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2017 Exceeding expectations

From a macro perspective, we believe 2017 is positioned to be a memorable year, with global growth exceeding rather than disappointing consensus expectations for a change.

Straws in the wind

Going into 2016, there were clearly legitimate concerns about the sustainability of the recovery. These stemmed from a contraction in US manufacturing activity, which had, in turn, caused US growth to disappoint against the background of continued weakness in the developing world.

However, some important ‘straws in the wind’ had already started to emerge to indicate that perhaps it wasn’t all doom and gloom. In the final quarter of 2015, industrial commodity prices started to rally from their lows. The continuing weakness of oil prices tended to obscure a more general commodity rebound, but this was very much a lagging indicator. Demand for oil remained solid and prices eventually rallied convincingly off their lows.

Figure 1: Oil price over last year

Source: Bloomberg, Brent crude oil price per barrel (US dollar), 12 months to 1 November 2016. [could show industrial metals (RIND) and oil prices indicating their respective lows

Aggressive monetary and fiscal loosening in China started to bear fruit, arresting the deceleration of growth in that key economy. Recent US evidence points to a moderately improving growth picture, while economic conditions in both Europe and Japan are proving resilient.

Stagnation or recovery?

So will the forces of secular stagnation1 yet again thwart a meaningful rebound in global growth? Certainly, severe headwinds persist. Levels of debt and capacity remain uncomfortably high, final demand anaemic and the factors causing unusually weak productivity growth are likely to endure. However, the easing of financial conditions across the developing world, which began earlier in 2016, is beginning to foster a turnaround in growth rates. This has the potential to spark the first synchronised rebound in global growth since the recovery of 2010. Although any revival of growth would be extremely unlikely to match that which began in 2000, it would represent an important potential change in direction.

"We see a growing probability that improving credit metrics, steady consumer spending and an expected improvement in capital spending (albeit off a low base), could produce a period of relief from the longer-term global economic stagnation."

We see a growing probability that improving credit metrics, steady consumer spending and an expected improvement in capital spending (albeit off a low base), could produce a period of relief from the longer-term global economic stagnation. Naturally, such a development would be contingent on the performance of China’s economy and, notwithstanding the longer term structural issues, we expect the impact of simulative fiscal and monetary policy expansionary to stabilise growth for longer than the consensus currently expects.

Other key emerging markets, such as Brazil, continue to reverse previous recessionary impulses, while reform-orientated countries, such as India and Indonesia, are also well positioned to maintain their growth rates in the year ahead.

Growth, inflation and interest rates

What of the impact on inflation and interest rates? In our view, the secular context looks set to remain disinflationary. However, outright concerns about deflation should ease. Inflation rates could pick up more sharply than anticipated in some key economies, such as the US, as the effects of weak oil prices fall away.

Monetary policy mixes are likely to shift as well, as the negative effects of excessive reliance on monetary policy become more widely appreciated.

Monetary policy mixes are likely to shift as well, as the negative effects of excessive reliance on monetary policy become more widely appreciated. This, in turn, points to a greater reliance on fiscal policy to promote growth, despite high government debt levels. Although the adjustment may be relatively modest, it would represent an important change in direction from recent trends. Paradoxically, this could prove to be positive for sentiment and growth. While real interest rates are likely to remain low by past comparison, this need not be as chronically low as investors had come to believe would be the case by mid-2016.

Extending the growth cycle?

The pricing in of higher interest rates and steeper yield curves may initially prove uncomfortable as the adjustment takes place, but with the exception of certain hot spots of leverage, the magnitude of the change under our central scenario is still likely to be relatively benign. We believe that receding recession concerns, the prospects of a further extension of the current cycle and a more synchronised growth environment, should combine to ultimately lend support to growth assets.

1 Secular stagnation: a condition of negligible or no economic growth in a market-based economy”. ‘Secular’ in this context, means much longer term or structural, than a short-term business cycle slowdown.

Where's the growth?

