Download With Diverging Policy, Political Unrest and Market

2015
MARKETS
www.bnymellonimoutlook.com
With diverging policy, political
unrest and market volatility
to the fore, uncertainty looks
set to prevail.
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Contents
04 T
rading Places
Raman Srivastava, Standish and
Holger Fahrinkrug, Meriten
06 P
olicy divergence won’t
derail expansion
Richard Hoey and Jack Malvey,
BNY Mellon
08 U
S rate rises are not a done deal
James Lydotes, The Boston
Company
10 Policy support may offer
illusory benefits
Iain Stewart, Newton
12 C
urrency volatility
E
lena Goncharova,
BNY Mellon Investment Strategy
and Solutions Group and
Charles Dolan, BNY Mellon
16 A
cross the spectrum
Paul Hatfield, Alcentra
18 An end to corporate hoarding
in Japan
Simon Cox, BNY Mellon IM
Asia Pacific
22 E
merging market debt: potential
fallout from US monetary policy
Urban Larson, Standish
24 U
S housing stands on
firmer ground
Carl Guerin and Raphael Lewis,
The Boston Company
26 H
olding the faith
Amy Leung, Newton
28 D
ilma’s dilemma
Solange Srour, ARX Investimentos
14 B
ond conundrums – finding value
April LaRusse, Insight Pareto
2015
MARKETS
www.bnymellonimoutlook.com
Volatile Market Mix for 2015
Divergences in growth and monetary policy around the world are
expected to lead to a more volatile market mix in the coming year.
In this special report, experts from across BNY Mellon Investment
Management and its affiliates present their views on what to
expect in major capital markets for 2015 and why an active, flexible
approach to investing will be more important than ever.
BNY Mellon Chief Economist Richard Hoey expects the global economy to continue to
expand, despite some short-term disruption as policy normalization progresses in the
US. Portfolio manager James Lydotes of The Boston Company, however, believes that US
interest rates may remain “lower for longer,” perhaps even until 2020 because of ongoing
weakness in the US economy. One area where continued weakness in the US can be seen
is the choppy recovery of the housing market. Boston Company research analysts Carl
Guerin and Raphael Lewis don’t expect 2015 to feature a snapback recovery that housing
experienced after recessions in the mid-1970s and early 1980s and 90s.
Unlike the US, the Eurozone is warding off deflationary pressures, but there are
nonetheless likely to be investment bright spots for discerning managers. Paul Hatfield,
Chief Investment Officer of Alcentra points out that opportunities for direct lending to
small and medium-sized European companies will grow in the new year as increased
regulation and higher capital requirements compel banks to reduce lending.
Urban Larson of Standish Mellon Asset Management points out that emerging market
debt may feel the effects of developed market central bank policy shifts keenly. He
believes investors should look to sovereign and corporate issuers that are less dependent
on the cheap international financing that has been so abundant.
With reduced liquidity and a strengthening dollar, differences in fundamentals across
emerging economies may matter more in 2015. Amy Leung of Newton is watching the
progress of China’s shift to domestic consumption after 30 years of export-driven growth.
She sees a slowdown in 2015 as reforms proceed, but still expects China to successfully
re-engineer its economy in the longer term.
Brazil in 2015 offers another example of the increasingly varied states of health among
emerging market economies. Solange Srour, chief economist at ARX Investimentos,
BNY Mellon’s Rio de Janeiro-based investment affiliate, says hoped-for reforms that
could benefit investors may be at odds with the agenda of newly reelected President
Dilma Rousseff.
Currency is another source of risk investors may want to pay closer attention to in 2015.
Charles Dolan and Elena Goncharova of BNY Mellon’s Investment Strategy and Solutions
Group* expect currency volatility to make a comeback, as monetary policy diverges
around the world.
However, Iain Stewart of Newton and Jack Malvey, Chief Strategist at BNY Mellon
Investment Management, both say that investors should focus less on seeking
opportunities created by monetary policy and more on factors such as corporate earnings
and geopolitical risk.
*BNY Mellon Investment Strategy & Solutions Group (“ISSG”) is part of The Bank of New York Mellon (“Bank”).
3
MARKETS
Trading
places
Raman Srivastava,
Co-deputy chief
investment officer,
Standish
Holger Fahrinkrug,
Chief economist,
Meriten
A growing divergence between US and European
bond yields reflects the shifting strategies of global
central banks. But as markets look towards further
change in 2015 what implications does this hold
for global investors and wider bond markets? Here,
Raman Srivastava, co-deputy chief investment
officer at Standish and Meriten chief economist
Holger Fahrinkrug consider the likely outcomes.
An unfamiliar pattern is emerging in
global bond markets. Toward the end
of 2014 benchmark yields on a swathe
of European government bonds, from
German Bunds to Spanish bonds, fell
to new lows1. In contrast, five-year
US Treasury yields have more than
doubled since 20122.
These moves partly reflect the
contrasting monetary policies of the
US Federal Reserve (Fed) and the
European Central Bank (ECB). While
the Fed wound down its quantitative
easing (QE) programme in October
Europe is still loosening its monetary
policy and looking for ways to
stimulate growth in a flagging regional
economy. As part of these efforts the
ECB announced a multi-billion euro
initiative to buy covered bonds and
asset-backed securities3 in September
2014.
Commenting on the origins of recent
divergence, Standish’s Srivastava
4
cites the 2013 market ‘taper
tantrum’ – which followed the Fed’s
announcement it was to start reducing
QE – as a key trigger for interest rate
and bond yield divergence between
the US and Europe.
“Taking a global view, it is clear that
following a period of a number of years
where many interest rates moved
together, the taper tantrum initiated a
new environment where interest rates
and central bank policy have begun to
diverge, in some cases meaningfully.
This environment now looks set to be
with us for the foreseeable future,”
he says.
Divergent paths
Commenting on the impact of central
bank policy divergence on bond yields,
Meriten’s Fahrinkrug says the shift
also reflects a deeper underlying
economic divergence of the US and
European markets. He contrasts the
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sustained economic recovery in the US
– and also the UK – with the economic
stagnation, near record unemployment
levels and deflation fears still evident in
the Eurozone.
Commenting, he adds: “This combination
of real economy slack and deflation
woes in the euro area has pushed the
ECB into unconventional policy territory,
sent German Bund yields lower, and
spreads of other European Union
member government bonds over Bunds to
historical lows.”
Central bank strategy and bond yield
divergence have already led the dollar to
strengthen against the euro and could
have wider implications, according to
Srivastava, although he expects their
impact to vary widely across a range of
markets.
“Looking ahead – for emerging markets
in particular – there will be an extreme
amount of difference between rates
of growth and responses to potential
reforms and this is likely to create a lot
of market dislocation,” he says.
“Even in developed markets a lot of the
trends that were in place for a number
of years are shifting. Chinese economic
growth is slowing, commodity prices are
lower and the fact some major central
banks will almost certainly begin to
tighten policy in the short term are all very
different dynamics and will affect bond
markets in different countries in different
ways.”
Market response
A key question in the current market is
how fixed income managers can best
respond to the changes ahead in 2015
given growing US/European bond yield
and interest rate divergence and the
varying approaches to monetary policy
being taken by central banks. Srivastava
anticipates more market volatility ahead
as investors adjust to shifting trends.
1
2
3
He believes this environment will make
country selection increasingly important
but could also create a range of potential
opportunities for nimble investors.
Commenting, he says: “For investors in
global bonds growing divergence means
two things. Firstly, country selection will
become a lot more important than it used
to be. Secondly it means investors may
need to be a lot more active in terms of
their asset allocation.
“We anticipate more volatility as the
market struggles to adapt to shifting
central bank activity. Such bouts of
volatility can provide opportunities to
benefit from dislocations caused by
market technicals where fundamentals
remain sound. In future investors will
have to pay a lot more attention to the
countries they are investing in. Investors
may also have to be a lot more active with
their yield curve and duration position
than they perhaps used to be.”
A watching brief
With US QE now concluded, Fahrinkrug
says global investors will be closely
watching the ECB asset purchase
programme in the months ahead to
determine its success or failure, likely
market impacts and potential investment
opportunities and pitfalls.
“Assuming that the US cycle moves ahead
as expected, the key focus must be on
the factors determining ECB success.
Perversely, its failure based on the
measures already announced might be
as good, or even better, than its success,
for investors in euro area government
bonds. However, the market’s verdict
will be straightforward, with the result
getting either a straight thumbs up or the
thumbs down. Consequently, investors
and managers should be highly alert and
analyse the parameters of the bank’s
success very carefully.
“In the event of ECB success, the
likelihood of full-blown QE in Europe will
decline sharply, and this could cause both
yields and volatility to rise. Investment
managers therefore need to be aware that
euro area government bonds might not
be as low-risk as the low-volatility assets
they used to be in the first three quarters
of 2014,” he says.
Despite some degree of market
uncertainty, Fahrinkrug remains hopeful
the ECB will implement its support
programmes as planned and uphold the
threat to expand even into purchases
of European Economic and Monetary
Union (EMU) government bonds if other
measures do not assist market recovery.
“This combination should be sufficient
to keep German Bund yields at or
around current levels, and to contribute
to further, albeit gradual, tightening of
peripheral spreads in the months ahead.
Consequently, we trust that euro area
government bonds will still have value for
domestic investors though they will need
to carefully consider the currency factor
as gradual euro depreciation is a part of
the ECB’s strategy.” he says.
The next 12 months hold the potential for
further significant bond yield movements
and volatility as central banks fine tune
their strategies. However, these shifting
sands could hold present opportunities
for investors able to adapt their tactics to
capitalise on specific market moves.
