Long/Short funds are basically hedge funds where the fund managers look for ways of beating the normal equity markets over a certain period of time.
The basics are surprisingly easy. Good analysis and research should unveil potential situations where there are winners and losers. Where the fund tries to make money is by investing in both. This is one of the big factors of a Long/Short fund as it allows managers to go both sides of the track.
What happens is that the Long/Short fund manager will buy ‘long’ positions in stocks and shares which he/she reckon will go up in value but also ‘shorts’ positions where it is believed the purchase will go down in price. Alternatively, they can offer a ‘hedge’ against a particular market or sector risk. This is called the ‘Short book’.
This specific combination of ‘Long’ and ‘Short’ increases the possibility of making more profit whilst reducing the risk factor. The theory is that Long/Short equity funds aim for good margins without the volatility. They are also able, via the “short book” they have, to show a negative view on something or to hedge risk when things do get more volatile. This allows the fund to miss out on the downside and take advantage of the upside.
Does this always work, absolutely not - just look at the likes of Long-term Capital Management which, after a great start in the first three years (it grew by over 300% after all charges in four years), managed to lose over USD4.6 billion in four months due to the Asian and Russian Financial Crises at the end of the 1990’s. However, there are excellent funds that do know what they are doing. They will use a fundamental ideology or quantitative analysis to help with investment choices.
The former can come in the shape of an individual who is responsible for almost everything or a multi-manager, multi-strategy portfolio which will be more diversified.
The latter will seek returns over all geo-political and sectoral areas and study both the fundamentals and technicals before coming to a decision. In fact some will only allow computers to analyse what is going on and so leave the human element out of it all together. However, the normality of it is that Long/Short fund managers are no different to others in that they do nothing more than use their own experience, skill and hedging knowledge to try to get the optimal growth possible. A good one though will be able to reduce market exposure before any corrections thereby protecting capital and producing growth over the long term.
Many indices have done well over the last decade or so, even accounting for a couple of horrible years. However, many Long/Short strategy hedge funds have even outperformed the indices and they have done this with less volatility.
One more thing that makes Long/Short equity funds of interest to many people is that they are usually very liquid thus allowing the manager to adapt his portfolio quickly and, efficiently which will enable the fund to take advantage of the upside and avoid the downside.
As stated above, the results of a Long/Short equity fund is down to the management performance of the fund. The long and the short of it is that everyone should have some exposure to these type of investment products in their portfolio.
Last year China ended up, if the government statistics are to be believed, with economic growth at 7.7% year on year. This year it will reduce slightly to just over 7.0%. As regular readers of this column know, I believe there are lies, damned lies and statistics.
This growth forecast is going to be difficult to maintain as it wants to bring in a load of economic reforms whilst stabilizing growth. These two things are difficult enough to achieve separately and almost impossible when tried simultaneously. If one is more important than the other to the Chinese government then it is highly likely they will go for reforms.
At the Economic Work Conference late last year, the Chinese stated that they wanted the Free Market to play a much more important part in building and creating the economy. Initially, this will create more volatility but it should be worth riding through. The potential problems are manifold though, volatility could bring about a drop in investment, certainly over the short term, and this could affect such vital factors and sectors such as employment.
However, these are certain things that are important to take into consideration. Firstly, consumer spending will play a vital part in China’s growth plans even though it is probable that investment-driven growth will go down this year. What does “investment driven growth” mean? Well it involves such things as debt reduction, much more controlled credit authorization, and less public investing. This could, in turn, affect the property market as well as the infrastructure projects.
If they do not get things right then the economy could slow down a lot quicker than it is meant to do. It is a matter of getting things right.
The Chinese government has decided to do these reforms so as to increase growth potential and create income streams in years to come. They will also, hopefully, reduce such things as trade imbalances but also allow for the likes of excess capacity. The reform agenda includes major factors such as:
1. Deregulation - Better and easier access for private investors to previously closed sectors (oil and gas, railway, metro, telecommunications, bank, insurance, health-care services, education and culture).
2. Liberalisation - Easier access for foreign investors. E.g., to more service industries (financial sector, education, health-care treatment, culture, logistics, eldercare, e-trade, etc. But also free-trade agreements).
3. Financial liberalisation - Encouraging private investors to establish small and medium-sized financial institutions, liberalisation of interest rates, development of the bond market, etc.
4. Hukou and land reform - Ensuring better land rights and capital gains for land owners in rural areas. Initiatives to make the transition from rural to urban areas easier in terms of rights in the cities.
5. Resource price reform - Increased competition and market prices for allocation of resource prices.
6. Fiscal policy reform - The states’ expenses and income - and less dependency on selling land. VAT reform, property taxes, initiatives to reduce pollution (environmental taxes, etc.).