Looking into 2017, our primary investment thesis is based on the belief that investors are underestimating the prospect of stronger growth and inflation in the US economy relative to the rest of the world over the next year.

Where's the growth?

Global growth has been weaker than many policymakers and market participants expected following the 2008 global financial crisis. The deleveraging cycle in the developed world and the Chinese economy’s transition to a lower-growth path have both acted as major headwinds to the global economy. In response, central banks have undertaken extraordinary policy measures to provide support, which, in turn, have strongly influenced the direction of asset prices.

Pessimism is in the price

We believe the global economy’s structural issues will remain with us for some years to come, resulting in a continuation of the low-growth environment. However, this has largely been accepted by investors. Looking into 2017, our primary investment thesis is based on the belief that investors are underestimating the prospect of stronger growth and inflation in the US economy relative to the rest of the world over the next year.

“We see positive trends emerging in US credit growth and the housing market in particular”

Following an easing of financial conditions over the past year, with government bond yields and mortgage rates having declined significantly, we see positive trends emerging in US credit growth and the housing market in particular. In our view, this implies higher longer-dated US bond yields and a stronger US dollar looking forward. As a result, we believe that many of the areas that have struggled through 2016 appear to offer some of the most attractive opportunities.

Sectors are diverging

The large decline in longer-dated government bond yields this year resulted in a meaningful division within equity markets. This has been particularly prevalent in the US market where, although the S&P 500 has made little overall progress, there has been a high level of dispersion in performance between those sectors that gained from lower bond yields and those that lost.

US banking bounce?

An example would be the performance of US banks relative to utility companies, with the former underperforming significantly. While a stronger US dollar and higher bond yields may act as a headwind to US equities more broadly, we believe there is scope for a rotation within the equity market and consequently we have been sellers of US utility companies and buyers of US banks.

Greenback revival?

We have also been sellers of government bonds and have been reinitiating long US dollar positions against the currencies of countries where we expect monetary policy to remain loose or even be eased further, such as the Korean won, Taiwanese dollar, New Zealand dollar and Japanese yen. With the exception of the latter, these currency positions are designed to act as defensive positions at a time when government bonds may struggle to perform.


BOJ equity play?

We are also rebuilding positions in Japanese equities in some portfolios, an area where investors have lost faith over the past year. A recent adjustment to the Bank of Japan’s policy, seeking to maintain 10-year Japanese government bond yields close to 0%, implies growing policy divergence between the US and Japan, should our central thesis of higher US yields play out. We believe this will be supportive of Japanese equities, where valuations appear once again attractive.

Populism, protectionism and partisanship: political challenges to markets

The risks we expect to be closely monitoring throughout the coming year include rising populism, growing protectionism and increasing criticism of major central bank policy, which are all linked to a broader challenge to growing inequality. Increasing criticism of central bank policy is of particular concern.

“If central banks reduce stimulus without fiscal support growth assets will likely be at risk”

Should major central banks reduce stimulus without corresponding fiscal support then growth assets will likely be at risk, given the support that central bank liquidity provision has provided in recent years. We will also be monitoring political risk, such as that represented by German and French elections, while the evolution of Chinese stimulus trends also poses a risk.

Positioning for 2017: flexibility is the key

Although we believe there are a number of compelling opportunities in 2017, we acknowledge that valuations across the majority of asset classes are not as attractive as they have been in recent years, as we remain in an environment of structurally low growth with economies more susceptible to shocks. As a result, the overall risk level of our strategies will likely remain lower than would otherwise be true, were risk premia to be higher, and we will continue to use our flexibility to identify opportunities as they appear and to seek to protect capital as risks emerge.

'Multi-asset' not 'multi-silo'

Traditional multi-asset investing appears to be stuck, dominated by a silo-based approach, with distinct teams using different analytic frameworks researching each asset class in isolation. We argue for a more unified approach, combining top-down and bottom-up perspectives with a common framework for assessing and implementing opportunities across asset classes.