Commenting on the broader global
investment market outlook Srivastava
adds: “In the near term we see a
challenging investment landscape related
to low growth in Europe, slowing growth
in China, a stronger dollar and a rolling
over of commodity prices. While sector
fundamentals remain generally strong, we
do believe bouts of volatility associated
with market technicals will make tactical,
rather than structural sector allocation
especially important.”
Draghi is bonds’ best friend as yields fall to records. Bloomberg. 06.06.14.
Rising yields give bond buyers and issuers pause for thought. The Wall Street Journal. 28.12.13.
ECB bond-buying scheme begins. FT. 21.10.14.
5
MARKETS
Policy
divergence
won’t derail
expansion
Richard Hoey,
Chief economist,
BNY Mellon
Jack Malvey,
Chief global
markets strategist,
BNY Mellon
The long-anticipated normalisation of monetary
policy by the Federal Reserve and Bank of England
could finally arrive in 2015. But BNY Mellon chief
economist Richard Hoey and chief global markets
strategist Jack Malvey say policy divergence among
developed country central banks will be only one
force affecting the global economy and financial
markets in 2015.
For the past three years, global
economic growth has advanced slowly
and unevenly, averaging nearly 3%,
but with some regions such as the
eurozone performing less strongly
than others. While that uneven pattern
of growth is likely to continue in 2015,
BNY Mellon chief economist Richard
Hoey expects somewhat stronger
overall growth as the expansion of the
US and global economies accelerates
and central banks in the US and UK
normalise policy.
“Stimulative monetary policies have
generated only sluggish growth so far
in this expansion due to a combination
of drags from fiscal tightening, private
sector deleveraging and restrictive
financial regulation,” he says.
“Substantial fiscal tightening has
already occurred in most developed
countries and is likely to prove less
of a drag over the next several years.
Debt burdens remain high in Europe
and China, but US households have
substantially reduced their debt.” Hoey
expects US real GDP growth of about
3% and real growth plus inflation of
6
about 5% in the US for the next several
years.
Like many capital market
professionals, Hoey identifies the
divergence of monetary policy among
central banks in developed countries
as a defining feature of the global
economy in 2015, with the European
Central Bank (ECB) and the Bank of
Japan (BoJ) maintaining easy policies
while the Federal Reserve and the
Bank of England (BoE) may gradually
normalise interest rates by tightening
policy.
Policy normalisation, though, will likely
be only one factor affecting financial
markets. For equities, chief global
markets strategist Jack Malvey says
policy divergence means relatively
little. “The central bank theme has
been overdone in capital market
coverage and media. Historically, some
banks are always tightening while
others are loosening. Capital markets
will be driven by many factors,” says
Malvey.
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“Neither the rise of the Islamic State, the
conflict between Russia and Ukraine nor
the spread of Ebola were forecast at the
beginning of 2014, but each exerted a pull on
markets during the year that followed.”
Malvey says corporate earnings will be
among the key drivers of equity market
performance in 2015 and he expects them
to rise by 6 to 8%. Merger and acquisition
activity, abetted partly by hedge funds
and partly by companies doing strategic
acquisitions, is also likely to push equity
valuations higher. “The cost of debt capital
is low and should remain low, so it’s a
fairly ideal time to make acquisitions
because both equity and debt financing
are available and relatively inexpensive,”
he says.
Another factor in equities’ favour in
2015 may be the relatively modest
opportunities offered by other asset
classes. “Ten-year Treasuries at 2.10 or
2.50% are unappealing on an after-tax
basis,” says Malvey. “Municipal bonds
offering effective yields of 2 or 3% are also
unappealing compared to the potential
return from good, strong companies
paying dividends.” Despite the positives
for equities, Malvey expects markets to
turn more volatile than they have been in
the past three years.
“A typical characteristic of the middle
of the business cycle is that markets
become increasingly choppy. Markets
gave a taste of that when they turned
volatile in October 2014,” he says.
Malvey also notes that equity market
performance will naturally vary across the
world, with some emerging markets likely
to fare well and the eurozone likely to lag.
Central bank policy will play more of a role
for fixed income markets than for equities.
“Fixed income securities in 2015 will have
impetus from central banks pushing for
higher rates and demand from some
investors for high-quality securities that
have even a meagre coupon,” says Malvey.
“By the end of 2015, 10-year Treasuries
could be in the range of 2.50-3.25%.” We
feel fairly comfortable that the federal
funds rate will be higher at the end of
2015 than at the beginning of 2014. It’ll
stop somewhere between 2 and 3% over
the course of the next two to three years,
depending on the actual vigour of the
US economy.” Hoey also expects interest
rate normalisation to be a multiyear
process in developed countries, gradual
enough to not disrupt sustained economic
expansion.
The speed with which interest rates rise
will be determined partly by inflation
expectations. Hoey sees the global
economy beginning 2015 with underlying
inflation below the targets set by all four
of the G4 central banks. “Our expectation
is that underlying inflation will rise to or
above target over the coming years in both
the US and UK. The underlying inflation
rate should drift higher in both Japan and
Europe but remain below target for the
next several years.”
Foreign exchange is another area affected
by changes in monetary policy. Hoey
and Malvey both expect the US dollar to
strengthen over the coming year.
“Monetary policy divergence will likely
contribute to the basic dollar uptrend
and be accompanied by widening interest
rate spreads as US and UK rates rise
and the ECB and BoJ’s balance sheets
grow relative to those of the Fed and the
BoE,” says Hoey. “Currency weakness in
countries with weak growth and currency
strength in countries with strong growth
should help rebalance global growth and
inflation. The US dollar should also benefit
from the continuing rise in US energy
production. These factors help explain
the dollar’s rise in 2014 and they should
contribute to a further rise in 2015.”
Another effect of the stronger dollar,
Malvey notes, is that earnings of US
multinationals will be somewhat
dampened by the stronger dollar. “A
stronger dollar will also slow US export
growth while hopefully stimulating
European economies,” he adds.
“Meanwhile, Japan will continue
managing the yen to encourage exports.”
Even more difficult to anticipate, says
Malvey, will be the geopolitical risks that
may affect markets in 2015. “Neither
the rise of the Islamic State (IS), the
conflict between Russia and Ukraine
nor the spread of Ebola were forecast at
the beginning of 2014, but each exerted
a pull on markets during the year that
followed.”
7
MARKETS
US rate rises
are not a
done deal
The consensus expectation is that the Federal Reserve
will raise US interest rates, but the Boston Company’s
infrastructure portfolio manager, James Lydotes, thinks
differently.
James Lydotes,
Portfolio manager,
global infrastructure,
The Boston Company
Lydotes, who heads the Global
Infrastructure Dividend Focus Equity
strategy and covers the non-US healthcare,
utilities and technology sectors, cites
four main factors that support his thesis:
modest inflation expectations, weak global
growth, an accommodative European
Central Bank, and a demographic shift
driven by the ageing baby boomers.
He does not see these dynamics changing
any time soon. “Yet,” he adds, “There’s
consensus across the equity markets
that rates are going higher and will pull
up banks’ valuations while destroying the
valuation of utility companies and bond
proxies.”
At the start of 2014, two-thirds of active
US large-cap equity managers were
positioned for rising interest rates,
resulting in a close alpha correlation
between their portfolios and interest
rates1. Around half were very closely
correlated.
But, Lydotes observes, rates didn’t follow
the course that these managers expected.
Instead, “rates went down, taking with
them the performance of those active
equity managers who were resting on that
view.”
1
8
Factset, Correlation as of 1/1/2014
While rates are widely viewed as having
bottomed, he does not believe their
imminent rise is a foregone conclusion.
He notes that the US market has sustained
a catastrophic market correction following
a real estate bubble; increasing net
federal debt as a percentage of GDP; and
a zero interest rate policy implemented
to stimulate growth, which failed to work
when banks did not lend.
“Add to that the once-in-a-generation
issues faced with an ageing baby boomer
population, and it starts to seem possible
the next move in rates is not up — but
down,” says Lydotes.
There is not much indication of stronger
growth elsewhere across the world either.
China, which has fuelled global growth
for the past 20 years, has been very
open about moderating that growth
and switching to a consumption-based
economy. Meanwhile, Brazil does not
look likely to replicate the performance
it contributed in the past, and Russia is
increasingly following an isolationist policy.
www.bnymellonimoutlook.com
“India is probably the one bright spot,”
says Lydotes, “But it is highly unlikely that
India can offset subdued growth from the
rest of the world.”
Meanwhile, the bulls’ favourite arguments
for the return of ‘normal’ growth rates start
to fall apart upon closer inspection.
The first of these centres on the
replacement cycle, namely that
technology and medical equipment as
well as office furniture and fixtures are
vastly older than their 30-year average
and will need to be replaced soon.
“The real trouble is we have been waiting
for this to materialise for the past few
years, and we have not seen it. This
equipment does not self-destruct when
it reaches a certain age,” he says. At the
headline level, healthcare equipment
that is 8% older than its 30-year average
seems like a convincing statistic, but in
fact, that only equates to four months2.
Meanwhile, another panacea trotted out
by growth enthusiasts is the record levels
of cash on companies’ balance sheets.
In the US, companies are hoarding more
than US$3.5 trillion in cash, far above the
levels seen before the global financial
crisis3.
At the same time, however, they have
taken on more debt, so US$3.5 trillion only
represents 40% of corporate debt levels.
Back in 2005, the US$2 trillion of cash
held was the equivalent of 55% of total
company debt4.
“You want to focus
on yield growth
rather than absolute
yield levels, as it
is more predictive
of growing income
streams in a
business”.
Rising inflation, which would be a
prompt for the Federal Reserve to hike
interest rates, is not expected to come
into play either, with little sign of wage or
commodity inflation to drive it higher, says
Lydotes.
