p3-4 · qualcomm is a good example. it operates as two businesses – licensing and technologies....

WWW.KL-COMMUNICATIONS.COM NOV-DEC 18

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Focus on policy, not the tweeting

P3-4INVESTOR BLACK

FRIDAY BARGAINS

P5FIGHTING THE

WAR ON WASTE

P7LEARNING FROM

WORLD WAR II

Despite the polarised opinion of Donald Trump, SYZ's John Indellicate urges investors to focus on what really matters to markets – policies (page 2)

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John IndellicateSYZ

s investors in US equities, it is natural at this moment in time to be

asked for views on the current administration.

However, irrespective of where you fall on the political divide, as well as your personal view on President Donald Trump and his tweeting, it is important to remain objective about the economic policies.

In this regard, despite being late in the cycle, the tax reform bill passed late last year provided another round of stimulus. While the first-order effect of increasing earnings has been priced in, the second-order effects are not fully appreciated. These effects are showing up in higher capex, accelerating GDP and rising consumer confidence.

In addition, federal-level deregulation is also helping to extend the business cycle, helping to lower costs and speed up implementation of new projects. It is for these reasons we have been, and continue to be, bullish on the US economy.

The results of this month's midterms did not materially change our outlook. With divided government, further tax cuts

or spending measures are likely to be restrained, as political compromise will be needed.

Our OYSTER US Selection Fund has a mid-cap bias, an often-overlooked area of the market. Despite investor affinity for high-flying small-cap stocks and blue-chip large caps, mid caps have provided more favourable long-term risk/return characteristics. Within this space, we have identified attractive stock-specific ideas within a number of key themes, such as innovation in tech and healthcare. We are also optimistic on opportunities in travel and entertainment, defence and financials.

Despite the positive recent path of the US economy, we are mindful of risks. We continue to pay a lot of attention to trade tensions. We are trying to avoid companies likely to be the most exposed to the escalating discord.However, we are aware there may be buying opportunities in companies impacted by new tariffs. While stocks could sell off initially, managements will need to adjust to the new paradigm by raising prices, shifting manufacturing or finding other ways to avoid tariffs.

Focus on policy, not the tweeting

new report by leading independent consultancy

Barnett Waddingham shows the majority of UK pension schemes are considering changing consultants, as the industry faces increasing challenges.

The 'Navigating Change' report, which researches the views of senior trustees from larger UK schemes, finds more than half of schemes will change – or are considering changing – actuarial consultants in the next year.

According to Paul Houghton, partner and head of trustee consulting at Barnett Waddingham, the catalyst for the overhaul of consultant relationships has been the changing dynamics within the industry.

Houghton explains: "The UK pension industry is experiencing a structural shift as DB schemes reach mature status. As the number of pensioners increases, schemes' cashflow is becoming restricted, often negative, and trustees need to start planning for their schemes' end.

"Scheme maturity and a focus on the potential end game of risk reduction – leading towards buyout, a consolidator or running without risk – is a driver of revaluating relationships. Trustees and scheme managers now face the end game of securing benefits for members and this can require a reconsideration of strategy."

Pension schemes seek to change consultants

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WWW.KL-COMMUNICATIONS.COM NOV/DEC 18

"Irrespective of where you fall on the political divide, it is important to remain objective"

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Eric MoffettT. Rowe Price

Jacob MitchellAntipodes

Henning PadbergNordea

n the 15 years I have been investing in emerging markets,

I have never seen greater inefficiencies than in the China A-shares market today.

As a retail-driven market, information is not often published in English, nor are investor roadshows a feature of corporate activity. It means only a small percentage of the market is owned by foreign investors. This is a great environment for finding

uildings are responsible for a considerable portion

of global man-made carbon emissions.

This is expected to worsen as urban populations increase, especially in EMs. It is now a priority to ensure the buildings where we live and work are more sustainable and less harmful. This gives rise to many opportunities for companies operating in the intelligent construction space.

he fervour to be on the right side of the change during this

disruption age has distorted the valuations of many tech stocks.