‘Multi-asset’, not ‘multi-silo’

Multi-asset has been reinvigorated over the past 15 years as it moved away from benchmarks and towards outcomes and solutions which are defined in terms of risk and return. In our view, there are three crucial elements to managing these strategies that characterise holistic multi-asset strategies, rather than the traditional approach of investing across silos of market risk:

  • The problem: silos of beta
  • A solution: a common framework for assessing opportunities
  • Putting theory into practice

The problem: Silos of beta

The historical view of how to deliver these outcomes rests on an understanding of asset allocation as the fundamental driver of returns. Based on this view, a multi-asset team would traditionally construct portfolios from discrete ‘blocks of beta’ – essentially packaged market risk that is then implemented, either actively or passively. We believe this approach is too blunt and lacks precision. We prefer to construct customised baskets of securities designed to capture focused investment themes.

The silos of beta approach has perhaps dominated multi-asset investing because some managers might find it easier and less complex, not because it best serves investors. This is particularly the case for strategies that target outcomes, such as a specific income, growth or risk goals, rather than benchmark-relative returns.

In the case of asset classes such as equities, high conviction unconstrained portfolios are usually constructed from a ‘bottom-up’ perspective with stock-pickers focused on targeted characteristics of individual companies. At the other end of the scale, are multi-factor equity portfolios which are designed to capture the returns from different premia. And yet the world of multi-asset has become stuck in a rut of allocating blocks of bluntly defined risk. The narrative around these decisions was often top-down with the subsequent implementation conducted by specialist teams or passively.

A solution: a common framework for assessing opportunities

Multi-asset has traditionally used a silo-based approach with research conducted by individual asset class (or risk premia) teams each using a distinct analytical framework. A more unified approach combines the signals from both top-down and bottom-up perspectives with a common framework for assessing opportunities across asset classes implemented by a multi-asset team.

A combined research framework can cut through this complexity, getting to the heart of understanding the risk premia that we are paid across the range of different sources. We describe these risk premia below and categorise them within our Compelling Forces™ framework. Our ‘holistic’, or unified approach seeks to highlight opportunities on a consistent basis across asset classes, capital structures and risk premia to construct positions to implement our views precisely. Importantly, analysis is conducted from security level up and can be combined with cyclical views.

Case study: Putting theory into practice

Although passive index implementation is cheap and efficient, it can also be a very blunt way to invest. To see this approach in action, we refer to our view on emerging markets over recent years. Our strategies generally avoided emerging markets from about 2013, but earlier this year we implemented an emerging market ex-Asia equity basket (EMEA), driven by improving quality and momentum premia scores alongside existing attractive valuations.

However, there was a clear regional differentiation with Latin America and EMEA offering the most balanced opportunities (see Figure 1, overleaf). The multi-asset equity research group created a basket of approximately 100 emerging market stocks excluding Asia, removing positions that were being flagged negatively on environmental, social and governance (ESG) grounds. This basket offered a higher net profit margin and return on equity than a passive implementation. The basket also provided a more attractive valuation level with a price-to-earnings ratio, a dividend yield and implicit currency carry than a big passive ‘beta block’. This bottom-up view chimed with our positive macro perspective on emerging markets.

Figure 1: Regional factor scores: Emerging markets

Source: Investec Asset Management, 31.05.16.

Sustainable investing: not just about returns

As ESG issues take centre stage in 2017, we ask should investors be looking at whether including ESG criteria improves measures other than profitability and is there evidence that the risks from ESG factors are increasing?

Sustainable investing at inflection point

In our 2016 Investment Views we stated that environmental, social and governance (ESG) investing was at an inflection point and would move centre stage for many investors. Indeed, an October 2015 ruling by the US Labor Department, which permitted the managers of pension funds and 401(k) plans to evaluate ESG factors as a part of their investment process, represented a key turning point for sustainable investing.

While investors have seen ESG criteria as increasingly important for reasons of best practice, or because they or their clients care about these issues, the evidence that incorporating an ESG perspective improves returns has been mixed. Indeed, our own internal study using external ratings on companies didn’t find any evidence of improvement of returns from buying the best ESG companies, but at the same time we found that excluding the worst did not detract from performance.