He will be keeping an eye on both of those
metrics as well as looking for any rhetoric
reversal from the ECB. Any surprises in
global growth could also lead Lydotes to
revisit his thesis.
In the meantime, income orientated asset
classes in the form of high quality US
equities, global natural resources and
infrastructure could offer opportunities.
“You want to focus on yield growth rather
than absolute yield levels, as it is more
predictive of growing income streams in a
business,” he concludes.
“Companies are hoarding cash, but at the
same time, they are borrowing at record
levels, so their urgency to spend that cash
is pretty greatly reduced,” Lydotes points
out.
In addition, capex is no longer subdued,
he says, and in fact has already closed
the gap and surpassed levels experienced
before the global financial crisis5.
US Department of Commerce, Bureau of Economic Analysis 31/12/13
Factset 31/12/13
Deutsche Bank Global Markets Research, FRB, Haver Analytics as at 31/12/13
5
Bloomberg 31/3/14
2
3
4
9
MARKETS
Policy
support may
offer illusory
benefits
Iain Stewart,
Investment leader,
real return,
Newton
Iain Stewart, who leads Newton’s Real Return team,
examines the reasons for the team’s reluctance to
invest in assets that have benefited from the policy
actions of the authorities. In contrast, the team’s
preference is to concentrate on the fundamental
investment attributes of individual holdings as well
as focusing on diversification.
The policies that have been used by
the authorities to foster growth in
the aftermath of the financial crisis
run the risk of making matters worse,
we fear. Our concern is that once the
near-term ‘gains’ from lower debtservicing costs have been exhausted,
vulnerability to unexpected events
could even be greater.
Although the policies put in place to
support growth may well have been
inspired by good intentions, they could
make our economies more fragile and
more vulnerable to shocks. Such is
our level of concern that we have been
less willing to participate in those
areas of the market that we judge
are particularly dependent on policy
support from the authorities.
As part of the policy support, injecting
money into economies has the effect
of skewing incentives and creating
transfers of resources from one part
of the economy to another. Using evergreater financial incentives to drag
future activity into the present can
lift activity in the short term but bring
10
forward demand from the future with
deflationary consequences.
Not only does cheap finance enable
‘zombie’ companies to limp along and
just survive, it also allows new capacity
to be built that would otherwise have
failed to meet a required rate of return.
The airline industry, for example,
is once again challenged by price
competition as the ready availability
of finance has encouraged rapid fleet
capacity expansion.
Challenges
Unconventional policies have also
tended to exacerbate challenging
social trends. The deliberate inflation
of asset prices has created disparities
in wealth and income. It encourages
those that do have savings to divert
their capital into financial speculation
(that proves unproductive for the
economy) rather than holding cash
that offers no yield.
How the related distortions ultimately
manifest themselves will depend on
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cultural factors, such as the structure
of the economy and who gets most
benefit (or is closest) to the new money.
Putting cheap money into economies,
such as the UK and the US, is much
more likely to create a credit expansion
that fuels consumption or investment
in unproductive assets, particularly real
estate. Culturally, this is less likely to be
the case in, say, Germany or France.
China
Globally, cheap money has also created a
giant (perhaps the giant) credit expansion
in China, which has funded investment in
productive capacity and infrastructure.
A continuing combination of debt-funded
overconsumption in much of the West and
debt-funded overcapacity in the emerging
world has the potential to be increasingly
deflationary.
High valuations for risk assets, such as
equities and high yield credit, need to be
validated by increasing growth and profit
expectations. The opposite has been the
case; long-term growth forecasts, such as
those issued by the IMF, have continued to
fall. Although imminent ‘escape velocity’
or the strong reacceleration of growth
has remained the dominant narrative, the
near-term data releases globally have
continued to look anaemic.
Opportunities
The apparent disconnect between
investor confidence that policy is working
and faith that policymakers will continue
to act as the buttress for any risks
market participants may face means that
investors should expect more volatility.
This does not mean that we view markets
as offering no investment opportunities.
However, it is likely to require more
selectivity in ideas.
Economies are likely to only be able
to sustain nominal growth rates
that will continue to be a source of
disappointment. In such an environment,
the positive support for healthcare
spending implicit in our investment
themes – ‘Healthy demand’ and
‘Population dynamics’ – suggest that the
healthcare sector, in both the developed
and emerging worlds, is likely to continue
to offer attractive investment potential.
(Newton identifies global investment
themes that it believes represent key
forces of observable change and exert
a long-term influence on the global
economy.)
Equally, beneficiaries of technology
spending should be relatively resistant to
cyclical volatility in the economy. Winning
companies in this area should benefit as
businesses adapt their operations to the
technologies that consumers have long
since adopted. In turn, consumers in the
emerging world are expected to leapfrog
the historic patterns of the developed
world and move straight to e-commerce
on increasingly affordable mobile devices.
In contrast, many businesses associated
with the development of Chinese
infrastructure, for example, such as
mining companies and local banks,
appear on the surface to offer attractive
valuations. However, the structural
headwinds caused by a prolonged
investment boom and the associated
accumulation of debt suggest that this is
likely to be something of a mirage.
Maintaining infrastructure exposure
through specialist third party funds, can,
for instance, offer uncorrelated returns.
Such investments can provide strong
income streams that come from the
public-private partnership projects in
which they typically invest.
Markets diverge from fundamentals as debt rises
MSCI Index with and without impact of PE re-rating
4,000
0
$bn
% change since start of period
50
2,000
-50
Sep 08
Sep 09
Sep 10
Sep 11
Sep 12
MSCI World equity index
MSCI World index at constant PE since end Sept 2008
Federal Reserve balance sheet, $bn (RHS)
Sep 13
0
Sep 14
Source: Datastream, Bloomberg, Newton September 2014
11
Currency
Volatility
Comes Back
Elena Goncharova,
Investment Analyst
BNY Mellon
Investment Strategy
and Solutions Group
Charles Dolan,
Chief Strategist,
Fixed Income,
Cash and Currency
BNY Mellon
Investment
Management
Currency volatility has been subdued in recent years as many
investors have increased allocations to international assets. But
Elena Goncharova, Investment Analyst with BNY Mellon’s Investment
Strategy and Solutions Group, and Charles Dolan, Chief Strategist,
Fixed Income, Cash and Currency, say those investors should be
prepared for a potential increase in currency volatility in 2015.
Since the global financial crisis, many investors have sought to diversify their portfolios
across geographic regions to overcome weakness in their home countries’ economies while
also seeking lower correlation and higher yields. Global diversification has benefited those
investors partly because currency volatility has been low in recent years. But the US dollar’s
surge in late 2014 has called into question whether volatility will remain low, and investors
now must consider whether to ride out what may be a passing squall or batten down to face
hurricane season. While attempting to predict exactly when exchange rate volatility will
return is futile, the increasing divergence in economic growth rates and monetary policies
between countries suggest that volatility is likely to rise. Consequently, we recommend that
international investors consider currency risk management in addition to the usual risk,
return and correlation estimates they use for domestic investing.
How low is low?
Being concerned that volatility is too low might seem counterintuitive. But as Nassim
Nicholas Taleb points out in his book Antifragile, markets need a certain degree of chaos in
order to be robust, and bad outcomes often occur when everything is moving in the same
direction. In fact, the two previous points during the past 20 years when volatility declined
to levels comparable to recent lows occurred during the run-up to the bursting of the
technology stock bubble and prior to the global financial crisis.
Implied volatility is one of several means for measuring risk and volatility. JPMorgan’s wellknown volatility index has tracked implied volatility for G7 currencies since December 1993
and emerging market currencies since January 2000. It shows that recent volatility has been
much lower than historical averages, especially for developed countries. Indeed, on April 30,
2014, the G7 index reached its lowest value to date before ticking upward later in the year.
The rise in implied volatility that began in the second half of 2014 could abate, but we believe
history suggests it is more likely to herald a return to historically typical volatility levels.
The return of more normal volatility is partly the result of divergences in growth and policy
among major economies and also from changes in global investment flows as Europe and
Japan replace the US as the primary sources of liquidity from quantitative easing.
12
www.bnymellonimoutlook.com
Rolling 3-year volatility of monthly spot rates
1.5
1.2
0.9
0.6
USDAUD
USDNOK
USDTRY
USDEUR
USDRUB
USDGBP
Volatilities of developed
market and emerging market
currencies have converged
So-called realized volatility, the
rolling three year volatility of
monthly spot exchange rates
for various currencies against
the US dollar, provides another
measure of how unsustainably
low recent volatility levels have
been. Historically, the realized
volatility of emerging markets
(EM) currencies versus the US
dollar has been much higher
than that of developed markets
(DM) currencies versus the
dollar, but this is no longer true.
Over the past 20 years, average
DM currency volatility hasn’t
changed appreciably, while EM
currencies’ average volatility has
declined sharply to roughly the
same level as DM currencies.
While it is certainly possible that
EM currencies have entered
a new paradigm where their
exchange rates versus the dollar
are no more volatile than those
of developed countries, it is more
likely that EM exchange rate
volatility will eventually increase
to reflect the geopolitical and
other risks that remain greater
in emerging economies than in
developed ones.
USDBRL
USDZAR
USDJPY
USDSEK
Diversification may not reduce
risk
The variegated nature of
emerging markets at first
appears to offer investors the
opportunity to diversify away
a degree of currency risk. It
seems reasonable to expect
that economies as different as
those of Brazil and India, for
example, might perform rather
differently over the same period
and that their currencies would
experience correspondingly
low correlation, thus providing
investors with a degree of
downside risk protection. But
historical data shows that in
times of crisis, emerging markets
have instead shown remarkably
high downside correlation.