7. State Owned Enterprises (SOE) reform - Initiatives to differ the commercial and non-commercial parts of the SOE. Explicit requirements of larger dividend payments from SOEs.
8. Social security - Development of pension, unemployment and healthcare insurances, etc.
The implication is that the majority of the aforementioned cannot go it alone but need to be implemented together. This in itself will bring in, directly or indirectly, fiscal and socio-reform. It will also be interesting to see how they are going to finance all of this.
Should China be part of your portfolio? Yes, absolutely, but be prepared for a potential rough ride in the coming months and do not tie yourself into anything you cannot get out of quickly.
The Governor of the Bank of England recently stated that interest rates will not rise for the foreseeable future. Most western governments are saying the same thing. This means that interest rates will stay below the level of inflation for years to come.
This is not good news for savers as they have had to endure this situation for the last few years already. It is especially bad for those in the elderly age groups as they suffer from inflation more than others since they spend a higher proportion of their income on fuel and food.
However, the reality of it is that we have all suffered negative returns on cash; i.e., inflation has exceeded savings/deposit rates thereby meaning we are losing money even though we are putting money aside for the future.
What are the alternatives? For those who are prepared to take risk then there is the option of investing in growth funds. Recent figures show that more and more people are having to do this. This is where fund choice is so vital. For those getting into investments for the first time it is wise to go with a multi-asset, multi-manager type fund. These are usually less volatile than sectoral or geo-political type funds and reduce the risk of full equity exposure.
JP Morgan published figures last year which analysed the performance of a portfolio which invested 50/50 in equity and bonds over all five year periods since 1950. The maximum loss any of the periods was only one percent per annum and the biggest gain was 24% per year. When compared to a total investment in equities, the biggest loss was 7% per annum and the largest gain was 30% each year.
More interestingly, if the money from the mixed-asset investments was left for ten years then none of the period actually lost money. The report states, “Diversification works - so don’t be afraid to be in the markets if you have a long-term horizon.”
However, as most people know, bonds have been going through a tough time recently so it is difficult just to go with a 50/50 mix. A real multi-asset fund will consist of equities, bonds, cash, property, alternative investments, commodities, et al.
It is also vital that people understand the product they are getting into. Some carry charges that are not immediately obvious and can eat into your overall returns. It is equally important to know the difference between growth and income funds. The complexity of some of the information out there is mind-bogging at times and it is possible to get badly hurt.
The cost of energy is on the up, well in Western Europe any rate, and the continued increase in price of gas and electricity has been given as a major reason as to why the recovery is taking so long.
This is not the same in America though. In the US there has been a major increase in the production of oil and gas which has meant a drop in costs for both manufacturers and consumers. This has helped the economy enormously and has led to over two million new jobs. Not only that but it has meant more revenue for both federal and state tax collectors and increased the average family income by well over USD1,000. One of the main reasons for this is fracking, which is also known as hydraulic fracturing.
So, if it is working so well in America why isn’t everyone doing it? Protestors say that large scale fracking will be an environmental nightmare and this has hampered governments from pursuing fracking more actively. The UK is meant to have huge reserves as do a lot of other European countries. What is the problem? Exactly what is fracking?
Simply put, hydraulic fracturing (fracking) is a type of drilling that loosens hydrocarbons (oil and gas) that are in formations of shale rock. A combination of water, proppant and chemicals are pumped into the shale rock to break it up so it can be released and then get to the surface.
It is reckoned, in America, fracking has guaranteed the country gas until the next century and, as intimated above, has reduced prices and increased oil production. In the UK, it has been calculated that shale gas could keep the country going until around 2050.
In a recent report, the Institute of Directors has worked out that investment would be nearly GBP4 billion and be responsible for almost 75,000 jobs. This has obviously attracted the notice of the government as it will benefit the economy, bring down unemployment, reduce benefit expenditure and boost GDP. On top of this, it will mean there will be less reliance on imported gas which will help the balance of payments. The government has also promised that any community located near to a fracking site will be given a lump sum up front to be of benefit to the local population as well as one percent of the revenue from the drilling itself.
That is all the good news. The bad news is that there will be an environmental impact. This comes from several things such as a large increase of traffic and potential pollution of drinking water. Some believe that fracking also allows methane to escape into the atmosphere and is responsible for earthquakes.
Where does this leave us? The US has ploughed ahead with fracking come what may. It is in a better position than the UK and Western Europe to do this as it is more isolated and a lot more advanced. The latter has to contend with the environmentalists and the fact that they are not as far down the line as the Americans. However, the benefits are there for all to see and unless Greenpeace et al have their way then I cannot see any alternative to the fact that fracking will become much more common than it is now.