However, we ask:

  • Should investors be looking at whether including ESG criteria improves measures other than investment returns?
  • Is there evidence that the risks attached to ESG factors are increasing?
  • Is the nature of sustainable investing itself changing?

ESG factors: exclusive versus inclusive approaches

A recent study by Bernstein Research* examined whether ESG factors – measured using metrics such as greenhouse gas intensity, training per employee and number of independent directors – improved performance, profitability or volatility using S&P 500 data from 2008-2015. The study analysed the results from excluding the ‘bad’ companies, focusing on the ‘best’ 20% of companies and focusing on those companies that disclosed data. It then compared these results to the broader market. The research revealed that one-year forward returns did not show a consistent improvement compared to the market.

But this isn’t the whole story, because on an individual factor basis:

  • Environmental factors did improve profitability as measured by forward return on equity (ROE) and profitability as measured by forward return on invested capital (ROIC), while reducing risk (volatility).
  • Social factors led to an improvement in risk.
  • Governance factors exhibited perhaps the mildest affect with a slight improvement in risk.

Overall, the inclusion-based approach scored more highly than the exclusion-based approach. This suggests that ESG may play a useful role in portfolio construction, especially given the potential for improving risk characteristics.

*Fund Management Strategy: ESG Mandates by Bernstein Research - 8 September 2016

Are the risks from ESG factors increasing?


However, the 2008-2015 Bernstein Research might not be a good guide to the future. Change is ever-present and all three elements of ESG are in a state of transition. In July 2016, Singapore’s Changi Airport announced that it would build its new terminal 5.5 meters above sea level, which is higher than the level currently required to protect against flooding. This indicates that construction may face higher costs in the short term to be more sustainable for the longer term.


Meanwhile, social tensions are rising and the result of the UK referendum on membership of the EU can be seen as a protest against growing economic inequality. When John Stumpf resigned as chairman and chief executive officer at Wells Fargo after the scandal concerning false accounts being set up by bank employees, the bank clawed back 25% of his compensation from the previous ten years. Although the stock he took with him was still considerable, this set an unusual precedent for tougher governance, in contrast with how most bank chief executive officers were treated after the 2008 global financial crisis. These anecdotes indicate what we mean by ESG itself is changing.

ESG and investing: a middle way?

Fund management companies have differentiated between how they view their own sustainability – the desire actively to reduce their environmental impact and ‘do better’ – and how they evaluate the companies in which they invest. Although the role of ‘impact’ investing is growing, most managers are seeking to understand, and price in, ESG risks. Where appropriate, they seek change by engaging with a company but would not exclude it as an investment.

“Where appropriate, fund managers may seek change by engaging with a company, rather than exclude it as an investment.”

However, in the future, fund management companies may well take a middle path. In cases where ESG concerns are a significant issue, but the company in which they invest does not want to engage, they may decide to sell the holding regardless of the value that company offers. This would require a more active interpretation of ESG criteria and would represent a subtle, but fundamental, change of approach.

Important information

This communication is for institutional investors and fi nancial advisors only. It is not to be distributed to the public or within a country where such distribution would be contrary to applicable law or regulations. If you are a private/retail investor and receive it as part of a general circulation, please contact us at

The information may discuss general market activity or industry trends and is not intended to be relied upon as a forecast, research or investment advice. The economic and market views presented herein refl ect Investec Asset Management’s (‘Investec’) judgment as at the date shown and are subject to change without notice. The value of investments, and any income generated from them, can go down as well as up and will be affected by changes in interest rates, exchange rates, general market conditions and other political, social and economic developments, as well as by specifi c matters relating to the assets invested in.

