Get Well Soon!

Low growth and high inflation – the UK economy maybe out of the emergency room but we are still in intensive care.

The huge cost of rescuing the economy from recession and bailing out the banks has left a massive hole in the nation’s finances. The medicine required to reduce the deficit is austerity which means cutting government expenditure and raising taxes, helped along the way with a spoon full of sugar – low interest rates. For some time now, even with this sweetener, the economy has been finding the medicine a little too hard to swallow which has prompted critics of the Coalition’s plan to question the amount as well as the fairness of the distribution of spending cuts and tax rises. However, I am yet to be convinced of any alternative medicine than will work.

Our Nation’s finances are not that dissimilar to those of the Portuguese, the Irish and the Greeks, all of which have been bailed out in the past twelve months. These countries are all in the Eurozone where the responsibility for setting interest rates and as such the exchange rate via the single currency is controlled centrally by ECB (European Central Bank.). Fiscal policy on the other hand as in how much each country spends and how much they raise taxes, is left in the hands of each member state. Until the global financial crisis, all Eurozone countries enjoyed the same cost of borrowing, any past history of poor repayment was overlooked. This is not the case today and the weaker Eurozone members have seen the cost of their borrowing soar to an unsustainable level. With the benefit of hindsight the proposed bailouts were inevitable, as the alternative of sovereign default has been politically unpalatable.

However bailouts are not the solution, these are simply a temporary fix whilst something more permanent is worked out. For those countries accepting a bailout there is a hefty price to pay. Firstly, there is the loss of their fiscal autonomy – the right to manage their own finances. The government has had to persuade their people, their voters, to accept a severe austerity package and the consequential reduction in their standard of living. Secondly, there is the prospect of weaker economic growth – the ability of any country to service and repay their debt depends upon the growth of their economy, as tax revenue needs to be at least maintained to pay back their creditors. Whilst, austerity packages reassure bond holders, consumers and businesses become more cautious about spending so consequentially economic growth weakens. Squeezing more tax revenue out of a shrinking economy is a challenge. In the past, Portugal, Ireland and Greece have devalued their currencies to encourage export growth. Devaluing the Escudo, Punt and Drachma is no longer an option, they are all part of a single currency where exchange rate policy is controlled by ECB. The Euro has been a relatively strong currency and this month’s hike in interest rates to hive off inflation fears will not help foster economic growth.

In the UK we have an advantage because we have more control over both our monetary and fiscal policy, although this is still limited by the wishes of our bond holders. Sterling has been devalued, in line with the plan to replace consumer spending for export growth. Whilst the competitiveness of our exporters has greatly improved, import prices have also dramatically increased with a weaker pound. The other major part of the Government’s fiscal consolidation plan, is to encourage the private sector to replace government investment as the proposed spending cuts start to bite. Investors should expect to see looser regulation and more tax incentives for both new and existing private enterprise to promote this initiative.

For all the autonomy we have to manage our own public finances, there has been a cost in lower economic growth and higher inflation. Inflation remains stubbornly above the Government’s 2% target and is considerably higher than most other developed economies. Whilst every part of the global economy has seen inflation rise as result of soaring commodity prices, inflation in the UK has taken on the additional price changes due to the increase in VAT and a weaker pound. The MPC (Monetary Policy Committee) at the Bank of England, which has the role of setting UK interest rate policy, has repeatedly stated that they believe the above target inflation is only temporary. It is clear from the recently published minutes of their last meeting that they are a long way from raising interest rates particularly with no signs of wage inflation given the high unemployment numbers. It seems to me that interest rates will only begin to rise either when we see a pick up in wage inflation or we experience a couple quarters of higher than higher economic growth. Until then household incomes will continue to be squeezed by low returns on cash deposits and increases in the cost of living. With the consumer representing almost two thirds of economic activity, this means weaker growth for the foreseeable future.

This weaker economic growth has clearly been reflected in lower Gilt yields in the last quarter, in recent months the yield on ten year government debt has fallen from around 3.8% to close to 3%. However these falls have exceeded my expectations and begs the question are there other factors at play here. It can be no coincidence that the fall in Gilt yields has occurred as Eurozone government bond yields in the weaker countries have soared over renewed fears of a sovereign debt default. This seems to support the fact that that bond investors still consider Gilts to be a safe haven and approve of the Government’s handling of the UK economy. Or, perhaps, maybe there is a belief that we will see further quantitative easing should weak economic growth persist.

