Posts Tagged ‘Global Economy’
Wednesday, May 11th, 2011
An end of quarter letter to clients — Investment advice from Mark Twain
Given recent events in Japan and North Africa, many clients are looking to their advisors for direction on what they should do.
This template for an end of quarter letter is intended to be a starting point for your own letter to clients. One note of caution — to be effective, it has to reflect your approach, personality and point of view. Be sure to take the time to customize the letter to your own situation.
April 4, 2011
Two critical lessons from Japan
“The only certainty is that nothing is certain”
Pliny the Elder
First century Roman author and naval commander
“It ain’t what you don’t know that gets you into trouble.
It’s what you know for sure that just ain’t so.”
Mark Twain, 1835–1910
At the end of each quarter, I send clients a letter summarizing events of the past three months … and usually try to find a relevant quotation to establish the tone for my note.
For this quarter’s letter, I have selected quotes written 1900 years apart to highlight two important lessons for investors, made tragically apparent from the recent events in Japan. One is the need to construct portfolios that expect the unexpected and anticipate the unanticipated. And the other relates to avoiding one of the costliest traps that ensnares investors.
Before getting into detail on those lessons, here’s a quick recap on the first quarter.
Market performance in the first quarter
Markets in January and February reflected a continuation of last year’s positive sentiment. This was spurred by solid corporate profits and a broad consensus that while the global economy might not experience a strong recovery going forward, it would see growth.
March did begin with an initial setback . The earthquake and tsunami in Japan on March 11, which took a dreadful toll in human lives, clearly reduced short-term prospects for the global economy. The turmoil in North Africa, while positive for oil prices, also had a negative impact on markets due to concerns about the effect on consumer demand. By the end of March, however, positive economic growth reports in the US and Europe allowed most markets to recover their initial losses.
As a result, developed markets generally saw gains at the end of the first quarter that put them on track for solid performance in 2011. Below are first quarter results for key markets — note that these are in local currencies, so that the effect of swings in the Canadian dollar are not reflected here.
% change (all in local currencies)
Learning to live with uncertainty
If they operate efficiently, stock and bond markets incorporate all the available information at a given point in time. That’s why when sovereign debt problems emerged in Greece early last year, other European countries seen as having potential problems along the same lines saw an immediate spike in the cost of insuring their debt. Even though they hadn’t run into problems yet, the market factored this possibility in.
Market analysts spend many thousands of hours each year on these kinds of issues — with enough time and research, slow forming problems like government debt problems can be identified before a crisis unfolds.
What can’t be anticipated are developments that are by their nature unpredictable. We’ve had at least four such events in the past year:
- Last April’s volcanic eruption in Iceland that spewed ash in the air, shut down 100,000 transatlantic flights and cost the airline industry $2 billion;
- Also last April, the explosion of the Deepwater Horizon oil rig in the Gulf of Mexico;
- Commencing last December, street protests resulting in changes of leadership in a number of countries in North Africa, leading directly to the current war in Libya;
- And of course the earthquake, tsunami and nuclear-reactor crises in Japan.
In light of episodes like these, investors need to take away two key lessons.
Lesson One: Expect the unexpected
The only way to deal with uncertainty and manage the impact of unforeseen events is to build strict risk controls into portfolios, similar to those used by the most sophisticated pension funds. While the risk of one time incidents can’t be eliminated, through diversification and risk management we can limit the damage when negative events occur — whether they be massive frauds such as Enron, sudden bankruptcies like Lehman Brothers, volcanic eruptions, oil rig explosions or earthquakes.
I thought it might be useful to provide an overview of my approach to risk management in portfolio construction. There are three steps in this process.
Step one: Identify target mix
First, we identify the target mix of stocks, bonds and cash that, based on historical precedent and current valuation levels, will over time have a high likelihood of providing the returns you need to achieve your long term goals with a level of volatility you can live with along the way.
Step two: Diversify
Next we and the money managers we work with carefully diversify your portfolio, by placing limits on the exposure to any one company, industry sector or region. For individual holdings, it’s typically an absolute percentage of your portfolio — so for example no one stock should make up more than 5% of your equity holdings and no one bond should represent more than 3% of your fixed income exposure.
As well, no matter how optimistic we are about an industry sector or region, its weight should never be more than 50% above its underlying importance in the market as a whole.
Step three: Stay balanced
In the final step, at least once a year we conduct an in depth analysis of each portfolio. Over time, asset classes, industry sectors and individual stocks that do well will increase their presence in your portfolio and bump up against the risk control limits.