As yet, there are no fracking funds but the following companies in the UK could be worth looking at if you want to invest in this type of thing:
- iGas Energy can be found on the Alternative Investment Market
- Centrica is a FTSE 100 company
- Dow Chemicals are very active in the US and can be found on NYSE. They are an S&P500 company
If you do want to invest in fracking then please remember the risks. This would be the aggressive part of a portfolio so please do not invest anything but a small portion of your investments in this field.
Achieving absolute return targets in multi-asset funds is very different and, in my opinion, much more difficult to achieve than relative return targets and requires a completely different approach.
Thai insurance companies provide two types of life insurance which trigger a personal income tax deduction in Thailand:
1. A regular life insurance policy - Deduction for premiums up to THB100,000 per year. The policy must be contributed to for a minimum of 5 years with 10-year coverage.
2. A Pension Life Insurance Policy - Deduction for premiums up to THB 200,000 per year under the following conditions:
* The amount claimed for this deduction must not exceed 15% of the taxpayer’s annual assessable income.
* The sum of the Pension Life Insurance premium and any contributions to either: a provident fund, government pension fund, welfare fund under the private school law and/or any investment in the Retirement Mutual Fund (RMF) must not exceed THB 500,000 in any calendar year.
* If a taxpayer does not fully claim a regular life insurance deduction (clause 1 above) up to a maximum of THB 100,000 they may claim up to a maximum of 300,000 baht tax deduction on contributions to a Pension Life Insurance policy.
Contributions to the policy must be maintained for a minimum of ten years. The pay-out period should be between the ages of 55 and 85 but requests for payment prior to this will be considered providing there have been contributions for five years.
Below is an example which illustrates how someone who earns THB 5,000,000 per year would benefit by purchasing life and pension life insurance.
If someone with an income of THB 5m pays THB 300,000 total in life and pension life insurance premiums, those premiums would be added to the tax allowance. The tax rebate would amount to THB 111,000; making the net premium price just THB 189,000. With a calculated return of 37%, the percentage gain over the net premium would be 58.7%, without including annual growth of the investment. At the same time he/she has the peace of mind of having a life and pension insurance - a potentially useful benefit. Even better, you can show your beneficiaries (e.g. Thai wife etc), that they will benefit if you should unfortunately part this mortal coil earlier than planned. However, I suppose, on the other hand it may just encourage them to help you on your way…in other words - Caveat Emptor!
|Example of tax calculation with and without life insurance.|
|Description||Standard deductions||Including Insurance Premiums|
|Life Insurance premium||100,000|
|Pension Life Insurance premium||200,000|
|Social security fund|
|Net Income||Rate||Income Amount||Tax Payable||Income Amount||Tax Payable|
|1 - 150,000||0%||150,000.00||0||150,000||0|
|150,000 - 500,000||10%||350,000.00||35,000||350,000||35,000|
|500,001 - 1,000,000||20%||500,000.00||100,000||500,000||100,000|
|1,000,001 - 4,000,000||30%||3,000,000.00||900,000||3,000,000||900,000|
|*** Saving of THB 111,000|
Let’s start at the beginning: what is currency hedging (CH)? If we just go straight for the basics then it is a situation where investors have assets in countries where they are not resident and so use CH to try and protect themselves from any fluctuations (especially sudden ones) in the foreign currencies and how they will affect the money invested when it is valued in the home currency of the investor. These changes in the different value of currencies can be caused by various things such as economic fundamentals et al. CH should limit the effect of any wild shifts in exchange rate valuations.
The benefits of hedging are very much reliant of the aims of the investor and the currencies being hedged.
Working out the cost of hedging is also very important. If any potential hedging is only a small part of a portfolio then the costs of setting up the hedge may well not be worth it. Costs include payments to currency dealers, banks and investment managers. These costs are for such things as:
- Bid/Offer spreads
- Rebalancing the actual hedge back to within the acceptable parameters
- Liquidity in a particular currency
- Offsetting risk, i.e. such things as a default, etc.
The next question is if there is such a thing as the perfect hedge ratio? As with almost everything in the economic world there are a number of varying opinions on this one. They range from people saying that no hedge is best to others saying that a portfolio can only achieve optimal performance if there is a total hedge. What it basically comes down to, though, is the investor’s risk/reward ratio and over what time period any portfolio is going for. One other thing that is vital is for the investment to be monitored regularly. If everything with the hedge works well then the investor will be guarded against inflation, market volatility (especially commodities), changes in interest rates, and forex fluctuations. That is all the good news. The downside of hedging means that people may not be as liquid as they would wish to be. It must also be remembered that the idea of a hedge is to minimize risk, therefore, by nature this will potentially reduce gains.
