Vip Call US 📞 7738631006 ✅Call Girls In Sakinaka ( Mumbai )
“Importance of asset allocation in a low yield environment” – Element Investments
1. Senate Group
The importance of asset allocation
in the current low yield environment
René Prinsloo – Portfolio Manager
Jeléze Hattingh – Portfolio Manager
14 March 2013
2. René Prinsloo
Portfolio Manager
8 years’ industry experience
B Sc Hons (Act Sci)
Lecturer at Stellenbosch University
Glacier, Investment Analyst
FFA - Actuary
CFA
Joined Element in November 2007
Appointed Portfolio Manager in June 2012
2
3. Agenda
The Importance of Asset Allocation
Overview of the Current Low Yield Environment
Element Real Income Fund
Impact of Asset Allocation decisions on Performance
Current Asset Allocation
Macro factors affecting portfolio positioning
3
5. Asset Allocation: The most important decision?
One way of breaking down the performance of a balanced fund:
Asset classes exposed to over a period (strategic AA)
“Asset
Allocation”
Switches between asset classes over period (tactical AA)
Instruments held in portfolio
“Stock Picking”
Switches between instruments
Secondary considerations:
Fees, taxes, etc.
5
6. Reasons why AA may be most important
1. Law of large numbers
6
7. Law of large numbers
In layman’s terms:
The more (independent) bets I take, the more certain the
combined outcome
7
8. Gambling example
Which of these two is a better business?
Venetian Macao:
Largest Casino in the world
3400 slot machines
800 gambling tables
Golden Valley Casino, Worcester
One of the smaller casinos in Sun
International’s stable
220 slot machines
6 gambling tables
8
9. Gambling example
With 800 gambling tables, this casino is likely to make a steady profit every night
Should experience very little change in profit margin from one night to the next
Lots of independent bets => certain outcome
9
10. Gambling example
Small casino example:
Some nights the casino will make a large (compared to what was gambled) profit
and on other nights a large loss
Difficult to say if the casino will make or lose money on any given night
10
11. Insurance example
If you had to provide life insurance to one of these two crowds,
which would you choose?
As a life insurer:
The more people you insure, the less your uncertainty
Statistically, this type of outcome has a variance that is proportional to
1 ÷ √n
11
12. Investment example
Consider the following examples:
A manager of an equity fund who chooses between 100 stocks:
Assume 60% of his choices are good
He will likely have a steady, consistent outperformance of the
benchmark
A manager of a balanced fund chooses between 6 asset classes
Assume he also makes the right decision 60% of the time
Out or under-performance of benchmark likely to vary much
more
Bottom line: Asset allocation is a choice between few
alternative asset classes, so NB to get choice right
12
13. Reasons why AA may be most important
1. Law of large numbers
2. Performance between asset classes is more different than
performance within asset classes
13
14. Correlations between asset classes
100%
Asset Class Correlations, Monthly, 2000 to 2012 50%
SA SA SA Foreign
SA Cash
Equities Property Bonds Balanced*
SA Equities 100% 28% 2% -19% 38%
SA Property 28% 100% 61% -3% -18% 0%
SA Bonds 2% 61% 100% 13% -30%
SA Cash -19% -3% 13% 100% -16%
Foreign Balanced* 38% -18% -30% -16% 100%
-50%
-100%
Average Correlation: 6%
14
16. Performance between asset classes is more
different than performance within asset classes
In bull markets:
bear markets:
Most equities should rise
fall
Not immediately obvious how other
asset classes will perform
Decision to be in equities is more
avoid equities is more
important than which equities to
avoid
be in
16
17. Reasons why AA may be most important
1. Law of large numbers
2. Performance between asset classes is more different than
performance within asset classes
3. Conforms with intuition
17
18. The intuitive reason
Over some periods asset classes give very similar returns
Here stock picking will be of greater importance
Over other periods asset classes give very different returns
Here asset allocation will be more important 18
19. The intuitive reason
Asset classes, however, rarely have the same volatility
So if you are looking at both risk and returns at the same
time, different asset classes almost always deliver different
outcomes
19
20. Reasons why AA may be most important
1. Law of large numbers
2. Performance between asset classes is more different than
performance within asset classes
3. Conforms with intuition