Between 1994 and 2003, for
example, EMs were shaken by
the 1994 peso crisis, the Asian
currency crisis from 1997 to
1998 and the Russian default in
August 1998. During the 10-year
period surrounding these events,
EM currencies, DM currencies
and even safe haven currencies,
such as the Japanese yen moved
in lockstep.
USDMYR
USDCHF
2014
2013
2012
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
1995
0.0
1994
0.3
USDMXN
USDTHB
What is to be done?
No one can precisely predict
when the next currency shakeup will occur, but the increasing
divergence in economic growth
rates and monetary policies
between countries sets the
stage for increased market
volatility. Given how ubiquitous
international investments have
become in both institutional
and retail portfolios, we believe
that investors need to formulate
realistic correlation and volatility
assumptions.
Investors may seek to protect
their portfolios from currency
volatility by considering
strategies such as hedging,
dynamic trading and the use of
options. Those approaches all
involve upfront costs, foregone
gains or a combination of the
two. Accepting those drawbacks
may not be easy for many
investors, but we believe that
those who do not take steps to
manage currency risk may regret
not doing so.
13
MARKETS
Bond conundrums –
finding value
April LaRusse,
Senior product specialist,
Insight Pareto
Although interest rate hikes are expected in 2015,
the timing of such action is an unknown while the
extent of a market reaction (or lack of one) when it
happens is a mystery. Here April LaRusse, senior
product specialist at Insight Pareto, looks at the
state of credit attractiveness for the year ahead,
irrespective of policy surprises.
Fluidity and adaptability will be key for
fixed income managers in 2015 as it
could be a highly changeable year with
much depending on investor sentiment
and reactions to interest rate moves
– or lack of them, according to Insight
Pareto senior fixed income product
specialist April LaRusse.
The credit sell-off in September and
October 2014 helped bring valuations
to more attractive levels but yields
remain low and LaRusse expects in
the aftermath they could move lower
still. As hunger for yield continues it
could lead investors into different,
less mainstream and illiquid areas of
the fixed income universe, although
perhaps less so than in 2014 given
the autumn sell off in conventional
bonds. “If we see another bout of risk
aversion and high yield was to get
back to say 6-7% yields then yes, more
attention would probably shift back to
‘mainstream’ fixed income assets.
The main reason for looking outside of
‘plain’ corporate or government bonds
Wall Street Journal 21 July, 2014: Shining a light on covenants
1
14
and into more esoteric and/or illiquid
instruments or low level credits has
been the hunt for yield.”
LaRusse believes investment grade
credit looks more attractive post the
autumn 2014 bond sell-off and feels
the environment ahead, even if growth
remains anaemic, looks well suited
to the asset class. “One of the best
environments for corporate bonds is
trend growth – well above trend and
companies start to behave recklessly
and start increasing leverage, too
slow and may struggle to service their
debts.”
Another area that looks attractive
for 2015, given the expectation of
continued low yields, is securitised
corporates, issues that use a physical
or tangible asset as collateral backing
the bond. “These types of bonds are
attractive for two reasons. First of all,
the additional complexity means they
tend to have a higher yield than an
unsecured bond issued by the same
www.bnymellonimoutlook.com
company. In addition the language within
the bond typically limits how much
leverage can be put into the structure”.
Policy moves?
Although interest rate rises are
seen as unhelpful for bond markets,
LaRusse believes companies are more
than capable of coping with what
are likely to be only slight increases.
Many companies in the UK and US
(and Europe to a lesser degree) are
generating solid free cash flows so
they are able to service debt and also
can pay it down, she notes. “Typically
rates go up because growth is strong so
companies can tolerate initial moves
and we expect any rate move in 2015 to
be small, not enough to cause difficulty.”
As such she expects defaults will
continue to benign for some time yet.
For defaults to rise significantly
from current low levels it would take
something like a recession (perhaps
caused by tighter monetary policy) or a
paralysis in the capital markets making
it impossible for some companies to
cover their obligations, she comments.
She believes aggressive monetary policy
tightening is unlikely for 2015 as the
inflation picture looks unremittingly
good. “There is no inflationary reason
to hike rates right now and so long as
it remains below central bank targets
there will be no rush. Indeed even if
it did become an issue it is possible
central banks may even use other
instruments –macro prudential
policies – to tackle it. The Bank
of England has already indicated
it may look for other solutions to
slow down sections of the economy
without using the big hammer of
interest rate moves.”
New issuance is likely to continue
through the year although with the
spectre of higher rates the impetus
for refinancing is slightly less than in
2014. However, LaRusse says ‘lower
for longer’ rates and the continued
tight lending environment means
bond issuance, will remain be a
noticeable trend in fixed income
through the coming year.
Going with the flow…
Because investor demand for yield
will still be strong in 2015 the recent
watering down of covenants for
both high yield and loans is another
development expected to continue.
In July it was reported that the US
had seen US$260.1bn of issuance in
2013 and US$129.6bn through early
June 2014, according to Standard &
Poor’s Leveraged Commentary and
Data unit – far above the pre-crisis
peak of US$96.6bn of issuance
in 2007. While weaker investor
protection is never welcome,
LaRusse points out investors put
up with weaker protection in their
demand for yield, providing little
motivation for companies to tighten
covenants.
Liquidity is also not projected to
improve markedly in 2015 but
LaRusse says bond investors are
becoming used to this situation and
have adapted. “Given how little extra
yield investors get from investing
in a corporate bond over and above
a government bond, you are not
compensated for unexpected
deterioration in the credit quality of
the business or a sudden increase
in market volatility. As such you have
to be careful what you invest in and
ensure it is an improving company
with solid fundamentals.” This
means flexible bond funds need to
be even more nimble in positioning,
with managers sometimes
moving earlier in a trade than they
would have otherwise. “Anything
substantial in size may take longer
to move.”
So what will hinder fixed income for
2015? It is hard to see, according
to LaRusse. Rate rises are unlikely
to cause too much stress but as
the October volatility proved, the
market could be easily spooked.
This means duration positions will
have to be more fluid, LaRusse
says. For instance heading into the
final quarter of 2014 markets had
practically removed all expectation
of a future rise in interest rates
– having gone from too much
anticipation of a rate move earlier
in the year. This will change again
and it could happen rapidly, she
adds. The inflation picture, while
good, could be affected by the kind
of winter we have and the demand
it places on oil; but how authorities
contend with inflation if or when it
does appear will be closely watched.
15
MARKETS
Across the
spectrum
Paul Hatfield,
Chief investment
officer, Alcentra
Against a low interest rate backdrop, Paul Hatfield, chief
investment officer and head of the Americas at the Alcentra
Group, takes an upbeat stance on credit and loan market
prospects despite some market concerns about the
potential for overheated valuations and deteriorating credit
values. Here, he explores the latest developments and
prospects in the sector.
In a volatile global investment market, subinvestment grade corporate credit markets
enjoyed mixed fortunes in 2014. But viewing
the sector as a whole we remain very positive
on the market and believe there is still
capacity for significant new issuance in both
the US and Europe.
earlier this year, following warnings from
US Federal Reserve (Fed) chair Janet Yellen
that high yield bond valuations appeared
“stretched.”2 But this situation has since
stabilised and we do not see the shift
in flows as a reflection of fundamental
concern about credit quality.
There are several reasons for this. From a
loans perspective, the current interest rate
environment remains benign, providing
a supportive backdrop to companies. We
believe action by the European Central Bank
(ECB), lowering interest rates and injecting
new stimulus to fixed-income markets will
also help. Overall fundamentals in the US
high yield market remain in good shape with
corporate performance strong despite some
mixed performance data1.
Cautious approach
New regulator and capital requirements on
banks are also driving them to pull back from
lending. In Europe, there is a growing dearth
of capital supply for small and mediumsized companies and this creates significant
investment opportunities.
The credit market did see some significant
retail outflows from high yield bond funds
High-yield corporate bonds could repeat 2013’s performance. FT Adviser. 11.02.14.
Retail investors dump high-yield bond funds. FT. 25.07.14.
Credit bubble fears put central bankers on edge. FT. 02.04.14.
1
2
3
16
In recent months some market
commentators3 have expressed fears
valuations are becoming overheated, credit
quality is deteriorating and that a new credit
bubble may be building. However, while it
is true that the market saw rising leverage
in 2014, this did not cause us any major
concern given the current low interest rate
environment, although we continue to keep a
close watch on leverage levels.
From an investor protection perspective
the increase in covenant lite issuance has
been a major feature of the market over the
past 18 months or so – about 70% of the
US market is already ‘cov-lite’. A few cov-lite
loans have also come to market recently in
Europe, though it is still too early to tell if
these will start a wider trend in continental
www.bnymellonimoutlook.com
Europe. Despite the increasing popularity
of these loans, we continue to take
covenants very seriously.
While we have seen some weaker sectors
coming to the market and the launch
of some aggressive structures, we
believe lenders should remain focused
on managing downside risk. We believe
businesses that generate strong cash
flows rather than those that might offer
massive upside potential with weak
fundamentals look more attractive in this
environment.
Market strength
From a default perspective, the current
market looks very robust. Major markets
and ratings agencies are not expecting
widespread defaults any time too soon.
Credit quality is also strong. In the US
particularly we are watching for any signs
of excessive leverage, lack of covenance or
excessive dividend recapitalisations. But
collateralised loan obligations (CLOs) now
account for more than half of the market
in terms of holding leveraged loans and
they tend to be more disciplined than
retail funds.4
The rise of loan funds and the realisation
there are alternative sources of capital
available in size to either complement or
supplant the banks have both helped to
create new market opportunities.