There is no guarantee that views and opinions expressed will be correct, and Investec’s intentions to buy or sell particular securities in the future may change. The investment views, analysis and market opinions expressed may not refl ect those of Investec as a whole, and different views may be expressed based on different investment objectives. Investec has prepared this communication based on internally developed data, public and third party sources. Although we believe the information obtained from public and third party sources to be reliable, we have not independently verifi ed it, and we cannot guarantee its accuracy or completeness. Investec’s internal data may not be audited. Any decision to invest in securities or strategies described herein should be made after reviewing the prospectus and conducting such investigation as an investor deems necessary and consulting its own legal, accounting and tax advisors in order to make an independent determination of suitability and consequences of such an investment. This material does not purport to be a complete summary of all the risks associated with this Strategy. A description of risks associated with this Strategy can be found in the Prospectus or other disclosure document for the fund or Strategy. Copies of such documents are available free of charge upon request. Investec does not provide legal or tax advice. Prospective investors should consult their tax advisors before making tax-related investment decisions.

In the U.S., this communication should only be read by institutional investors, professional financial advisers and their eligible clients, but must not be distributed to U.S. persons apart from the aforementioned recipients. In Australia, this document is provided for general information only to wholesale clients (as defi ned in the Corporations Act 2001). In Hong Kong, this document is intended solely for the use of the person to whom it has been delivered and is not to be reproduced or distributed to any other persons; this document shall be delivered to institutional and professional investors only. It is issued by Investec Asset Management Hong Kong Limited and has not been reviewed by the Securities and Futures Commission of Hong Kong (SFC). The Company’s website has not been reviewed by the SFC and may contain information with respect to non-SFC authorised funds which are not available to the public of Hong Kong. In Singapore, this document is for professional investors, professional fi nancial advisors and institutional investors only. In Indonesia, Thailand, The Philippines, Brunei, Malaysia and Vietnam this document is provided in a private and confi dential manner to institutional investors only. In South Africa, Investec Asset Management (Pty) Ltd. is an authorised fi nancial services provider. Investec Asset Management Botswana, Unit 5, Plot 64511, Fairgrounds, Gaborone, Botswana, is regulated by the Non-Bank Financial Institutions Regulatory Authority. In Namibia, Investec Asset Management Namibia (Pty) Ltd is regulated by the Namibia Financial Institutions Supervisory Authority.

Except as otherwise authorised, this information may not be shown, copied, transmitted, or otherwise given to any third party without Investec’s prior written consent. © 2016 Investec Asset Management. All rights reserved. Issued by Investec Asset Management, December 2016. Investment Team.

There is no assurance that the persons referenced herein will continue to be involved with investing for this Strategy or Fund, or that other persons not identifi ed herein will become involved with investing assets for the Manager or assets of the Strategy or the Fund at any time without notice.

Investment process

Any description or information regarding investment process or strategies is provided for illustrative purposes only, may not be fully indicative of any present or future investments and may be changed at the discretion of the manager without notice. References to specifi c investments, strategies or investment vehicles are for illustrative purposes only and should not be relied upon as a recommendation to purchase or sell such investments or to engage in any particular Strategy. Portfolio data is expected to change and there is no assurance that the actual portfolio will remain as described herein. There is no assurance that the investments presented will be available in the future at the levels presented, with the same characteristics or be available at all. Past performance is no guarantee of future results and has no bearing upon the ability of the Manager to construct the illustrative portfolio and implement its investment strategy or investment objective.


Indices are shown for illustrative purposes only, are unmanaged and do not take into account market conditions or the costs associated with investing. Further, the manager’s strategy may deploy investment techniques and instruments not used to generate Index performance. For this reason, the performance of the manager and the Indices are not directly comparable. MSCI data is sourced from MSCI Inc. MSCI makes no express or implied warranties or representations and shall have no liability whatsoever with respect to any MSCI data contained herein. The MSCI data may not be further redistributed or used as a basis for other indices or any securities or financial products. This report is not approved, endorsed, reviewed or produced by MSCI. None of the MSCI data is intended to constitute investment advice or a recommendation to make (or refrain from making) any kind of investment decision and may not be relied on as such.