4. Impact of asset allocation decisions can be material
20
24. Reasons why AA may be most important
1. Law of large numbers
2. Performance between asset classes is more different than
performance within asset classes
3. Conforms with intuition
4. Impact of asset allocation decisions can be material
5. Illustration by way of a simple example
24
25. By way of an example
Here we look at the period between June 2002 and June 2012
We consider the return and risk of a standard balanced fund over that time,
invested as follows:
50% SA Equities
10% SA Property
15% SA Bonds
10% SA Cash
10% Offshore Equities
2.5% Offshore Bonds
2.5% Offshore Cash
We use standard benchmarks (e.g. FTSE/JSE All Share Index) to calculate
returns
We compare this standard balanced fund with what would have been achieved
by:
Altering the asset allocation
Having been able to choose the best manager for a specific asset class
25
26. By way of an example
Foreign Equities:->10%-> 12.5%
SA Equities: 15%2.5% 40%20%
Cash:
Bonds: 10%2.5%25% 0%
Property: 50% ->->->0%
Cash:
Bonds:10% 20% 12.5%
->-> 60%
0% 20%
5% 0%
0% Foreign Equities: IndexBestBest
SA Equities: Index IndexBestBest
Cash:
Bonds: Index -> Best -> Manager
Property: ALSI->->->Manager
Cash: Index Best Manager
Bonds:Index Worst Worst
->Worst Worst
->Worst
WorstManager
Worst
Best
Manager
26
27. Reasons why AA may be most important
1. Law of large numbers
2. Performance between asset classes is more different than
performance within asset classes
3. Conforms with intuition
4. Impact of asset allocation decisions can be material
5. Illustration by way of a simple example
6. Academic studies generally suggest that this is the case
27
28. Academic studies on the topic
“Determinants of Portfolio Performance” (& follow up), Brinson, Randolph
and Beebower, 1986
Effectively concluded that Strategic AA explains 94% of all
“Total Return Variation”, i.e. short-term performance
movements
“Does asset allocation policy explain 40, 90 or 100 percent of
performance?”, Ibbotson and Kaplan, 2000
Findings:
Explains 90% of short-term price movements
About 40% of the differences of fund performance over
long periods of time can be explained by this
It also explains about 100% of the level of fund
performance
28
29. Bottom line
When you control the asset allocation:
The choice of how much you invest in equities and
bonds is more important than choosing a equity
manager and a bond manager
Make the choice carefully as the outcome can be either very
good or bad
When your fund manager makes the asset allocation decision:
It is important that he gets it right, as it is likely the most
important investment decision!
So choose balanced fund managers carefully
29
31. Jeleze Hattingh
Portfolio Manager
M Sc (Cum Laude), CFA, CMT
Business Mathematics and Information
Quantitative Risk Management
8 years’ experience in financial services
Allan Gray Ltd – Fixed Interest
Credit Suisse and Deloitte Consulting (UK) – Risk Management
Standard Bank (SA) – Risk Management
Joined Element in May 2010
Appointed Portfolio Manager in June 2012
31
32. SA’s nominal yields back to the 1970s lows
Source: Element Investment Managers Research, I-Net, 8 March 2013
32
33. FRA Market no longer expecting rate cut
Source: I-Net, Element Investment Managers Research, 8 March 2013
33
35. SA Debt-to-GDP deteriorating…
South Africa: Debt as a % of GDP
65
60
55
50
45
Debt as a % of GDP
40
35
30
25
20
15
10
5
0
Net debt as % of GDP Total debt (net debt + provisions + contingent liabilities) as % of GDP
Source: National Treasury, RenCap, Element Investment Managers. Updated 27 February 2013
35
36. And SA also deteriorates against peers
“downgrade South Africa and upgrade Malaysia…(SA) appears to
have lost its safe haven status, as the mining crisis and weak consumer
credit threaten the pace of economic growth. Furthermore, the ZAR is
under pressure from twin deficits. The South African market is fully
valued …we do not think it is too late to sell the market.”
Source: National Treasury, 2013 Budget Review. Updated 27 February 2013
~ UBS Global EM Strategy Team – 12 March 2013
36
37. SA bonds relatively unattractive post FX hedge
Source: UBS Research, 6 March 2013
37
38. Majority of foreign bond inflows at stronger ZAR
Source: UBS Research, 6 March 2013
38
39. Is a repeat of 2012’s performance possible?
Source: Standard Bank Research, March 2013
39
41. Real yields are at record lows in SA
13y avg real yield = 3.4%
Source: I-Net, Element Investment Managers Research, 8 March 2013.