As a simple example, let’s look at what happens when you compare the US Dollar against the British Pound in the marketplace. So, should a Sterling-based investor have the same global equity exposure as a US Dollar-based investor?
As most people know, the American US equity market makes up nearly 50% of global equity whereas the British one is only around 10%. This obviously shows that there is less need for an American to hedge than a Brit. But what about the levels of volatility, are they the same and can worldwide access give a better rate of return? If you look at figures 1 and 2 you can see that, apart from a couple of short term differences, the volatility for both American and British investors with access to world markets is roughly the same.
However, where things do start to differ are on a one or five year interval as these can show large differences in the rates of return. Figures 4 and 5 show this as these charts show hedged being USD returns and un-hedged are in GBP terms.
It is noticeable that at the height of the crisis in 2008, the Morgan Stanley Capital Index (MSCI) World Annual rolling returns were down only 25% in GBP terms as opposed to minus 50% in US Dollars. This was mostly due to how weak the British pound was five years ago. The five year chart indicates exactly how returns can vary on a large scale, i.e. the five year period ending in 1985 shows a GBP return of 160% as against only 60% in US Dollars.
So what does all of this indicate? Well, an investor needs to know what his/her risk/reward ratio is and the length of time that the investment is needed as it is obvious that any swings over longer periods of time even themselves out. However, on the downside, they can distort monthly returns significantly. Hedging definitely has its place in the market and can protect an investor dramatically. However, it can also cause chaos in the wrong hands. Caveat emptor!
Thinking about death is not a pleasant pastime; reflecting on our own mortality even less so. Yet it’s something we must all do, to avoid unnecessary complications for our loved ones when we die.
It may sound crazy but Russia may be a place that should be considered for your portfolio. Obviously, it lies in the High Risk category and should only be a small part of what you have. However, all indications show that Russia’s good economic fortunes will continue and they aim to get better with large potential returns possible.
Russia is trading at a very low forward valuation. In fact no Emerging Market can match it. With a less than five forward multiple, Russia is trading not only at a deep discount to historical valuations but also when compared to all the other countries that fall in the same category.
It should be remembered that Russia is the largest country in the world and has an overabundance of certain natural resources. Not only this but, in comparison, the country has a well-educated workforce, and healthy looking government finances. It is also trying to improve transparency and improve corporate governance. When looking at all of this, one can only wonder at the reason for such inconsistency between current valuations and economic fundamentals.
Without doubt, Russia is a land that is full of contradictions. Russia is the world’s ninth largest economy and is already an economic giant with a lot more to come. However, like all ex-Communist countries (and quite a few present ones!) it walks a tightrope between promoting free-market capitalism whilst maintaining the age old traditions of such things as cronyism.
President Vladimir Putin is not exactly loved in Russia and certainly has his fair share of critics both inside his country and outside as well. However, most people agree that his policies are almost always considered to be pro-business. There are more and more millionaires and billionaires in Russia these days and they are plainly becoming used to the trappings of wealth and an improved lifestyle. The middle class also has more money to spend which is never a bad thing for an economy. One only has to look around Thailand these days to see that more and more Russians can now afford to go somewhere else apart from the Crimea for their holidays. It is obvious that no-one wants a return of the likes of Brezhnev or his ilk.
A recent report from Prosperity Capital, a leading Russian Investment manager, showed that the Russian consumer is quite a happy chappie these days. Indeed, Russia is now the second largest consumer market in Europe. Last year, 70% of the country’s disposable income (USD621 billion) went towards consumption. This has increased 20% annually since 2000. In August 2103, Russians purchased more new cars than Germans did, and mobile phone penetration is at 140%, growing 7% to 8% yearly. What is even more incredible is that even with a high degree of consumer spending Russians still manage to save around 10% to 15% of their disposable income. This is something the Western world could do well to follow.
Credit card penetration is in the low single digits and household debt is at approximately eleven percent. It is forecast that sometime next year Russia will be the biggest consumer market in Europe. Russian consumer confidence is on an upward trend - especially as unemployment is at a post-Soviet low.
Many people said in 1998, when Russia defaulted on its external debt, the country was in serious trouble. However, just fifteen years on Russia is a net creditor. Indeed, the country has had a current account surplus for seventeen consecutive years.