Valuations of the perceived winners have been driven to excessive levels, at the expense of fundamentally sound businesses. Qualcomm is a good example.

It operates as two businesses – licensing and technologies. Licensing generates revenue by charging device manufacturers for

mispriced opportunities.Of course, poor quality

companies are present, particularly down the market cap spectrum. However, you can find blue-chips, which are growing by about 15% a year, at reasonable valuations. This growth level may be less attractive to locals, but for the astute investor, these are quality companies with sound balance sheets and good dividend profiles.

Solutions range from optimising the design and construction process through to energy-efficient insulation materials, heat-recovery systems, lighting automation and smart energy management software.

Johnson Controls is one of a number of well-positioned companies benefitting from increased demand, due to its broad product offering in building automation and efficiency.

the use of Qualcomm's IP. This is a stable, high-margin business.

Qualcomm's technologies business supplies chips to power mobile devices. This business has the leading market position in a highly consolidated industry – with extremely high and growing entry barriers. Qualcomm has been historically undermanaged, with margins significantly below what we believe achievable given Qualcomm's scale.

"You can find blue-chips, which are growing by about 15% a year, at reasonable valuations"

"There are opportunities to invest in companies providing solutions to the waste problem"

"Valuations of the perceived tech winners have been driven to excessive levels"

Investors outline top 'Black Friday' bargains

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Ken WottonLivingbridge

Chris HiornsEdenTree

Oliver HarrisMontreux

he small and mid-cap market, which is often under-

researched, is regularly negatively associated with high levels of risk and volatility.

However, the reality is vastly different to the perception. As political uncertainty floods the UK market, smaller companies are thriving against larger, more cyclical peers. Despite this, smaller stocks still tend to fly under-the-radar and trade at a

pecialist care is one of the purest forms of socially

responsible investment and falls in line with the third SDG ensuring good health and promoting wellbeing for all.

By supporting rehabilitation and enabling patients to live more independent lives, specialist care provides a definable social benefit. Little private sector attention has been paid to the space, leaving a fragmented

he recent sell-off in industrials and consumer

discretionary sectors in Europe was too indiscriminate.

The market priced in a severe slowdown on many value stocks, which were already trading on low multiples. However, this created a good opportunity to add to high-quality companies.

There is a current soft patch in the European economy, mostly driven by the short-term impact

valuation discount to larger peers.One such hidden gem is

Knights, a UK legal services business operating under a commercial structure. It has good quality earnings streams with diversification across customer, fee earner and area of legal service. Knights achieves high EBITDA margins for the sector, through driving efficiencies in the ratio of fee earners to non-fee earners.

and inefficient market ripe for consolidation. The top ten providers own less than 15% of the sector. This offers lucrative opportunities for a large national provider to streamline operations, drive business efficiencies and, ultimately, improve care.

An advantage of investing in the provision of an essential service is this demand is relatively immune to markets, the economy and policy changes.

of new auto emissions standards. However, this should give way to a recovery in growth, business and consumer confidence.

We added to Schneider Electric, which is well positioned to benefit from spending on the green grid as we move more towards renewable generation and electric vehicles. We also added to Smurfit Kappa, a packaging company benefitting from the rise in e-commerce.

"Smaller stocks still tend to fly under-the-radar and trade at a valuation discount to larger peers"

"Little private sector attention has been paid to the specialist healthcare space"

"The recent market sell-off created a good opportunity to add to high-quality companies"

Investors outline top 'Black Friday' bargains

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Esmé van HerwijnenEdenTree

veryone is well aware we have a problem. The world produces too much waste –

3.5m tonnes of solid refuse every day to be precise.

At the heart of the problem lies an economic model which is linear in nature. A linear economy is one where we use materials to make disposable products, thereby creating vast amounts of waste – which usually ends up in landfill. Conversely, in a circular economy, businesses are adopting a closed-loop approach, where materials and products are maintained, repaired, reused, recovered and recycled.

