers this year, with the Mumbai market having posted its best January rise since 1994. That’s quite a reversal from last year’s 24 percent slump. The bet is faltering economic growth will force the central bank to cut interest rates from a crippling 8.5 percent. So, how safe is the rally?

Some conditions are already in place. Valuations look decent after last year’s drop. There has been a surge in global investors’ appetite for emerging market assets. So Apurva Shah, who helps manage $600 million at the BNP Paribas Mutual Fund in Mumbai, expects positive returns from Indian stocks this year. But for a decent rally to be sustained, interest rates have to fall in order to kickstart faltering growth, he says.

The risk is really the assumption that interest rates and inflation are actually on the way down. We’ve seen the first leg of that happening, but it’s just the beginning. Rates are still way too high. To trigger off any real revival in economic growth they need to fall a lot more.

Deutsche’s investment themes for 2012

We just finished our three-day Reuters 2012 Global Investment Outlook summit in London, New York and Hong Kong, where prominent money managers have discussed their outlook for next year. (For more click here)

Deutsche Bank Private Wealth Management (whose official was also a guest at the summit) is telling its clients the following 10 investment themes for next year.

1. Safe may not be safe Don’t react to uncertainty by automatically taking refuge in traditional safe havens such as cash, sovereign bonds, real estate or precious metals as they may prove less safe than they appear.

DDD to DIY… and CCC in 2012

It’s just over a month until everyone winds down for a Christmas break — this means the season for the 2012 outlook briefings by various managers is starting.

Among the first I went to was ING Investment Management, which held the briefing this morning. Eric Siegloff, global head of strategy and tactical allocation, reckons the next year’s key theme affecting asset classes is summarised as CCC — crisis, contagion and credibility.

He believes 2012 is going to be an uncertain environment with the crisis in the banking system and the foundations of the euro zone threatening to spread beyond EU (contagion), hitting credibility of policymakers.

Are global investors slow to move on euro break-up risk?

No longer an idle “what if” game, investors are actively debating the chance of a breakup of the euro as a creditor strike  in the zone’s largest government bond market sends  Italian debt yields into the stratosphere — or at least beyond the circa 7% levels where government funding is seen as sustainable over time.  Emergency funding for Italy, along the lines of bailouts for Greece, Ireland and Portugal over the past two years, may now be needed but no one’s sure there’s enough money available — in large part due to Germany’s refusal to contemplate either a bigger bailout fund or open-ended debt purchases from the European Central Bank as a lender of last resort.

So, if Germany doesn’t move significantly on any of those issues (or at least not without protracted, soul-searching domestic debates and/or tortuous EU Treaty changes), creditor strikes can reasonably be expected to spread elsewhere in the zone until some clarity is restored. The fog surrounding the functioning and makeup of the EFSF rescue fund and now Italian and Greek elections early next year  — not to mention the precise role of the ECB in all this going forward — just thickens. Why invest/lend to these countries now with all those imponderables.

Where it all pans out is now anyone’s guess, but an eventual collapse of the single currency can’t be ruled out now as at least one possible if not likely outcome. The global consequences, according to many economists, are almost incalculable. HSBC, for example, said in September that a euro break-up would lead to a shocking global depression.

Avoid financial meltdown – use a thesaurus

So it’s not just investors who are guilty of moving in a herd-like fashion.

Financial journalists use the same verbs and nouns with greater frequency as stock markets overheat but display more variety in their phraseology after the bubble bursts, a study by Irish computer scientists has shown.

Trawling through nearly 18,000 on-line news articles that mention the Dow Jones, FTSE and Nikkei stock indices between 2006 and 2010, Aaron Gerow of Trinity College Dublin and Mark Keane of University College Dublin found that the language used by the writers had become more similar in the run-up to the global financial crisis.

from Jeremy Gaunt:

Don’t invest in gold?

Bit of fun, this -- and might raise some issues about returning to the Gold Standard. The S&P 500 stock index priced in gold (thanks to Reuters graphics whiz Scott Barber):

Equities - SP 500 priced in dollars and gold

from Jeremy Gaunt:

Micro versus macro

There is little doubt that the latest U.S. earnings season has been a good one for long-equity  investors. Thomson Reuters Proprietary Research calculates that with 67 percent of S&P 500 companies having reported, EPS growth -- both actual and that still forecast for those who have not filed yet -- has come in at 36 percent.

Furthermore, a large majority of the reports have surprised on the upside, as they like to say on Wall Street.  Some 75 percent of  reports have been better than expected.  Not surprisingly, the S&P index gained around 6.9 percent in July and is up another 1.7 percent in the first two trading days of August.

But given what looks like at least a faltering U.S. economy with little consumer confidence, some analysts  have begun asking what there is to get excited about. Philipp Baertschi, chief strategist at wealth manager Bank Sarasin, for example, calls it a case of micro bulls versus macro bears and warns that it won't last.