Diversification across asset classes is a
useful strategy – particularly if investors
can gain exposure to both loans and
bonds. Increasingly we see institutional
investors demand global funds with a
strong degree of investor flexibility.
Beyond specific asset allocation it is
also important for investors to choose
which geographical exposures they
want access to. The US market for both
loans and bonds is deeper and more
diverse than the European market and
trades more frequently, offering greater
liquidity. However, unlike Europe, the
weight of money entering the US market,
particularly from retail ‘hot money’ flows,
has driven new issue spreads tighter and
put pressure on covenants resulting in
weaker deal structures which promise
lower recoveries in the event of default.
Relative value between US bonds and
loans and European bonds and loans is
constantly changing, resulting in the need
for a flexible mandate that can respond by
adjusting allocation to maintain the best
risk adjusted returns across these four
sectors.
Future challenges
sector. Geopolitical questions – such as
ongoing problems in Russia, the Ukraine
and Iraq may also intensify, making
markets more volatile than they have been
in recent times.
Beyond these important factors we feel
the introduction of new regulation could
have the single biggest impact on the
sector. The aftermath of the 2008 financial
crisis has seen a wave of new regulation
sweep the banking sector. Some
regulations – such as the Basel III rules
in Europe – will not fully come into effect
until 2016-2019. When new risk retention
rules come into effect in the US, such as
the Volcker rule, these will also have a
much bigger impact on domestic lending
and credit particularly in areas such as
the CLO market.
Whatever challenges do lie ahead we do
believe the current credit/lending market
continues to offer attractive opportunities
to institutional investors. However, this is
a highly specialised area which requires
dedicated expertise from experienced
managers who can provide robust
investment selection and credit analysis.
Looking ahead a number of factors are
likely to influence credit markets over the
next 12-18 months. The end of the US
quantitative easing (QE) programme will
have repercussions across various asset
classes, though we believe this is largely
priced into the market and will have more
of an impact on the global equity market
than it does for the global fixed income
CLO sales surge to seven-year high. FT. 09.04.14.
4
17
MARKETS
An end to
corporate
hoarding
in Japan
Simon Cox
Managing director and
investment strategist,
BNY Mellon investment
management
Asia Pacific
In 2014 investors enjoyed a welcome break from
several years of fretting about ‘mountainous’
public debt in the mature economies. The United
States was spared another nail-biting showdown
over the debt ceiling, a Congressional limit on the
amount the federal government can borrow. On the
periphery of the Eurozone, worry about painfully
high spreads on sovereign debt gave way to wonder
at surprisingly low yields on the same paper.
With luck, this calm on either side of the Atlantic
will continue in 2015. In the year ahead, the most
interesting sovereign-bond market may lie not
in the US or Europe but in the country with the
highest public debt ratio of them all: Japan.
Which one is Japan? G7 governments’ net interest payments (2014F)
6
% of nominal GDP
5
4
3
2
1
0
1
2
3
4
5
Source: OECD http://www.oecd.org/eco/outlook/economicoutlookannextables.htm
18
6
7
www.bnymellonimoutlook.com
G7 governments’ net interest payments (2014)
6
% of nominal GDP
5
4
3
2
1
0
Italy
UK
US
France
Germany
Japan
Canada
Source: OECD http://www.oecd.org/eco/outlook/economicoutlookannextables.htm
Japan’s gross government debt exceeds
1 quadrillion yen, a number most people
have to look up in the dictionary. By the end
of 2014 its public liabilities amounted to
almost 230% of its GDP, according to the
OECD’s calculations. Given these mindboggling numbers, most people assume
Japan’s economy is already buckling
under the weight of a punishing interest
burden. Presented with a chart showing
the government’s net interest payments in
each of the G7 countries (Canada, France,
Germany, Italy, Japan, UK and the US), many
people assume Japan is the first or second
economy on the left, handing out big chunks
of its annual income to its creditors.
But this assumption is wrong. Japan’s
interest burden is surprisingly light. It is in
fact the sixth economy on the chart, with net
interest payments amounting to only about
1% of GDP in 2014, according to the OECD’s
projections. That is a lower percentage
than the US or even Germany pay on their
significantly lower debts; see chart above.
To put these figures in concrete terms,
Japan’s government is paying the equivalent
of four days’ worth of national income in net
interest on debts that are equivalent to 838
days’ worth.
How is this possible? First, quite a lot
hangs on that small word ‘net’. Japan’s net
government debt is much less frightening
than the gross figure that is commonly
reported. Japan’s government and socialsecurity fund hold over ¥400 trillion in
financial assets, according to Japan’s Cabinet
Office. Therefore its net public debt will be
about 143% of GDP by 2014, not 230%.
The other big reason why Japan’s interest
payments are so light is, of course, because
interest rates are so low. The yield on a 10year Japanese government bond (JGB) was
less than 0.5% in November 2014, according
to Thomson Reuters. These low yields reflect
the central bank’s efforts to reflate the
economy through minimal interest rates and
maximal asset-buying. The Bank of Japan
already owned over a fifth of outstanding
JGBs by October 2014, according to its
figures, when it surprised markets by saying
it would buy government paper at a still
faster rate. If it maintains its pace of buying
into 2016, it may end up owning about 40%
of the government’s bonds, according to
calculations by Capital Economics.
19
MARKETS
An end to corporate
hoarding in Japan CONTINUED
Japan’s monetary policy is lax but
what lies behind the looseness of
its monetary policy? The Bank of
Japan’s extraordinary easing is part
of a longstanding effort to encourage
borrowing and spending in an economy
that persistently does the opposite.
Japan’s corporations are chronically
reluctant to spend as much as they
earn. It is this propensity to hoard that
allows Japan’s government to borrow
so cheaply and also obliges it to borrow
so much.
In a healthy economy, the corporate
sector is a net borrower from the
rest of the economy. It makes use of
the funds households wish to save,
ploughing these resources into new
factories, machinery, equipment and
research. That is how an economy
makes progress. But corporate Japan
is a peculiar exception. Each year since
1998, it has run a financial surplus
rather than a deficit: it has consistently
spent less than it earned, using the
remainder to repay past debts and
accumulate financial assets.
By mid-2014, private non-financial
corporations were sitting on ¥229
trillion in cash alone, according to the
official flow-of-funds statistics. For any
individual company, building up cash
20
buffers and accumulating financial
assets might make perfect sense. But
such financial retentiveness makes
no sense for the corporate sector as
a whole. Companies are supposed
to create the real, physical assets on
which financial claims can be issued.
If companies are all buying bonds, who
is left to issue them? If companies are
all hoarding deposits in the banks,
whom are the banks supposed to
lend to?
These persistent financial surpluses
represent a drain on demand,
reinforcing Japan’s deflationary
tendencies and deflation in turn
encourages firms to hoard nominal
assets, rather than building real ones.
Since the corporate sector refuses to
borrow and spend, the government
has been forced to do so instead. Its
deficits mirror and offset corporate
surpluses. From the 1998 fiscal year to
the 2013 fiscal year, these corporate
surpluses added up to a cumulative
¥311 trillion, or over 60% of Japan’s
2014 GDP, according to the official
flow-of-funds statistics. Without them,
Japan’s net public debt might now
be about 80% of GDP not over 140%.
Corporate thrift makes government
deficits sustainable, it also makes
them necessary.
Corporate dis-hoarder
But throughout 2015 that may begin to
change. Now prices have started rising
again, albeit weakly, financial assets
make less attractive stores of value.
The reflation of the economy and the
revival of demand will encourage firms
to increase their capital outlays and
they will face other pressures on their
cash-flow also. Workers are demanding
higher wages and big institutional
investors, such as the Government
Pension Investment Fund, are paying
closer attention to dividends, buybacks
and returns on equity. Both trends will
eat into the financial surpluses that
firms are accustomed to hoarding.
It is already possible to spot some
statistical straws in the wind.
According to the latest official flow-offunds figures published in September,
the financial surplus of Japan’s nonfinancial corporations turned into
a ¥6.3 trillion deficit in the second
quarter of 2014. Private non-financial
corporations reduced their holdings
of currency and deposits by ¥3.47
trillion and their holdings of centralgovernment bonds by ¥1.66 trillion.
www.bnymellonimoutlook.com
Japan’s
Japan’s
private
private
non-financial
non-financial
corporations
corporations
s
urplus vs deficit
25
25
Yen, trillion
Yen, trillion
20
20
15
15
10
10
5
5
Financial surplus
Financial surplus
0
0
Financial deficit
Financial deficit
-5
-5
-10
-10
-15
-15
-20
-20
Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1
Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1 Q1
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
This second-quarter deficit is suggestive,
but not conclusive. These numbers can
be volatile. In the past, Japan’s firms
have run the occasional quarterly deficit,
only to return to surplus for the rest of
the year. It must also be remembered
that the second quarter of 2014 was a
peculiar one, disrupted by the April hike
in Japan’s consumption tax. Nonetheless,
the pronounced deficit in April-June, the
biggest since 2008, might be a harbinger
of things to come. Firms may begin losing
their appetite for cash and government
bonds in favour of higher wage payments,
bigger dividend payouts and bolder
capital outlays.
“The Bank of Japan
already owned
over a fifth of
outstanding JGBs
by October 2014,
when it surprised
markets by saying
it would buy
government paper
at a still faster rate.”
Source: Bank of Japan
Source: Bank of Japan
If so, their altered appetite will increase
demand in Japan’s struggling economy,
reviving growth and tax revenues. For the
government, it will become harder to sell
its bonds, but also less necessary to issue
them.
The result may be a long-awaited
increase in Japan’s government bond
yields. If so, the increase will not reflect a
heightened risk of default. It will instead
reflect heightened demands on corporate
revenues. An increase in Japan’s bond
yields, I believe, will be a sign of success
not a signal for alarm.