The solutions lie in a two-pronged approach. On the one hand, investors can choose to invest in 'sustainable' companies set to benefit from this transition. On the other hand, investors can influence businesses to become more responsible and adopt circular economy approaches.

There are examples where traditional sourcing of materials

and manufacturing products have been transformed. In the flooring sector, US carpet manufacturer Mohawk Industries recycled more than 5.5bn single-use plastic bottles in 2017 into fibres for carpets. In the food industry, Tesco has made eliminating food waste a key priority and now redirects all organic waste not fit for consumption away from landfill into animal feed or energy recovery.

The second weapon is stewardship. Investors have a role to play in influencing companies through active engagement. As a starting point, investors should question how much waste a company generates through its own operations and how it aims to reduce this via target-setting. In addition, investors should ask about the impact of a company's products, their recyclability and how product end-of-life is managed. The good news is investors are asking companies difficult questions.

How to fight the war on waste

iquidity – a key measure of investors’ ability to

buy and sell shares without significantly moving the price – has fallen 16% on the LSE Main Market since MiFID II came into force, according to Hardman & Co analysis.

Similarly, average analyst coverage per stock is down 6.2% to end September 2018, from its peak in January this year. Furthermore, the average company on the Main Market is now followed by just over six analysts.

"The predicted drops in liquidity and research coverage are already clearly visible, and unfortunately show little sign of recovery. The situation for mid-cap stocks in particular has continued to worsen. A reduction in research coverage makes it harder for experienced investors to discover and understand investable opportunities," Keith Hiscock, CEO of Hardman & Co, comments.

"It is still early days, but MiFID II could eventually impact broker distribution and interaction, research coverage and liquidity. There is already anecdotal evidence of a sharp reduction in broker ability to distribute research to fund managers.

"Company management needs to monitor the impact, as lower liquidity and reduced analyst coverage may spell trouble for company ratings, making raising money much harder."

MiFID II dampens liquidity and analyst coverage

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"The good news is investors are asking difficult questions"

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Hilde JenssenNordea

Adrien SzappanyosTrium

merican shoppers have Black Friday and Cyber Monday, while Chinese

shoppers have Singles’ Day – the biggest shopping event in the world.

The holiday was founded in 1993 by four university students who were tired of the stigma attached to their relationship status. The event is held annually on 11 November, because the 11/11 date consists of four ones, representing four singles. With corporate buy-in, the concept caught on fast in China and quickly became a phenomenon.

In fact, Singles’ Day dwarfs the combination of Black Friday and Cyber Monday in terms of sales. Alibaba, the power behind the shopping extravaganza, sold more than $25bn worth of merchandise

n a highly polarised United States, issues such as tax cuts, immigration and the Chinese

trade war, turned this month's US midterm elections into a referendum on the Donald Trump presidency.

The Republican Party, which used to control both houses of Congress, lost the majority in the House of Representatives, but managed to keep majority in the Senate. The Republican legislative agenda is therefore in trouble and gridlock will likely define the next two years in Washington.

This probably means no Obamacare repeal, no major cuts to Medicare and Social Security and no more big tax cuts. Democrats take control of important Congressional committees and we might see

in just 24 hours last year, having raked in $17.8bn and $14.3bn on in previous years. This year, Alibaba extended the event to 48 hours.

Singles’ Day represents a way for investors to gauge the strength of consumer spending in China, particularly among the middle class. We view the middle class as one of the primary structural growth drivers in China. American and European consumer brands also have an opportunity to position themselves in the Chinese market in connection with Singles’ Day.

Alibaba is included in many of Nordea Asset Management’s strategies, including our STARS fund range – which seek to invest in companies with sustainable business models.

further investigations into the Trump administration.

What about impeachment? Even though calls for impeaching Trump might grow louder, this remains unlikely, as a two-thirds Senate majority is needed to remove a president from office. Trade issues should persist, as Trump has been conducting trade policy through executive action, without seeking congressional approval.

