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Broadgate: Weekly Briefing 16/12

16 December 2013

U.S. – A cross-party Congressional budget committee convened this week, following the October government shutdown, & has reached an agreement on the federal budget.

The proposed deal funds the government for two years and reduces the federal deficit by up to $23bn.

It also avoids another government shutdown on 15 January when government funding is scheduled to run out.

The new deal “cuts spending in a smarter way,” Republican Congressman Paul Ryan said on Tuesday.

Markets – Global equities slipped to a one-month low on Thursday after a provisional budget deal in Washington prompted speculation the Federal Reserve policymakers will start trimming its stimulus as early as next week.

“The chances of them doing something next week are certainly rising,” said Paul Kavanagh, a partner at Killik.

U.S. data releases were being watched for clues on the strength of the economy, since greater strength means the Fed can act with less risk of curtailing economic growth.

This week’s budget pact eased some of the fiscal drag on the U.S. economy and improved the chances the Fed’s will scale back its bond-buying operations at the December 17-18 meeting. The stimulus program has helped equities to hit multi-year highs.

“There have been reasonable gains this year for long-only investors,” Kavanagh said. “And what (Fed policymakers) probably don’t want to see is too much volatility or certainly too much downside, and I suspect there are moves to try and protect the returns at the moment.”

Markets – Mainstream emerging markets may have remained thoroughly out of favour this year, with developed nations driving global equity returns, but surprises can still be found in the top ten markets of 2013.

Few would be surprised to see the Japanese market among the top ten peformers this year, given the impact Abenomics has had in reversing investors’ long-bearish sentiment.

More notable, perhaps, is that the top-performing single country market this year is Venezuela – for the second year in a row.

The Venezuelan stock market is up an impressive 452% year to date in sterling terms, according to Morningstar, despite a year of political uncertainty for the country – most notably through a devaluation of its currency in February and the death of president Hugo Chavez in March.

Equity market rises and economic improvement do not always go hand in hand, but a look at the rest of the top ten may point to changing fortunes for the global economy.

Though Greece, for example, remains mired in a deep recession, the three European countries in the list are those that arguably suffered most in the crisis: Iceland, Ireland, and Greece itself.

Fund managers are also beginning to move back into these nations: whether it be Greek banks or the Irish stocks which comprise the biggest country overweight in the top-performing Ignis European Smaller Companies fund.

Elsewhere, the underperformance of Apple has not stopped the tech-focused Nasdaq index from returning over 30% this year as U.S. markets continue to surge ahead.

Mexico – Mexico’s Senate has approved a measure to open the state-run oil fields to foreign investment for the first time in 75 years.

The measure would let private firms explore and extract oil and gas with state-run firm Pemex, and take a share of the profits. It will now move to the lower house to be voted on, where it is expected to pass.

President Enrique Pena Nieto wrote on Twitter that it was “a significant decision for Mexico”.

Mr Pena Nieto said it was necessary to modernise Mexico’s energy sector and increase oil production, which has dropped from 3.4 million barrels per day in 2004 to the current rate of 2.5 million barrels per day.

However, the left-wing Democratic Revolution Party said it was a submission to U.S. oil companies, and protesters set up camp outside the Senate, they say the move strikes at the heart of Mexico’s identity.

Japan – Tokyo has been named as next year’s top spot for real estate investment in Asia-Pacific in the wake of the Japanese government’s aggressive economic reforms.

Tokyo, described as a “magnet” for investors, was followed by Shanghai and Jakarta as the best spots to invest in the Emerging Trends in Real Estate Asia-Pacific report, compiled annually by the Urban Land Institute (ULI) and Price Waterhouse Cooper.

The apparent economic renaissance of Tokyo, which came 13th in the same report last year, comes after Shinzo Abe, the prime minister, spearheaded a raft of economic reforms of so-called “Abenomics” aimed at bringing to an end a decades-long deflationary spiral.

Transaction volume in Tokyo significantly gathered pace in 2013, according to the report, with sales of office, warehouse and retail space up 85% to US$20bn in the first half of this year, the biggest rise in five years.

As one foreign developer told the report: “We’re very bullish on Tokyo, particularly around refurbishing existing assets, focusing on energy and sustainability and repositioning from a B- to an A-grade.”

Opinions – BlackRock, the world’s biggest investor, has warned that central banks are poised to tighten monetary policy in the Anglo-Saxon countries and China, advising clients to be ready to pull out of global stock markets at any sign of serious trouble.

“2014 is the year to squeeze more juice out of risk assets. But investors should be ready to discard the fruit when it starts running dry,” said Ewen Cameron Watt, chief strategist for the BlackRock Investment Institute.