Japan’s
Japan’s
private
private
non-financial
non-financial
corporations
corporations
s
pending habits
60
Financial asset accumulation
20
Overseas direct investment
0
Debt repayment*
-20
Financial surplus
-40
Fiscal year ending March 31st
2013
2011
2009
2007
2005
2003
2001
1999
1997
1995
1993
-60
1991
Yen, trillion
40
*Negative number indicates debt accumulation
Source: Bank of Japan
21
MARKETS
EMD: potential
fallout from US
monetary policy
Urban Larson,
Senior product
specialist, emerging
markets debt,
Standish Mellon
Asset Management
Historic links between the performance of US Treasuries
and emerging market debt make the actions of the US
Federal Reserve an important consideration in analysing
the asset class, according to Urban Larson, Standish
senior product specialist, emerging markets debt.
Despite the market volatility of the
past two years, emerging market (EM)
economies remain fundamentally sound,
by and large. Valuations of both US dollardenominated and local currency emerging
markets bonds remain reasonable,
particularly given the strong credit quality
of the asset class, reflected in an overall
investment grade rating.
Going forward, the potential for higher US
interest rates will be an important theme
in emerging market debt (EMD), but the
asset class does not and will not behave
in a synchronised fashion. The increased
uncertainty over the global monetary
environment has affected all types of
EMD, but in stark contrast to 2013, the
uncertainty of 2014 was purely over the
timing of an eventual tightening of US
monetary policy. This is likely to continue
through the first half of 2015.
Linked in
The correlation between US dollardenominated EMD and US Treasuries
is only logical as the former are priced
off the latter. Generally the lower the
spread between their respective yields
22
the higher the correlation. Additionally,
dollar-denominated debt is mainly
held by international investors who
are particularly sensitive to monetary
conditions in the developed markets.
That is why in mid-2013 when the ‘taper
tantrum’ was set off by the US Federal
Reserve’s first comments regarding a
potential end of quantitative easing,
there was also a sell-off in emerging
market dollar-denominated debt. This
affected higher quality, longer duration
EM sovereign bonds the most as global
investors rushed to cut their duration
exposure. Corporate bonds were less
affected by the sell-off than sovereign
bonds, given their higher spreads and
shorter duration.
While the correlation between US
Treasuries and EM local currency bonds
is less direct, these have also been very
sensitive to US Treasury yields in the
past. EM currencies – by virtue of their
high degree of liquidity – have borne the
brunt of this. Currency volatility has risen
as investors have moved to reposition
themselves and as the US dollar has
strengthened.
www.bnymellonimoutlook.com
“Over the next 12 months we expect a
lot more differentiation among dollardenominated bonds, and between local
currency debt markets, as US monetary
conditions gradually normalise.”
The correlation between
the US dollar-denominated
EM sovereign bonds in
emerging markets has been
quite striking during this
period of unusual monetary
policy. We have also seen
similarly high correlations
among EM local currency
bonds. Yet over the next
12 months we expect a
lot more differentiation
among dollar-denominated
bonds, and between local
currency debt markets,
as US monetary conditions
gradually normalise.
Local yield
curves have been more
stable as they continue to be driven
primarily by local monetary conditions,
while local bond markets continue to
be dominated by local investors who
naturally have a home country bias.
The differing degrees of vulnerability of
EM countries in an environment of rising
US interest rates should drive increased
divergence in the performance of their
bonds.
All eyes on the US
A focus on quality
The market has been pricing in the first
US rate hike either in the second half
of 2015 or in early 2016, in line with our
expectations. When the Federal Reserve
does begin to hike rates, it is likely to move
gradually, given the recovery in the US
has been slow and shallow. There is no
real inflationary pressure and the average
citizen in the US has been slow to feel the
recovery.
In both US dollar and local currency debt
we believe investors should focus on
those sovereign and corporate issuers
that are less dependent on cheap
international financing. This means
holding the bonds of countries with the
greatest flexibility in fiscal and monetary
policy, the currencies of those countries
that have healthy external accounts and
the bonds of corporates that have sound
credit profiles.
Meanwhile, market forces are also likely
to keep US Treasury yields from rising
quickly, with weak growth in Europe and
Japan keeping rates low elsewhere in
the developed markets. By comparison
with the near-record low yields on some
European bonds even the current very low
yields on US Treasuries are attractive.
Within the US dollar space – and aside
from corporate debt – quasi-sovereigns
provide an alternative to sovereign bonds,
particularly in the larger countries such as
Mexico, Indonesia and Turkey. The bonds
of quasi-sovereigns – which are 100%
state owned – benefit from an implicit
(and sometimes explicit) government
guarantee and so share the credit quality
of the sovereign. Both corporates and
quasi-sovereigns can offer an attractive
spread pick-up to the higher quality
sovereigns which often trade at very tight
spreads, given limited new supply. In
addition to a more reasonable valuation,
the wider spread generally means that
corporate and quasi-sovereign bonds are
less correlated to US Treasuries.
EM local currency bonds do not offer as
many liquid alternatives to pure sovereign
exposure. This asset class is the most
liquid among emerging market debt
since the bigger, higher-quality, sovereign
issuers can borrow long term in their own
currencies and are not generally issuing
new dollar-denominated debt. When
investing in EM local currency bonds it is
essential to look separately at currencies
and at local yield curves. While the
valuations of both will ultimately reflect
a country’s fundamentals, currencies can
be much more volatile in the short term as
they are affected by such external factors
as global risk appetite and the outlook for
the US dollar.
The ongoing but gradual transition to less
supportive, more conventional, monetary
policy in the US may lead to some volatility
in EMD, but the surprise factor that led
to the 2013 sell-off is gone and the asset
class continues to offer opportunities to
investors who focus on the fundamentals.
Valuations remain reasonable compared
with history and versus other asset
classes where credit quality is not as
strong.
23
MARKETS
US housing
stands on
firmer ground
Carl Guerin,
Research analyst,
The Boston Company’s
US Opportunistic
Equity team
Raphael Lewis,
Primary research
analyst, The Boston
Company’s
US Opportunistic
Equity team
With the US housing economy still in recovery mode more
than six years on from the peak of the financial crisis,
what do the coming years hold for US housing and what
role do the so-called ‘millennials’ have to play in this
story? Carl Guerin, research analyst and Raphael Lewis,
primary research analyst on The Boston Company’s US
Opportunistic Equity team, discuss.
The US housing market is still in the
midst of a healing process. From housing
starts (the number of new residential
construction projects that have begun
during any particular month), vacancy
rates, house prices, to all matter of other
housing data, the numbers suggest the US
housing economy is still some way from its
peak mid-2000 peak levels. Is this a result
of the scars of the financial crisis (on both
the consumer and business levels), the
reticence of the so-called ‘millennials’
or that the peak years of the 2000s were
simply abnormal and unsustainable? It
seems likely the truth lies somewhere
between these three factors.
From annualised levels in excess of two
million in the early 2000s – peaking at
2.3 million in January 2006 – US housing
starts plateaued throughout 2014 at
around the one million mark. “There has
been plenty of discussion among investors
and forecasters as to a more reasonable
and likely range over the coming years:
one million seems too low but the peaks
of the last decade seem too high.
A 1.2 million to 1.5 million range seems
appropriate,” explains Guerin.
24
“This is a slow burner and we aren’t
expecting to see the kind of ‘snapbacks’
witnessed in the mid-70s and early 80s
and 90s. The post-crisis years have been
dominated by lesson-learning; regulation
has increased, lending rules have become
stiffer.” Ultimately, the appetite for housing
risk has diminished noticeably. “The peak
of the mid-2000s was a function of heavy
speculation on an asset traditionally
seen as an ‘easy’ source of wealth
accumulation. With their fingers burnt,
it seems unlikely the US consumer will
return to that way of thinking anytime
soon,” adds Guerin.
That’s not to say there haven’t been
improvements in the underlying housing
market. Negative equity numbers have
benefited from price inflation while
foreclosures were down 35% year-on-year
to June 2014, according to real estate
data provider CoreLogic. The consensus
opinion is that much of this was driven
by speculative builds in the 2000s; these
have fallen significantly in number since
the crisis.
www.bnymellonimoutlook.com
Bearing the scars
Many commentators believe one of the
key reasons behind the slower-thananticipated demand for housing rests at
the feet of the so-called ‘millennials’ –
defined as those born between the early
1980s and early 2000s. Marrying later,
having kids later, saddled with student
debts, living with parents for longer,
much thought is being given to how this
demographic can be encouraged to buy
into a traditional path that has dominated
US life for the past century. It remains the
billion-dollar challenge.
Ultimately, are ‘millennials’ shying
away from home ownership because of
economic reasons, psychological reasons
or just because they are a culturally
different group of people from the rest
of the US population? “The so-called
‘sharing’ generation is re-shaping the
market; for example, home-improvement
retailers don’t just have to worry about
people sharing houses, they also have to
worry about people sharing hammers,”
says Lewis. There is also the challenge of
sky-high student debt levels with which
to contend. Indeed, the share of 25-34
year olds with more than US$50,000 of
debt tripled between 2001 and 20101.
“Clearly, indebtedness is a challenge.
But improvements in education mean
students will now enter the workforce
better qualified and equipped than the
classes of the recent past. They are
also contending with the psychological
scars of the financial crisis although the
further the crisis disappears in the rearview mirror, the less snake-bitten this
generation will be,” he adds.
There are also positive signs in the job
market, as the unemployment rate has
continued to fall, which will ultimately
push wages higher. This is especially
true for college graduates, who have
been able to find jobs more readily and
earn higher salaries than their lesseducated counterparts in this recovery.
