Russia Forum Buzz: Where does the big money go?

April 19, 2013


In the current highly volatile market environment, investors have a difficult time deciding on asset allocation. Large institutional investors, such as Sovereign wealth funds, large pension funds and insurance companies, family offices, endowments and others are the ones that make the final investment decision on where the big capital goes.

This panel offers a unique chance to hear directly from some of the world’s most influential investors about their outlook going forward. Are they feeling upbeat or cautious? Are they in capital-preservation mode, or are they betting on future growth? What is their view on the global macro environment and where do they see the financial markets going? Which regions of the world capture their attention at the moment and which ones are they avoiding? What are their current asset allocation strategies and how are they hedging against risk? How are fiscal and inflationary challenges affecting their investment decisions? The panel will seek to answer these questions and shed light on where the big money might be going.

Summary. There is still a high degree of uncertainty, and though length tail risks have declined, most unsophisticated clients prefer to keep their assets in bank cash deposits, while the more sophisticated prefer diversification across a wide range of asset classes. There is good value in high-yield bonds in EM and US markets. There is also good demand for US equities and EM high dividend yield stories. Russian equities are too skewed to oil and gas and lack liquidity in high-growth sectors, and there is more value in corporate bonds.

Pius Fritschi: For our long-only fund clients, we recommend more robust portfolio diversification – a broad range of assets to reduce risk (50% alternative assets, 25% equities and the rest cash). For private banking clients, we recommend opportunities in EM in the fixed income and equity space. However, our private clients are overestimating risk a bit and mostly prefer to allocate funds to bank cash deposits. We are seeing some movement toward high-yield fixed income in DM and EM, but on a broad scale investors now prefer to stay risk-neutral. The biggest risk we see now is not taking risk at all.

Anton Rakhmanov: Indeed, based on current statistics, bank cash deposits are at a record high on market volatility.

Rick Lacaille: One of the reasons for such risk-off behavior is that reforms, specifically in Europe, are taking too long to implement given the current time value of money. Less sophisticated clients continue to overestimate risks from a deleveraging perspective, which is an issue for most DM markets but not the case for EM markets such as Russia. As a result, many investors based in deleveraging regions are not seeing growth in some local EM regions and are missing out on investment opportunities.

Deleveraging is almost complete in the US from the public to the private sector. Sophisticated clients are diversifying on a large scale as they have a much better feel for the current investment horizon. However, even some sophisticated clients are unable to engage in short-term constraints and obligations that current market conditions are dictating.

Michel Lejnev: We prefer exposure to private equity in the US and Europe, and other global diversified investments. We allocate our investments based on country risk allocation and specific investment themes, such as the recovery in US housing, the gas revolution (shale gas) or the new leadership in Japan. We build momentum-driven macro models to implement our country selection strategies. We have been present in Russia since the late 1990s and prefer exposure to corporate dollar-denominated bonds and some minor exposure to equities. Russia exposure is limited as it has been badly hit by the general media image, the lack of long-term pension money and a lack of momentum triggers at present.

Michael Vlahovic: We identify five risks and 10 opportunities. The five risks are inflation, the highly priced bond market, the implications of corporate bond deleveraging, the political situation and regional instability, and the EU. Markets are underestimating the impact of bailout contagion from Cyprus. Opportunities lie in diversification, protection, risk management and benchmarking against risks. We are overweight equities, though valuations are stretched, in our view. We like Japanese equities on monetary measures, and we prefer EM to US equities. We think consumer and pharmaceuticals are good defensive sector plays. Fixed income valuations are too high, but we see value in high-yield bonds with good exposure to high dividend equities, a two-way play here. Real estate offers good moderate returns; commercial real estate has been generating 5–7% per year on average. The residential bubble has not been deflated yet in cities such as London. On commodities such as gold, we believe there is value in the medium term, though we will wait for the dust to settle first, and we could still see $1,600/oz. There is still good demand from the biggest consumers such as India and China.

Norihiko Nakagawa: We are very bullish on Japanese equities. We prefer local equities and bonds. The Bank of Japan’s current policy favors stocks, so we are bullish on Japanese equities driven by currency deflation as a result of monetary injections. We believe in the Bank of Japan’s policy and the new prime minister, and we could see more value if the government expands its fiscal policy too. We are cautiously bullish on US equities. The US market is currently overheated, and we see little improvement in the economy. We are neutral on EM. Fundamentals remain intact, economic growth is disappointing, and investment returns are disproportional. There is some value in the consumer middle class. We are bearish on the EU, where recession is likely to be prolonged. Fiscal policy remains too tight, and the current European policy is reminiscent of Japan’s lost decade since the 1980s. Our portfolio structure is 30% local equities, 60% local bonds and 10% international equities.

Max von Bismarck: Recent ECB policy measures are aimed at doing whatever it takes to resolve the issues to considerably reduce the shape of the risks. We are long-term optimistic on Europe (5–10 years), though we expect a bumpy ride ahead. Over the short term we expect the EU to remain in recession. We are positive on the US, where the key driver is the housing recovery, which has been underestimated, in our view. We prefer exposure to cash-generating assets like the US mortgage market and credit prepayment. Basel 3 will lead to improvements in Tier 1 capital.

Anton Rakhmanov: Over the past four years, Russia has seen strong outflows and declining trading volumes. Do you advise your clients to invest in Russia?

Rick Lacaille: Investors continue to have their fingers burned, and Russian reforms lack discipline.

Pius Fritschi: There is a lack of non-energy-related liquid names with few fundamental risks, a lack of exposure to the high-growth consumer sector, and little infrastructure for private equities.

Michael Vlahovic: We like the Russian corporate bond market, which offers relatively attractive yields. Equities are too skewed toward oil and gas. Uralkali is one stock that we are looking at closely now as part of our general bullish view on the agriculture sector. Russia needs to improve its demographics, which is a vital part of its development.