The group said in its 2014 Investment Outlook that investors have “jumped on the momentum train, effectively betting yesterday’s strategy will win again tomorrow”, but vanishing liquidity could leave them trapped if the mood changes. “Beware of traffic jams: easy to get into, hard to get out of,” it said.

BlackRock, which manages funds worth $4.1tn, said the global system is still in the doldrums and far from achieving sustainable recovery. “The eurozone, Japan and emerging markets are all trying to export their way out of trouble. Who is going to buy all this stuff? The maths does not work. Not everybody’s currency can fall at once,” it said.

The report said Wall Street is not in a bubble yet but BlackRock’s risk indicator – measuring “enterprise value” against earnings, adjusted for volatility – is almost as high as it was just before the dotcom bust. “The ratio of the two is the key. High valuations combined with low volatility can make for a lethal mix. This market gauge sounded the alarm well before the Great Financial Crisis,” it said.

Companies – Samsung Electronics Co. built the world’s largest smartphone business by tapping China’s cheap and abundant workforce. It will soon, however, shift its output to Vietnam to secure even lower wages and defend profit margins as growth in sales of high-end handsets slows.

By the time a new $2bn plant reaches full production in 2015, China’s communist neighbor will be making more than 40% of the phones that generate the majority of Samsung’s operating profit. The Suwon, South Korea-based company’s second handset factory in Vietnam is due to begin operations in February, according to a Nov. 22 statement on the local government’s website.

“The trend of companies shifting to Vietnam from China will likely accelerate for at least two to three years, largely because of China’s higher labor costs,” said Lee Jung Soon, who leads a business-incubation team of the Korea Trade-Investment Promotion Agency in Ho Chi Minh City. “Vietnam is really aggressive in fostering industries now.”

Spotlight on: Themes for 2014

Philip Saunders, portfolio manager of the the Investec Diversified Growth fund, has outlined four investment themes for investors to consider in 2014.

1) Avoid mega-cap dinosaurs

Market indices around the world are dominated by companies that have seen better days. They look cheap and offer tempting dividend yields but often face serious strategic challenges. Some will prosper and some rejuvenate themselves, but most are likely to continue to languish.

Small caps, mid caps and the smaller large caps are likely to go on outperforming. We prefer quality growth stocks, especially in the cyclical sectors, well-judged recovery stocks and small- and mid-cap stocks around the world.

2) Buy emerging market equities and debt on weakness

Emerging markets have been disappointing in 2013, with slower growth and weakening currencies leading to sustained downgrades to forecasts of corporate earnings growth.

This, in turn, has undermined equity valuations. Valuations are now attractive in both absolute terms and relative to developed markets but earnings forecasts continue to be reduced. Bond yields have backed up, partly in tandem with developed market yields, partly due to domestic problems.

Some currencies have fallen to attractive levels. An emerging markets crisis, marked by currency collapses, capital flight, much higher interest rates and a recession, is highly unlikely. but markets could continue to be dull in the short term. Nevertheless, a strategy of building long-term equity exposure during the year is likely to be well-rewarded, while further currency weakness could provide an attractive opportunity to invest in emerging markets.

3) Quality and ‘contrarian’ stocks should continue to outperform

Many investors in 2013 made the mistake of assuming that ‘quality’ was synonymous with large-cap defensive sectors. Quality implies consistent business strategies, durable market opportunity, long term growth, well-managed finances and high returns on invested capital.

These characteristics are to be found in all sectors, both cyclical and non-cyclical.

Typically, quality stocks are not cheap, but reassuringly expensive; nevertheless sustained long-term growth ensures attractive investor returns. ‘Contrarian’ investing in out-of-favour stocks and sectors can also be highly rewarding, but the investment world is full of value traps; stocks that appear cheap and pay generous dividends but whose businesses are in long-term decline.

Turnaround stocks are cheap because they are high risk but value realisation depends on business turnaround if investors are to regain confidence. The world is full of value investors, but there are many fewer prepared to pay up for quality or with the courage to identify and back companies with real turnaround potential.

4) Resource equities are about value added, not commodity prices

Commodity prices continue to trade sideways, the performance of the energy sector has improved but mining shares, especially precious metal miners, have languished. The problem for energy companies has been replacing reserves at reasonable cost but for miners it has been scaling back overambitious expansion plans.

Reducing costs, improving license terms and returning cash to investors have been key across both sectors. Investors continue to shun mining stocks, despite compelling cashflow valuations. They favour integrated majors, many of which are strategically challenged, rather than the growth companies. This creates great opportunities for active stock-picking.


The information set out herein has been obtained from various public sources and is by way of information only. Broadgate Financial can accept no liability of any sort in relation thereto and readers should obtain their own verification of any statement before making any decision which may have any financial or other impact.

Neither the information nor the opinions herein constitute, or are they to be construed as, an offer or a solicitation of an offer to buy or sell investments.