Another promising development is the
groundswell of public protest against the
ballooning costs of higher education. As
a result, the US government has begun
to implement some pockets of debt relief
and to consider greater regulation of
for-profit schools. According to the US
Department of Education, students at
for-profit colleges make up about 13% of
the total higher-education population, but
represent about 31% of all student loans
and almost half of all loan defaults.2
Staying in credit
Lewis says: “As far as the problem of
credit availability is concerned, much of
the debate in the US has been centred on
getting more creative, on using the vast
swathes of data available to understand
and properly evaluate the nature of risks;
lending should be less broad brush. The
key is to use data in a smarter and more
efficient way and ‘millennials’ should be
the beneficiaries.”
“As for the major forces holding back
the ‘millennials’ from US housing, they
are a combination of psychological and
economic – the scars of the post-crisis
years coupled with the pain of the present.
The good news is it’s hard to imagine the
situation getting any worse – it should
ameliorate over time,” says Lewis.
Like with any bubble and the ensuing burst,
lessons have been learned (for a while
at least), according to Guerin. “It seems
unlikely we’ll see another housing crisis
in the next 10 to 20 years. The scars of
the past 10 years will provide a constant
reminder to the ‘millennials’ and beyond.
But, of course, it’s a fact of life that different
mistakes will be made in the future.”
US housing starts – a fundamental shift?
2.375M
2.125M
1.875M
1.625M
1.375M
Average 1.372M
1.125M
875.00K
625.00K
375.00K
1990
1995
2000
2005
2010
US Housing Starts (SAAR) Sep ’14 1.017M
Source: US Census Bureau, October 2014.
Banks and other housing-related
businesses have cited a desire for
more regulatory and legal clarity to free
lenders from the uncertainty restraining
their mortgage businesses. “But at the
same time, progress has already been
made and the positive news is starting
to come in. The nation’s largest banks
have struck a series of landmark, multibillion-dollar legal settlements with the
federal government for alleged misdeeds
during the peak bubble years, removing
some doubt,” Lewis adds. In late 2014
US Federal Reserve Chair Janet Yellen
expressed sympathy for the banks’
frustrations and pledged to clarify the
rules around mortgage lending to foster
a greater extension of credit. “This is not
likely to be a fast process but it’s a sign
that we are due to see better days,”
he adds.
Some commentators argue the post-crisis
years have been dominated by overconservatism, or that this conservatism
has continued for longer than required. “It
is no surprise the government and banks
are working to sensibly loosen lending
criteria,” says Guerin. “The pendulum,
which had swung too far the other way,
is being righted. It is a welcome change
that solid supply and demand factors are
starting to drive the housing economy; we
are not seeing a return of the speculative
2000s. It is also a welcome change that
the importance of US housing to the
broader economy is less now than it
was. A generational and cultural shift is
underway and this is a good thing.”
Harvard University Joint Centre for Housing Studies, June 2014.
“Obama Administration Takes Action to Protect Americans from Predatory, Poor-Performing Career Colleges,” U.S. Department of Education, March 14, 2014.
1
2
25
MARKETS
Holding
the faith
Amy Leung,
Asian equity team,
Newton
After years of rapid economic development in China,
stellar growth has given way to growing market uncertainty
as markets look towards 2015. But, despite the many
challenges facing the country, its ongoing reform
programme could yet deliver significant long term gains,
says Amy Leung, a member of Newton’s Asian equity team.
Since the late 1990s the China story has
been one of rapid development, social
change and economic growth. From 1993 to
2007 alone China averaged growth of 10.5%
a year1. Throughout the 1990s/2000s the
world’s second largest economy became the
manufacturing engine room of the world and
one of its largest importers and exporters.
In the past 18 months, however, a series
of factors, including weakening global
economic recovery, falling industrial output
and a rising dependence on credit have
all contributed to lower Chinese economic
growth. This in turn has fuelled concerns
the Chinese economy could be heading for a
major correction.
As economies, including the US, show
increasing signs of recovery, questions
centre on why the Chinese economy
seems out of step with broader recovery
and whether its current economic issues
represent a short term blip or a longer term
challenge.
1
2,3
4
5
26
When giants slow down. The Economist. 27.07.13
The great hole of China. The Economist. 18.10.14.
A test of will. The Economist. September 20.26.14
Alibaba IPO ranks as world’s biggest after additional shares sold. Reuters. 22.09.14
At Newton we acknowledge China faces
a variety of tough challenges but we
believe the Chinese government remains
genuinely committed to reform under its
current leader, Xi Jinping. From a structural
perspective we remain positive on the longterm outlook for China although we expect
to see some market volatility in the short
to medium term due to what we call triple
excesses in the country. These consist of
excess capacity, excess leverage and, at an
environmental level, excess pollution.
Structural challenges
China clearly faces some challenging
structural problems as it transitions from a
manufacturing-led to more consumer-led
economy. Most recently the exponential
growth of its debt – now more than 250%
of GDP2 – has become a genuine cause
for investor concern. The ongoing property
sector boom in China has also seen supply
dramatically outstrip demand – creating a
potentially damaging market bubble.
www.bnymellonimoutlook.com
World Trade Organisation in the early
2000s only exacerbated this. Those who
move from rural areas do not currently
enjoy equal status to existing urban
citizens and are not entitled to a full set
of social benefits. This has given rise to
growing workforce dissatisfaction and
disharmony.
Fortunately the Chinese government has
made tackling this a priority through its
hukou reform programme. Change will
take time but we believe the country is at
last heading in the right direction on this.
On the debt front, however, we are not
entirely bearish. Unlike some markets,
China’s investment driven leverage is
almost entirely domestically financed,
savings rates are high and various
government controls and financial
‘buffers’3 exist which should help China to
offer its economy at least some protection
in any worst case scenario. As just one
example, Chinese financial regulators
have recently put pressure on banks to
be more disciplined in managing offbalancing sheet exposure.4
The reform of state owned enterprises is
also on the agenda with the State-owned
Assets Supervision and Administration
Commission of the State Council finally
moving beyond the talking stage to
implement real change. This is likely to
involve the restructuring and perhaps
disposal of some of the more inefficient
public sector assets. In tandem, the
government has launched a powerful anticorruption campaign designed to clean up
graft and improve transparency within the
public sector.
China is currently using various measures
to push its credit risk further into the
future. Its monetary policy continues to
show an easing bias. Targeted easing was
a theme in 2014, with the government
variously providing affordable financing
for small and medium sized companies
and for the farming and social housing
sectors. The danger is that some of
the monetary tools China is using are
beginning to lose their effectiveness.
While many assume China is a closed
economy the country has in fact done
much to liberalise its capital market in
recent years. The internationalisation of
the renminbi currency continues apace
and the Qualified Foreign Institutional
Investor and Qualified Domestic
Institutional Investor have opened
significant gateways for foreign investors
– albeit through tightly supervised quotas.
Market access
Inflationary pressures
Beyond the debt challenge, wage inflation
is also a major issue, with China facing
a growing contraction in its working
population. The number of working
age people in China has shrunk by over
2.4 million in the last year alone and
continues to decline. The rapid and
growing urbanisation of China over the
last decade has also created its own
problems, driving a huge movement of
people from rural China into cities to get
better paid jobs in factories. Entry to the
On the investment market front, China
recently opened the new Hong KongShanghai Stock Connect trading scheme,
which aims to broaden investor access
to the Chinese market. The new scheme,
dubbed the ‘through-train’, is designed
to enhance foreign access to China’s
Shanghai A-share market and will also
allow some mainland Chinese investors to
access Hong Kong’s H-share market. The
launch met with some delays, partly due
to the disruption caused by recent Occupy
Central protests in Hong Kong.
Whatever change lies ahead, the Xi
Jinping administration knows that in a
country of over 1.3 billion people it must
tread cautiously with reform – even if this
means continued support for some ailing
public sector companies in the interest
of maintaining jobs and social cohesion.
That said, while we do expect to see some
injection of liquidity we do not anticipate
any rush to full blown quantitative easing
measures that might inflate sectors
already suffering from overcapacity.
As the recent democracy protests in Hong
Kong illustrate, maintaining a level social
and political balance in a modernising
China embracing new communications
media is paramount. At heart China is
still very much a command economy but
its leaders recognise both the need for
reform and social and economic stability.
From a market perspective, while some
companies may regain the growth levels
seen in the early 2000s, the Chinese
economy is fundamentally changing from
one which is manufacturing led to one
which is both more globally oriented and
increasingly consumer driven. The record
breaking US$25 billion initial public
offering of Chinese e-commerce giant
Alibaba5 Group this year suggests the
future may ultimately lie in service sectors
such as e-commerce.
No one expects the transition away from
manufacturing to a more fundamentally
balanced economy will take place
seamlessly overnight. But, as markets
look to 2015 and beyond, the Chinese
government’s gradual approach looks set
to deliver positive long term economic
change. While recent growth levels
may have slowed in China – leaving
it temporarily out of step with other
recovering economies – there is much
evidence to suggest it is ultimately moving
in the right direction.
27
MARKETS
Dilma’s
dilemma
Solange Srour,
Chief economist,
ARX Investimentos
In the Brazilian elections in October 2014, after a long
and fraught campaign President Dilma Rousseff won a
narrow victory. Political uncertainty may have subsided
but with the Brazilian economy in the doldrums and
commentators banging the drum for harsh reforms,
what are the prospects for the dilapidated poster-boy
of South America? Solange Srour, chief economist at
ARX Investimentos, the Brazilian investment boutique of
BNY Mellon, looks at the economic challenges facing the
president in her second term.