41
42. ILBs: Further potential re-rating limited
Real GDP expectations:
2013: 2.7%
2014: 3.5%
2015: 3.8%
Source: Element Investment Managers, March 2013
42
43. Difficult to beat CPI + 3%-7% targets
Real Yields: ILBs vs Property Dual Listed A-Shares
9.0 Dual Listed Property Shares:
8.5
• A-listed shares with “guaranteed” max 5%
SGA
8.0 or CPI distribution growth
7.5 • Income protection via preferred pay out
HPA
7.0 DIA structure
AWA
FFA
6.5 • Real spread pick-up between 5.5% - 7%
above gov ILBs
6.0
CPI + 3%-7% will be a difficult target to
5.5
beat in the short to medium-term with
5.0
conventional inflation protection ILBs.
Real Yield
4.5
4.0
3.5 ABLSI1 IV019
3.0
IV030
ABLI03
2.5
2.0
R189 FRS46
1.5
R202
1.0 R210
I2025
0.5 R197
R212
0.0
0 2 4 6 8 10 12 14 16 18
-0.5
R211
-1.0
Modified Duration
Gov ILBs Element ILB Property A-units
Source: Element Investment Managers Research, 8 March 2013.
43
44. “New” CPI + targets
Real yields are abnormally low due to global QE and loose monetary policies
This means that the domestic historical real risk free rate of 2% - 2.5% has
reduced to below 1%
Equities have also re-rated as a result of QE
Similarly, projected real returns are around a percentage point
lower than long-term averages
Implications:
A portfolio of assets that returned CPI + x% over the long term is more
likely to return CPI + x% - 1% going forward
I.e. to get CPI + x% you would now need to take more risk
44
45. Nominal expected return for equities
Currently 9.5% p.a. for 5y in
nominal terms
I.e. inflation + 3.5%
assuming 6% inflation
Source: Element Investment Managers Research, February 2013 45
47. Performance – Real Income Fund
Element Real Benchmark
As at 28 February 2013 Relative
Income Fund CPI + 3%
Annualised since Inception 11.7% 8.6% 3.1%
Annualised 10 Year 12.0% 8.6% 3.4%
Annualised 7 Year 8.2% 9.3% -1.1%
Annualised 5 Year 7.1% 8.9% -1.8%
Annualised 3 Year 10.0% 8.2% 1.8%
1 Year 15.1% 8.7% 6.4%
YTD 3.1% 1.6% 1.5%
Inception (30 November 2002) to 28 February 2013
Benchmark CPI + 3%
Current Fund Size R309,2m
48. Real Income: Performance & Risk
Performance Ranking* Ranking Quartile
Over 10 years 3/5 3rd
Over 7 years 6/7 4th
Over 5 years 15/17 4th
Over 3 years 11/22 2nd
Over 1 year 7/28 1st
Risk Stats over 3 years* Ranking Quartile
Sortino 8/22 2nd
Sharpe 12/22 3rd
Maximum drawdown 2/22 1st
*Comparing Real Income Fund to the Multi Asset - Low Equity Funds with a track record for the
history under review (excludes Fund of Funds)
At 28 February 2013
49. 3 Year Performance to Feb’13: AA Low Equity
Risk-Return for Multi-Asset Low Equity Peer Group
Data for the 3 years ending February 2013
16%
Prudential Inflation Plus
14%
Coronation Balanced Defensive
Nedgroup Investments Stable
Personal Trust Conservative Managed
Annualised Return
12% STANLIB Balanced Cautious
Old Mutual Real Income JM Busha MET Real Return Portfolio
Absa Absolute
Old Mutual Stable Growth
Element Real Income Momentum Conservative
10%
Lion of Africa MET Real Return CPI Plus Grindrod Endurance
Absa Inflation Beater 5 MiPlan IP Inflation Plus 3
Atlantic Real Income
Investec Cautious Managed
Contego B2 MET Protected Income Allan Gray Stable
BM: CPI+3%
Benchmark:
8% CPI+3% = 8.2%
Prescient Income Provider1
6% Old Mutual Capital Builder
Allan Gray Optimal
4%
1 2 3 4 5 6
- Bubble size represents relative current Fund size
- Includes all funds in ASISA Multi-Asset Low Equity Group (excl. FoF).
Risk
- Benchmark = CPI+3%. Bubble size is the average Fund size of the Peer Group, with the average Annualised Standard Deviation. (Annualised Standard Deviation)
*Comparing Element Real Income Fund to the Multi Asset - Low Equity Funds (excluding FoF)
Source: Morningstar Research, Element Investment Managers, March 2013.
50. 3 Year Performance to Jan’13: Active Managers
Value/Contrarian style
out of favour
Source: Alexander Forbes Asset Consultants, January 2013
50
51. 3 Year Performance to Feb’09: Active Managers
Value/Contrarian
style in favour
*Note: In August 2009 the company name was changed from Fraters Asset Management to Element Investment Managers.