Basically, Russia has become one of the richest countries in Europe - if not the world. It is also in the very happy position of having the world’s third largest stockpile of international reserves sitting on roughly USD525 billion in cash. Russia also holds significant tangible assets and, at 8% of GDP, has the G20’s lowest public sector debt. Also, do not forget that Russian corporations have low corporate leverage, and households have extremely low debt at 15% of GDP.
At the moment it can be seen that Russian equities, at current valuations, appear to be very cheap. With a current P/E multiple of around five, Russia is trading at an estimated 50% discount or greater to many Emerging Markets.
Russian pension funds have very low allocations to equities. In fact, many local and state pension funds are precluded from investing in equities altogether. However, it is thought that this will change as Russia adopts more and more Western standards.
It should also be remembered that Russian equities have average dividend yields of over 4% and are set to grow. On top of this, the Russian government has mandated that starting in 2013, Russian state controlled companies will be required to pay out 25% of their annual net profits in dividends.
Russian corporate governance has improved dramatically over the last decade - although it must be said it still has a fair way to go. However, many businesses are now accounting for their books and financial statements using the same standards required of companies in New York or London.
The Russian legal framework and tax code was updated less than ten years ago. There are now much more rigid transfer pricing rules, as well as a much stricter enforcement of offshore earnings abuses. As for FDI (Foreign Direct Investments), Russia has received the largest share per capita in the world - in fact second only to China in terms of dollars allocated. On the political front, Russia’s government is stable and pro-business. Naturally, though, all is not well in the Garden of Moscow. There are still problems with human rights and corruption issues remain prevalent in certain parts of the country. On the hole though this is gradually improving.
Russia has had a very exciting history and its future looks to be equally so. Many analysts are confident that economic trajectory is upward, with significant potential ahead for equity price appreciation. It must be said that Russian equities have always been volatile but if you select the right fund the manager will take all of this into account. However, as with any portfolio, good diversification is vital when investing in Russia and elsewhere.
Some financiers believe that debt is a good thing and is the way to go. However, there is debt and there is debt. In America, total credit increased from USD1 trillion in 1964 to USD50 trillion in 2007. This is a 50-fold increase in 43 years!
Whilst it cannot be said that Thailand is in the same boat, it should look over its shoulder and learn from the impending US disaster. Thailand needs to sort out its ever increasing household and public debt to sustain the economic growth of the country and its people.
As my business partner, Paul Gambles, said recently, “Thailand acted after the 1997 Asian financial crisis, but there is a real danger that the country is falling into bad old habits as government debt is approaching 60% while consumer debt has reached 80%, and that is scary for future growth when these two things are happening side by side.” The problem is, there is less room for the government to manoeuvre when public debt reaches such an awful rate, while domestic consumption is hampered as consumers tend to spend less because of their debt burden.
As a way of comparison, most of the euro-zone economies which have a massive debt burden recorded public debt below the 60% threshold, but the rise in private debt greatly contributed to how the public debt continued to carry on going up through the roof.
As of the first quarter, Thailand’s household debt increased to 8.97 trillion baht which is equivalent to 77.5% of Gross Domestic Product (GDP), compared with 1.36 trillion baht or 28.8% during the 1997 crisis. Things get worse, the rate then increased to 9.27 trillion baht or 79.2% of GDP in the second quarter.
According to Public Debt Management Office data, the outstanding public debt as of the end of August totalled 5.30 trillion baht or 44.63% of GDP.
With regards to the international markets, the Thai economy will be largely influenced next year by the growth outlook of the US and Chinese economies. The one difference between Thailand and other developing economies is how to manage the current account deficit effectively and stimulate economic growth through the passage of infrastructure projects - although some say the money raised for these is only there to pay of some of the existing debt, but that is another story…
It is possible that Thai economic growth could come in at 5% next year on the back of the 2 trillion baht infrastructure investment plan despite obstacles to growth such as the rice-pledging scheme and swelling household debt.
However, high growth at an unsustainable level would not contribute to future economic well-being of the country because the best way to sustain growth is to mitigate the debt problem.
Steve Keen, a professor of economics and finance at the University of Western Sydney, said the Thai government might want to consider writing off consumer debt and shouldering a budget deficit for a while to soothe the impact of financial meddling, “Given the scale of state policy on non-land-owning Thai farmers, there simply has to be a debt write-off or some form of debt-to-equity solution to reduce consumers’ debt burden,” he said. If not then Thailand may well be on the road to rack and ruin.
Rising household debt generates concerns because the lowest end of the economic spectrum is shouldering a heavy debt burden, while there is no commercial monitoring as the records of government loans go into specialised financial institutions and the Finance Ministry which means there is no public control over what happens thus giving grounds for potential outcries re transparency and good governance - which is another reason for having no debt as then no-one can lie about it.