As President Dilma Rousseff addressed
the Brazilian people following her narrow
re-election in October, she could have
been forgiven had her relieved smile
collapsed into a worried frown. She may
have won the election and in-so-doing
gained another four years in power, but
the position of strength enjoyed by her
Worker’s Party a few years ago is now long
gone. The election result was too close.
Gone are the buoyant days of her early
presidency.
Her victory speech was one dominated by
words of collaboration and compromise.
She spoke of greater dialogue with
industrial leaders, banks and business
in general. She talked of her desire to be
a better president in her second term.
That she failed to mention her rival, Aécio
Neves da Cunha, who had gained 48%
of the vote, spoke volumes, though. The
market-friendly Aécio campaigned and
28
spoke for industry, banks, business and
the squeezed middle classes. Indeed, it
was a damning indictment of Dilma’s first
term in office that 2014 saw an almost
perfectly negative correlation between her
strength and weakness in pre-election
polls, and the performance of the Brazilian
equity market.
But how has the president managed to
put up so many hackles in the business
world? The list of blemishes is a long one.
In 2012 she forced state-controlled banks
to reduce consumer lending rates, hurting
the rest of the sector; in 2013, changes
were forced upon electricity companies
to lower tariffs; while the oil and gas giant
Petrobras – which makes up around
13% of the domestic index – has been
hampered by enforced price controls. The
‘business-unfriendly’ tag has firmly stuck.
www.bnymellonimoutlook.com
Giving with one hand…
It is unfair to brand her presidency this
far as one wholly dominated by investorunfriendly policy, though. Certain tax
cuts have made sense and made a real
difference; her commitment to Bolsa
Família – the country’s largest social
welfare programme – continues to keep
millions from the clutches of poverty, while
she has also been good on education.
However, ultimately her first port of call
when it comes to policy is ‘intervention’
– this has affected foreign investment,
while it is no surprise that business and
consumer confidence are back to their
2009 lows. Ultimately, Dilma bears this
responsibility.
Bolsa Família, the brain-child of the
former, and revered, President Luiz Inácio
Lula da Silva, has provided invaluable
financial aid to poor Brazilian families.
Yet while its success can’t be ignored
– around 12 million Brazilian families
benefit – it has had its fair share of
critics who cite the problems of benefit
addiction and the programme acting as
a source of discouragement from work.
The programme may well help around
a quarter of the population but for the
remaining 75% the overriding concern
is inflation and the rising cost of living in
the country’s major cities. Some 85% of
the population lives in urban areas.
In her victory speech, Dilma declared
the country undivided. While this may be
true in terms of the north/south divide
alluded to by many external observers, it
is a country divided by those reliant upon
welfare programmes and those who aren’t.
It has reached a stage at which the heavy
focus upon social welfare programmes is
proving too big a burden for the Brazilian
economy.
Tightening belts
The economic situation in Brazil is not a
rosy one. Currently in recession, a nearterm rebound seems unlikely. Inflation
remains high, the primary surplus is close
to zero (it needs to be closer to 1.5% of
GDP) and the strength of the Brazilian
real continues to hamper the economy.
It is the squeezed middle classes who are
bearing the brunt of this pain.
With inflation sitting at more than 6%
and greater inflationary pressures set to
come as price controls expire, interest
rate rises seem imminent. And they are
needed. Dilma has spoken much about the
importance of employment and economic
growth but this is not possible without
fixing the underlying problems. Even with
progress on inflation, the primary surplus
and the currency, the sad truth is that an
interventionist government underscores
an inefficient and uncompetitive economy.
For example, the effects of inflation will
only get worse as areas in which the
government has frozen prices, such as
fuel, are released. At the same time, fuel
price freezes have severely hampered the
ability of largely state-owned companies,
such as Petrobras, to thrive. Dilma’s
administration has limited the value of
these companies by using them as a
political lever. It is a similar story with the
state-owned banks; used as a tool for
cheaper credit availability, there is a need
for significant capital raising within the
banking system over the next few years.
In her second term, Dilma will have to
let go of the price controls if she has
a genuine desire to improve investor
confidence in Brazil, increase the
primary surplus and allow efficiency
and competitiveness a foothold in the
economy. However, long-term gain would
come at the cost of short-term pain.
infrastructure, well below the developingworld average of 5.1%. It is also barely high
enough to keep up with depreciation of
existing infrastructure. Meanwhile, just
14% of the country’s roads are paved,
according to The World Bank. Seemingly
simple processes such as transporting
corn to ports are made needlessly more
expensive and strenuous by a lack of basic
infrastructure.
Yet the crux of the spending problem is
that the public sector just doesn’t have
the money to invest. It needs to attract
private sector investment but, given the
track record of the Dilma government, who
would want to do business with them?
Too much focus on subsidised public
sector bank investment is now coming
back to bite the government. Ultimately,
over the longer term these challenges
are surmountable. A greater emphasis on
business-friendly policy would do much to
build bridges with the private sector.
Dilma is rightly proud and protective
of Lula’s first-world standard welfare
legacy but the cost is now being borne
by the middle classes; those who should
be at the core of the country’s economic
impetus. Action is required and pain is
necessary if the country is to reawaken
from its post-commodity boom slumber.
Is Dilma capable of changing her spots
and becoming pro-business? To some
degree, perhaps, but a wholesale change
of heart seems highly unlikely.
The more probable outcome is four more
years of high inflation and low growth and
competitiveness. Dilma’s dilemma is likely
to be one she largely ignores.
Building for the future?
Infrastructure spending or stark lack
thereof, is also high on the agenda of
Dilma’s critics. The country is held back
by significant public transport limitations
and remains some way behind the rest of
the world when it comes to infrastructure
spending. According to The Economist,
Brazil invests just 2.2% of its GDP in
29
MARKETS
About
BNY Mellon
BNY Mellon’s multi-boutique
model encompasses the skills
of 13 specialised investment
managers who are all leaders
in their respective fields. Each
is solely focused on investment
management, and each has
its own unique investment
philosophy and process.
Located in London, New York and Boston, Alcentra is a global asset
management firm focused on sub-investment grade debt capital markets
in Europe and the US.
With expertise in macro analysis and bottom-up stock selection, ARX
Investimentos is dedicated to investments in Brazil and Latin America.
Headquartered in Rio de Janeiro, the group’s philosophy is to optimise risk
adjusted returns, with a focus on capital preservation.
The Boston Company is a global investment management firm
providing a broad range of active, fundamental research driven equity
strategies, including both traditional long-only portfolios and alternative
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and management teams.
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solutions across liability driven investment, absolute return, fixed income,
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European fixed income, equity and balanced mandates. Meriten does
not offer services in the U.S.
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investing. Based in London and with over 30 years’ experience, Newton’s
thematic approach is applied consistently across all strategies.
Headquartered in Boston Standish is a specialist investment manager
dedicated exclusively to active fixed income and credit solutions, with a
strong emphasis on fundamental credit research.
30
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Bundesanstalt für Finanzdienstleistungsaufsicht. • Dubai, United Arab Emirates: Dubai branch of The Bank of New York Mellon, which is regulated by the Dubai Financial Services Authority. This
material is intended for Professional Clients only and no other person should act upon it.• Singapore: BNY Mellon Investment Management Singapore Pte. Limited Co. Reg. 201230427E. Regulated
by the Monetary Authority of Singapore. • Hong Kong: BNY Mellon Investment Management Hong Kong Limited. Regulated by the Hong Kong Securities and Futures Commission. • Japan: BNY Mellon
Asset Management Japan Limited. BNY Mellon Asset Management Japan Limited is a Financial Instruments Business Operator with license no 406 (Kinsho) at the Commissioner of Kanto Local
Finance Bureau and is a Member of the Investment Trusts Association, Japan and Japan Securities Investment Advisers Association. • Australia: BNY Mellon Investment Management Australia
Ltd (ABN 56 102 482 815, AFS License No. 227865). Authorized and regulated by the Australian Securities & Investments Commission. • United States: BNY Mellon Investment Management. •
Canada: Securities are offered through BNY Mellon Asset Management Canada Ltd., registered as a Portfolio Manager and Exempt Market Dealer in all provinces and territories of Canada, and as
an Investment Fund Manager and Commodity Trading Manager in Ontario. • Brazil: this document is issued by ARX Investimentos Ltda., Av. Borges de Medeiros, 633, 4th floor, Rio de Janeiro, RJ,
Brazil, CEP 22430-041. Authorized and regulated by the Brazilian Securities and Exchange Commission (CVM).
The issuing entities above are BNY Mellon entities ultimately owned by The Bank of New York Mellon Corporation
BNY Mellon Company information
BNY Mellon Cash Investment Strategies is a division of The Dreyfus Corporation. • Insight Investment Management Limited and Meriten Investment Management GmbH do not offer services
in the U.S. This presentation does not constitute an offer to sell, or a solicitation of an offer to purchase, any of the firms’ services or funds to any U.S. investor, or where otherwise unlawful.
• BNY Mellon owns 90% of The Boston Company Asset Management, LLC and the remainder is owned by employees of the firm.• The Newton Group (“Newton”) is comprised of the following
affiliated companies: Newton Investment Management Limited, Newton Capital Management Limited (NCM Ltd), Newton Capital Management LLC (NCM LLC), Newton International Investment
Management Limited and Newton Fund Managers (C.I.) Limited. NCM LLC personnel are supervised persons of NCM Ltd and NCM LLC does not provide investment advice, all of which is conducted
by NCM Ltd. Only NCM LLC and NCM Ltd offer services in the U.S.• BNY Mellon owns a 20% interest in Siguler Guff & Company, LP and certain related entities (including Siguler Guff Advisers LLC).
GE015-31-05-2015 (6M). Issued 27.11.2014. T1415 11/14.
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