Source: Alexander Forbes Asset Consultants, February 2009
51
52. Asset Allocation Funds Investment Process
Balanced Funds
Asset
Allocation
Equity Income Foreign
Income Implementation
Allocation
FRNs/ Cash Bonds ILBs Property Prefs
Security
Selection
Duration Credit Curve Shape Liquidity
52
55. Sun International & Shoprite: Earnings per Share
June Year ends:
2011: SUI (504cps)*, SHP (508cps)
2012: SUI (606cps)*, SHP (607cps)
1H13: SUI (720cps)*, SHP (642cps)
=> both companies earned exactly the same the
previous 2 years, with SUI earning 12% more in
the last 6 months.
* Adjusted HEPS < HEPS in graph
Source: I-Net, 12 March 2013
55
56. Sun International & Shoprite: Share Prices
Yet Shoprite’s share price is 67% higher than Sun International’s
- despite both companies earning the same for the previous 2
years, and SUI earning more in the last 6months!
Material relative valuation differentials = opportunity
Source: I-Net, 12 March 2013
56
57. Further drill down into non-equity holdings
Non-Equity Asset Class % of Non-Equity % of Fund
Preference Shares 6 4
MMkt incl. Cash 10 6
Floating Rate Notes 36 24
Total Bonds 22 14
Nominal Bonds 8 5
Hedged Foreign Bonds 2 1
Net Long Foreign Bonds 13 8
ILBs 10 6
Listed Property 17 11
Total 100 66
At 28 February 2013
Holdings for Element Real Income Fund 57
58. Active management of Foreign Cash
Active management of foreign income is a material differentiator
Leverage internal knowledge of domestic companies that issue
in foreign currencies to enhance yield.
Have the option to hedge out currency risk depending on the
underlying exposure
% of
Exposure TRR* of
Code Issuer foreign Currency TRR* YTM Maturity
Currency ALBI
income
ABLSJ6 African Bank 7% USD USD 48% 21% 5.3% Jun 16
OLDMUT5 Old Mutual 35% EUR USD 28% 15% 7.8% Perpetual
Aquarius
AQPAU15 17% USD USD 54% 4% 11.2% Dec 15
Platinum
Edcon
EDCONF614 18% EUR USD 13% 4% 3.9% Jun 14
Holdings
Edcon
EDC615 9% EUR USD 16% 4% 10.9% Jun 15
Holdings
Redefine
RIN 14% GBP GBP 27% 3% DY: 10% N/A
International
100%
* TRR in ZAR, since date of first purchase (not annualised).
At 28 February 2013 58
59. The cyclicality of investor emotions…
Richemont
SABMiller
Retailers
Platinum/Gold shares
Resources 59
60. … as applied to the S&P 500 index
Source: Advisor Perspectives Inc., 15 February 2013
60
61. US markets: The illusion of improvement
Macro Statistic October 2007 March 2013
Dow Jones Industrial Average 14164.5 14164.5
Regular Gas Price $2.75 $3.73
GDP Growth +2.5% +1.6%
Americans Unemployed (in Labour Force) 6.7m 13.2m
Americans on Food Stamps 26.9 million 47.69 million
Size of Fed’s Balance Sheet $0.89 trillion $3.01 trillion
US Debt as a Percentage of GDP ~38% 74.2%
US Deficit (LTM) $97 billion $975 billion
Total US Debt Outstanding $9.008 trillion $16.43 trillion
US Household Debt $13.5 trillion $12.87 trillion
Labour Force Participation Rate 65.8% 63.6%
Consumer Confidence 99.5 69.6
S&P Rating of the US AAA AA+
VIX 17.5% 14%
10 Year Treasury Yield 4.64% 1.89%
USD JPY 117 93
EUR USD 1.4145 1.3050
Gold $748 $1583
NYSE Average LTM Volume (per day) 1.3 billion shares 545 million shares
Source: Morgan Stanley, 7 March 2013
62. SA Asset classes - 15 year bull markets!
Bond yields down 67%!
ALSI up 13 times!
Source: I-Net, 8 March 2013
62
63. Conclusion
Asset allocation is probably the most important investment decision
Despite poor equity performance (stock selection) over the last 3 years, the Element Real
Income Fund still outperformed due to our Asset Allocation decisions.