One bright spot for the US economy would be if Trump reached out to the Democrats to work on a bipartisan deal on infrastructure. The Democrats are sitting on a $1trn plan to rebuild the nation's infrastructure. However, with ballooning deficits, finding the money to finance such a deal would be challenging.

The Singles' Day bonanza

Gridlock in Washington

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Trium unveils long/short credit UCITS strategy

"Singles’ Day dwarfs Black Friday and Cyber Monday"

"Republican legislative agenda is in trouble"

rium Capital, the London-based independent

specialist alternative asset manager, is partnering with Ellington Global Asset Management to launch a long/short credit UCITS fund.

The new Ellington Trium Alternative Credit UCITS Fund, to be seeded by the partners of Ellington, will leverage Ellington's expertise in RMBS, CMBS, CLOs and corporate credit relative value strategies.

Ellington’s deep trading experience and proprietary models allow the group to capture value in assets often overlooked by managers.

Michael Vranos, founder and CEO of Ellington, comments: "We are excited to partner with Trium to provide investors with access to our established credit strategies. Persistent supply and demand disparities, coupled with rich alpha opportunities from our unique research and security selection process, provide a foundation for generating uncorrelated returns."

Andrew Collins, head of Trium UCITS, adds: "Creating true partnerships is at the centre of Trium UCITS, helping specialist managers tap into the growing demand for alternative strategies across Europe. We continue to partner with top talent by using our best-in-class operational infrastructure. We are pleased to offer UCITS investors access to this much sought-after strategy."

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T: +44 (0) 203 137 [email protected]

Nick SamouilhanT. Rowe Price

f all the heroes of World War II, Abraham Wald is probably one of the least

known. His anonymity should not be surprising, though.

As a statistician, his role lacks the necessary glamour to be made into a movie. Nonetheless, his story deserves to be more widely known.

During WWII, there was a process of analysing planes returning from combat, making careful study of the heavily damaged parts and then reinforcing them. These planes showed a consistent pattern of damage, with the wings and the tail sections taking far greater damage than the fuselage. Reinforce those, went the assumption, and the planes would better survive hits.

Though logical, this insight was – as Abraham realised – wrong. The planes being examined were the ones to have made it back safely. But these were exactly the wrong planes to look at, as the only information yielded was where a plane could take a hit and still make it back. It was, instead, the planes that did not return that needed to be studied. These planes showed a completely different pattern, with damage around the fuselage, the engine and the cockpit.

Such a mistake of correctly interpreting (‘reinforce damaged parts’) from the wrong sample (‘planes that made it’), is known in behavioural economics as survivorship bias. While this

bias is known, investors keep making it for the same reason the military almost did in WWII. Some information is easier to gain than other information, leading to the risk of making the right decision based on the wrong information.

For instance, in looking for an active Japanese equity fund, many might assess the available funds according to typical success metrics – such as excess return – of the last few years. However, this could lead to the survivorship bias trap. Why? In the past, Japan has had a monetary policy deliberately weakening the yen, a process boosting export companies at the expense of domestics. Looking at the sample of active funds during this period, some top-performing active funds were focused on the exporters at the expense of domestics.

However, this sample of top-performing Japanese equity

Learning from World War II

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managers is probably the wrong sample from which to select. Japan now has a policy focused on domestic corporate reform, not on weakening the yen. As a result, selectors should seek out active funds focused on the impacts of the domestic reform, rather than on exporters – just as the military paradoxically needed to focus on the parts not damaged on the planes, not the parts that were.

So, when selecting a fund, Japanese equity or otherwise, it is wise to remember Abraham Wald. It is important to spend as much time understanding the specific sample, as selecting the funds from this sample. In short, do not make the right deductions using the wrong sample: more reinforced wings would have done nothing to help those pilots that crashed across Europe and never returned.


"Reinforced wings would have done nothing to help those pilots that crashed across Europe"

p3-4 · qualcomm is a good example. it operates as two businesses – licensing and technologies....

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