When looking at the UK economy it does seem that it has lost steam over the last year. Some commentators are saying that this is only to be expected following a major financial crisis, however there has also been a weakening in the global economy following the supply chain issues caused by the Japanese earthquake and tsunami as well as the spike in commodity prices. The resultant weaker global trade has delayed the expected boost from a lower pound. For my part, I am not in the deflation and further recession camp at this stage, I believe that Gilts are a very expensive asset to own and that equities will offer far greater value over the coming year, however I am cautious in the very short term as investors focus on the plight of sovereign debt in the Eurozone. Furthermore I believe that economic weakness also threatens the longevity of the Government’s austerity plan which is not only based upon spending cuts but also on increasing tax receipts from a growing economy. I am not sure that Plan B, one which necessitates a slower pace of fiscal consolidation, will work as I believe that bond investors will not continue to lend at the current low levels of interest rates. The real fear is that a policy error may send our fragile recovery into another recession and straight back to the emergency room.

John Husselbee,
CEO North Investment Partners
1st August 2011

Note: John Husselbee is fund manager to the WAY MA Cautious and WAY MA Growth Portfolios. He started his career at Rothschilds in the mid 1980s and for more than 20 years of the intervening period has specialised in multimanager investment. Before launching North in 2005, John was the Director of Multi Manager Investment at Henderson Global Investors and prior to that headed up Rothschild’s Multi Manager business. John is a well-respected commentator within the industry.
www.waygroup.co.uk

Posted on 1st August, 2011 | Tags: Inflation, Recession, Spending Cuts, U. K. Economy |
Comments: Have Your Say

The Last Crusade

– search for the investment strategy Holy Grail

I am one of those industry veterans who, whilst still having some way to go before retirement age, can boast 30+ years of experience in investment management.  The earliest of those years was spent managing discretionary portfolios totalling some £40m of private client moneys (I am talking the 1970/80s here!).  Although slightly more removed from the coal face these days my interest in the industry search for the Holy Grail of investment strategy remains just as strong as ever.

 The ideal combination of low costs, low charges, competitive performance and minimal drawdowns (reductions in value) has eluded academics and practitioners alike ever since stockmarkets evolved almost two centuries ago.  Index trackers and absolute/hedge funds have been the most recent attempts but both have failed miserably to deliver anything remotely resembling consistent upward-only performance.

After all this time it is pretty clear that the emotional drivers behind efficient stockmarkets, the urge to speculate in shares, means that there isn’t and never will be a formula for achieving consistent stockmarket returns.  However, my study of markets over the last 120 years and more does indicate that markets undoubtedly move in both short and long term trends, normally linked to economic and political factors at play in the global commercial world.  Trend following (and trading strategies through the use of moving averages) has also, therefore, been a feature of investment management for a long time.

It is therefore with great pleasure and amusement that I have discovered that a combination of trend-following and trading triggers, based on moving averages, has now been demonstrated to be the most reliable means of managing a portfolio over the medium to log term – BUT ONLY if all subjective and emotional human input is removed from the management equation!  Extensive research from professors at the City-based Cass Business School has indicated that investment performance is enhanced and volatility reduced by adopting a purely mechanical but entirely logical process to manage investment portfolios.

I am also delighted to add that the practical application of this research has been brought to WAY Fund Managers courtesy of Hasley Investment Managers (and their captive professors from the business school) and is now available to investors via the WAY Hasley Global Momentum Fund.  This fund invests in 24 mature stockmarkets via 14 low-cost ETFs, with each ETF being invested, or not, each month depending on a moving average trigger.  The process means that the fund can be up to a month or more late in joining any particular trend, depending on precisely when it started, but that it tends to fully participate in all long term up-trends and totally avoid all long-term down-trends.  The (back-tested) result shows impressive performance and great risk-aversion.  I can commend it to you as a major core holding for virtually any long term portfolio.

Associated Links:

Website: WAY Hasley Global Momentum Fund
Website: Cass Business School (City University London)
Website: Hasley Investment Management LLP

Paul Wilcox
Chairman & Technical Director, WAY Group
11th May 2011
www.waygroup.co.uk

Posted on 11th May, 2011 | Tags: Cass Business School, ETFs, Exchange Traded Funds, WAY Hasley Global Momentum Fund |
Comments: Have Your Say

Still strong reasons to run adviser funds

New guidelines on distributor influenced funds are designed to ensure customers are treated fairly and should not prevent advisers from offering their own portfolio-style collective funds.