Global and local equity markets do not look cheap
Propped up by low interest rates, fiscal deficits and high asset prices – a combination unlikely
to be sustainable
We remain cautiously positioned
Both within asset allocation and within equities
Historical underperformers are trading at levels from where they usually outperform
significantly
Material relative valuation differentials = opportunity
Risks to the downside have increased and are not yet reflected in prices
“Probably the biggest unknown is what happens when interest
rates normalize… bond markets are so finely priced that the fallout
could be very violent for equities.”
~ Ian MacFarlane – BCA Global Asset Allocation – CFA Institute – March 2013
63
64. Disclaimer
Element Investment Managers claims compliance with the Global
Investment Performance Standards (GIPS®). The firm includes all
portfolios managed by Element Investment Managers. Element
Investment Managers is an independent, owner-managed company. It
provides discretionary investment management services to retail and
institutional clients.
Element Investment Managers has been verified for the period:
1 January 2003 to 31 December 2011
Copies of our verification reports are available on request.
A complete list and description of our composites is available by
contacting Ian Jones at:
+27 21 426 1313 or at ian@elementim.co.za
64
66. But can the DM’s negative shift be sustained?
Source: Carmen Reinhart, January 2013
66
67. Globally is the same negative real yield story
Source: Inet, Element Investment Managers Research, March 2013
67
68. Global debt problems have not gone away!
Reinhart & Rogoff
Greece target
Current risk for 2020!
Next big risk
68
69. Debt-to-GDP world map - 2011
Asia / EM’s
improving
Dark green shows very low levels of debt, dark red / black shows very high levels of debt.
Source: Wikipedia, CIA Fact book. Data till end 2011.
69
70. Our own study
Defining the problem:
If I am investing my money for some future period (e.g. 5
years)
And I am concerned with both the total return of my
investment as well as short term movements (i.e. volatility
of my investment)
Should I focus more time and energy on “stock picking” or
“asset allocation”?
70
71. Our own study
Details:
Looked at 10 balanced funds between 1998 and 2012
These funds were all managed by 10 different asset management
houses
Asset allocation data came from ASISA’s quarterly fund category
statistics
Performance data came from MoneyMate
For every balanced fund:
We calculated an “shadow fund”
This is a fund with identical asset class exposure
But where each asset class is invested in the asset class benchmark
E.g. if the balanced fund was 60% invested in its own equities and
40% in its own bonds
The shadow fund would be 60% in the Alsi and 40% in the Albi
71
72. Our own study
Details (continued):
Every shadow fund:
Has completely different stock picking than the balanced
fund it tracks
But the exact same asset allocation
By looking at the similarity of outcomes we can judge how
important asset allocation was
We can compare that to the similarity between the
manager’s balanced fund and other funds
This will show how important stock picking was
72
75. Our own study
Findings:
In 10/10 cases the shadow-fund predicted the risk
and return better than the manager’s instrument
selection
I.e. in 10 out of 10 cases asset allocation was “more
important” than “stock picking”
If you focus on both the return as well as the risk of the
investment outcome
75
76. Bottom line
It is important to remember that something that happened in the
past is not guaranteed to happen in future
However we think it is highly likely that asset allocation will
continue to be the most important investment decision investors
face
76
77. SA now 52nd (144) in Global Competitiveness
The positives? Rank Highlights long-term structural trends
Auditing standards (1) in SA that will impact SA’s ability to
Efficacy of corporate boards (1) compete globally.
Protection of minorities (2)
Regulation of securities exchange (1) Education:
Legal rights index (1)
Quality of primary education
SA: 132/144, ZIM: 63/144
Largely driven by private sector efforts
Quality of education system
The negatives?
SA:140/144, ZIM: 30/144
Corruption (110)
Burden of government regulation (123) Quality of Maths/Science
Business costs: Crime and violence (134) SA: 143/144, ZIM: 50/144
Health: Tuberculosis (143)
Life expectancy (133) Source:
Co-operation: Labour-employer (144) World Economic Forum Global Competitiveness
Report 2012-2013 (Sept 2012)
Hiring & firing (143)
Pay and productivity (134)
Primary responsibility lies with government 77
78. Environmental, Social & Governance (ESG)
ESG research incorporated into investment process since 2001
As per UN PRI (2006), CRISA (2012)
Environmental
Carbon Disclosure Project (CDP)
Signatory investor since 2007
Water research in Mining sector
Social
Mining Industry
Skills, Safety, HIV/AIDS & Silicosis
Governance
Voting record disclosed since 2001*
Voting & Proxy Policy available since 2001*
Material board engagements
(e.g. Nampak, AngloGold, Gold Fields, Lonmin, Freeworld)
We have an independent Advisory Board to guide Responsible
Investment
* First in SA - www.elementim.co.za/responsible-investment 78
