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Tristan Hanson November 2010

Structural Themes & Asset Allocation Update. Tristan Hanson November 2010. Overview. Structural Themes: Quantitative Easing and implications for asset prices Equities: the most attractive major asset class Contrasting fortunes: emerging vs developed economies Uncertainty is unavoidable

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Tristan Hanson November 2010

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  1. Structural Themes & Asset Allocation Update Tristan Hanson November 2010

  2. Overview • Structural Themes: • Quantitative Easing and implications for asset prices • Equities: the most attractive major asset class • Contrasting fortunes: emerging vs developed economies • Uncertainty is unavoidable • Asset Allocation update

  3. Theme 1: The goals of QE • Higher asset prices • Bond yields down (prices up) • Other asset prices rise (corporate bonds, equities, property) • Wealth effect on spending • Lower cost of borrowing • Influence expectations

  4. Implied equity risk premium is high US: Implied Equity Risk Premium (%) Based on 12mth forward earnings per share US: Implied Equity Risk Premium Based on Trend EPS 8 12 7 10 6 8 5 6 4 % 3 4 2 2 1 0 0 -2 Dec-09 Sep-99 Sep-04 Sep-94 Sep-09 Dec-99 Sep-89 Dec-89 Dec-79 Dec-69 Source: Ashburton, S&P, Bloomberg

  5. Equity valuations imply attractive relative returns Expected long-term real returns (local ccy) 10 8 6 % 4 2 0 US GER JAP SA US IG US HY US GEM EU SA 10yr 10yr 10yr 10yr Corp Corp Equity Equity Equity Equity Govt Govt Govt Govt EY EY EY EY Source: Ashburton, Factset, Bloomberg

  6. Corporations are in good shape US Corporate Leverage US Average Corporate Bond Yield (Ex-Financials) 10 8 % 6 4 2 Jan-90 Jan-95 Jan-00 Jan-05 Jan-10 Source: Deutsche Bank, Barclays Capital

  7. Corporations are in good shape European EBIT Margins %

  8. 170 130 160 120 150 140 110 130 Jan 2007 = 100 Jan 2007 = 100 120 100 110 100 90 90 80 80 Jul-07 Jul-08 Jul-09 Jul-09 Jul-07 Jul-08 Jan-07 Jan-08 Jan-10 Jan-10 Jan-09 Jan-07 Jan-08 Jan-09 Theme 3: Structural divergence in growth rates Industrial Production Retail Sales Advanced Emerging World economies economies Source: IMF

  9. EM: lower debt levels & improved fundamentals Private + Public Debt 2008 % of GDP Japan 164 195 USA 194 71 UK 211 52 Singapore 108 85 Germany 108 66 South Africa 145 27 Korea 109 29 Private India 51 77 Public China 108 17 Brazil 56 64 Poland 50 47 Turkey 33 40 Mexico 21 43 Indonesia 27 33 Russia 41 8 0 100 200 300 400 Source: IMF, WB

  10. US Household Balance Sheet 800% 150% Debt/Income 700% 130% 600% 500% 110% % of disposable income % of disposable income 400% 90% 300% Assets/Income Net Worth/Income 200% Debt/Income 70% 100% 50% 0% Dec-80 Dec-85 Dec-90 Dec-05 Dec-95 Dec-00 Mar-07 Mar-97 Mar-57 Mar-67 Mar-77 Mar-87 Source: Bloomberg, Federal Reserve

  11. European sovereign risk will not disappear Government Debt/GDP (%) 148 150 121 2007 2013 100 92 92 100 77 77 50 0 Germany Spain France Portugal Ireland Italy Greece Source: Barclays Capital

  12. Theme 4: Uncertainty • Policymakers and investors in uncharted territory • Quantitative easing & experimental monetary policy • Public debt levels & sovereign debt crises • Global coordination/global rebalancing • Perceived large tail-risks • How quickly things can change: “In due course, however, as the expansion matures the Federal Reserve will need to begin to tighten monetary policy conditions to prevent the development of inflationary pressures”. Ben Bernanke, “Federal Reserve’s exit strategy”, speech 10th February, 2010

  13. Asset Allocation Update November 2010

  14. Asset Allocation Replica Asset Management Fund Asset Allocation (21/10/10) Equities - US 10 16 Equities - EU Equityrange 0% - 50% 12 Equities - Japan Equities - Asia ex-Jap 14 Corporate Bonds 15 DM - Government Bonds fixed income range 0% - 80% 4 EM - Government Bonds 15 Cash/Equivalents 14 Source: Ashburton

  15. Asset Management Funds: asset allocation update • Equity exposure has been effectively at limit since end-August • Equity exposure diversified globally; high exposure to China • Government bond exposure concentrated in long-end US, UK curves to exploit term premia • Long-dated TIPS exposure closed out in October following decline in real yields • High correlations and volatility make currency markets challenging. Long-term belief that the euro will decline from current levels against a currency basket.

  16. 1.6 1.5 1.4 1.2 1 1 0.8 0.5 0.6 % % 0 0.4 0.2 -0.5 0 -0.2 -1 -0.4 Mar-96 Mar-99 Mar-02 Mar-05 Mar-08 -1.5 Mar-96 Mar-99 Mar-02 Mar-05 Mar-08 US/UK 30yrs: risk premium is high US 30yr yield less 10yr yield UK 30yr yield less 10yr yield Source: Bloomberg

  17. Equities: EM re-rating argues for global diversification DM cheap EM cheap Source: JP Morgan, Datastream, MSCI

  18. Conclusion • Global equities are priced to deliver attractive returns. We maintain diversified exposure across DM and EM. • Bottom-up corporate fundamentals strong • Macro/policy risks likely to cause periodic volatility & trading opportunities – be sceptical of extreme views/price action • Relative value in long-dated US and UK government bonds

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