Access to financial advisers’ own portfolio-style funds can bring benefits for clients. I outlined these benefits in a previous article, which struck a chord with a number of discretionary investment managers, some of whom already run such funds and many who do not but would like to.

Several firms have expressed concerns about the cost, inconvenience and responsibilities of taking this path, as well as the imminent impact of the retail distribution review (RDR) and the alleged negative attitude of the Financial Services Authority (FSA) towards ‘distributor influenced funds’ (DIFs).

Having been involved with DIFs since 1991, I am an avid fan of delivering discretionary investment management to clients via the most effective means: collective investment. What I mean here is delivering sound, bespoke, portfolio-style management via the most cost-effective and tax-effective route by pooling clients’ assets into collective funds.

One size does not fit all, so you will have to supplement this approach by:
(i) having more than one single strategy (fund) to suit different risk appetites and possibly capital and income objectives;
(ii) being prepared to supplement such core solutions with more specialised investments to finely tune each client’s individual portfolio solution.

Two advantages of adviser funds
There are two key arguments for clients entrusting their investment funds to their advisers’ own portfolio-style funds. First, there is far more accountability: the client can meet face-to-face with a good local and personal investment team for regular reassurance about the style and substance of the management.

Second, a good portfolio manager is not the same as a good fund manager. A portfolio manager is running portfolio substitutes and therefore has a keener eye on the overall risk aspects of managing the client’s money. A specialist fund manager works to tight specifications of where they can invest and to what extent they need to maintain liquidity.

The most recent regulatory changes have allowed collective funds to mix and match underlying funds and direct equity investment, and to blend a much wider range of asset classes. This means contemporary portfolio-style funds can effectively mirror and replace virtually any bespoke portfolio.

The right firm for the job
Several firms service the third party fund market. Some are investment management firms, which tend to have more empathy with their guest managers, and others are administration companies, which focus on large scale administration activities. Either type of firm is likely to be able to guide new entrants through the steps needed to establish their own funds.

Whether a firm should embark on this is broadly down to a handful of criteria:

* Are they authorised to perform discretionary management or do they have an associate company who is?

* Do they have sufficient clients and assets under management to make the establishment of such funds a viable proposition for all parties, especially the clients themselves?

* Is there adequate understanding of the regulatory issues involved in running such funds?

* Are such funds likely to survive the commission-free/remuneration policies expected from the final guidelines to come out of the RDR?

* Do the funds comply with FSA guidelines on DIFs?

Support network is growing
A new trade association for companies associated with running their own portfolio-style funds, the Investment Funds Association, is a source of contact and support for its members and a centre of influence with the regulator. The nascent body (ifassociation.co.uk) has a growing membership that includes service providers, and many advisers who run their own branded portfolio-style funds. It may well become an essential forum for parties interested in this sector of the funds industry.

The target of regulations
The FSA has made it clear that its new guidelines on DIFs are not aimed at fund managers, collective scheme operators or private client investment managers whose investment management is central to their business proposition. These groups are already well regulated. They may be affected by the guidelines on DIFs, however, if their appointment as manager or their ongoing investment approach or accountability is under the control of the distributor of the funds in question.

The guidelines focus on several areas of responsibility that together ensure advisers are treating their customers fairly. In essence an adviser must be demonstrably competent, will be aware of, and will manage, any conflicts of interest, is obliged to be independent and deliver only suitable solutions, and must communicate all of these considerations to the client. Included in these issues will be those relating to costs and remuneration.

If this sounds off-putting then take heart: what is genuinely in the best interests of clients will undoubtedly pass muster with the FSA.

Nothing to fear
Regulation on DIFs is there to assist and protect clients and not to deny them the most effective and contemporary investment management solutions.

The regulator has an unenviable task of weeding out the incompetent, unethical or lazy among us. The competent, professional, ethical and conscientious adviser has nothing to fear.

The establishment of well-managed, portfolio-style collective funds will be a major benefit to all participants, advisers as well as clients.

Paul Wilcox,
Chairman & Technical Director, WAY Group.

Posted on 10th December, 2009 |
Comments: One Comment