At that point, your portfolios need to be rebalanced back to the target asset allocation and some of the positions that have outperformed might be trimmed to stay within risk control limits. Some investors find this very difficult — after all you’re selling exactly those investments that have done the best.
But it’s the only way to stay truly diversified and control the risk that accompanies overexposure to any one stock, industry sector or geographic region. And it’s also the only way to get some protection from things that simply can’t be anticipated.
Lesson Two: Avoid overconfidence
Aside from the time entailed, there is one big negative to the risk controlled approach to portfolio construction — in the short and mid-term, there will always be someone who’s made a big bet that’s paid off and who is doing better than you as a result. Because it eliminates big bets, a risk controlled approach to investing will seldom give you bragging rights on the golf course.
Investors who take the big bet approach typically have a high degree of confidence in their investments; after all, if you’re absolutely certain about a company or industry, why bother to diversify? On the other hand, research by the University of Chicago’s Richard Thaler has demonstrated that overconfidence is among the most costly traits an investor can have.
Think no further than the Canadians who stuffed their portfolios with Nortel during the tech boom. At its peak, Nortel represented 35% of our market — and 50% plus of many portfolios. While not nearly as extreme, a case can be made that as a result of their strong performance over the past ten years, today many investors have too much of their savings in Canada’s banks, gold, oil and mining stocks and Canadian stocks as a whole. In fact, many global analysts today identify Canada as one of the most expensive stock markets among all the developed countries.
The quote from Mark Twain at the start of this letter says it all — what gets us in trouble aren’t the things we’ve identified as question marks and causes for concern. Rather, portfolios crater because of the things that we’re absolutely positive about — right until unanticipated occurrences catch us by surprise.
We’ve always had unexpected events and always will — and despite these economies have grown, companies have prospered and stock markets have generated positive returns. The key to benefiting from this long term growth has been to diversify so that no single event can create permanent damage to portfolios. When it comes to long term investing, it’s not only that a slow and steady approach wins the race, but more importantly slow and steady survives to cross the finish line.
I believe that we will work through the recent events also — and that investors with a balanced approach and a long term view will be well rewarded. The approach to risk management I’ve described may not be fun or sexy in the short term, but all the evidence at hand suggests that over time it will serve you well, getting you to your goals with the least amount of stress and distress along the way.
At our next meeting, I’d be happy to discuss the impact of rebalancing on long term returns. Should you have any questions in the meantime on your portfolio, the contents of this note or any other issue, please give me a call — I’d be happy to deal with your questions on the phone or at our next meeting.
As always, thank you for the opportunity to work together.
Name of advisor
Tags: Continuation, Corporate Profits, Critical Lessons, First Quarter, Global Economy, Initial Setback, Investment Advice, March 11, Mark Twain, Market Performance, Naval Commander, North Africa, Pliny The Elder, Portfolios, Quarter Letter, Relevant Quotation, Sentiment, Term Prospects, Tsunami In Japan, Turmoil
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Wednesday, February 23rd, 2011
Capital International Asset Management is now offering 1.5 CE Credits Online that are IIROC/Advocis approved.
Visit Capital International’s Continuing Education Centre for online registration, and to get your approved CE credits today.
Here are the available courses:
Runtime: 43 minutes
Total videos: 5
More and more, where a company is based is an ineffective screen for equity investing. It’s where and how a company does business, not where it is based, that matters most. The three veteran investment professionals in this panel discussion present a compelling case for diversifying beyond Canada, getting emerging markets exposure through developed-market companies, and why it’s important to break down the “silos” of traditional equity research.
Carl Kawaja, Portfolio manager
Jeremy Burge, Investment analyst
Rob Lovelace, Portfolio manager
Runtime: 43 minutes
Total videos: 5
Two veteran fixed-income managers share candid views on the state of today’s bond market, including 10 rules for thinking about bonds, why we’re not facing a bond “bubble”, the dangers of unknown issuers piling into the corporate market, how a currency specialist evaluates the Canadian dollar, and why inflation and interest rates may remain low for several years.
Mark Brett, Portfolio manager
Jim Mulally, Portfolio manager
Runtime: 51 minutes
Total videos: 6
This macroeconomic panel takes the pulse of the U.S. economy, which remains Canada’s primary “blood supply”. The charts (available to download) cover wide-ranging topics including a historical look at price-to-earnings ratios in other low interest rate periods, a look at equity returns during inflationary and deflationary environments, and an examination of the new drivers of the global economy: a middle-class “boom” in developing countries.
Darrell Spence, Economist
Elizabeth O’Connor, Economist
Tags: Advocis, Blood Supply, Bond Market, Burge, Candid Views, Continuing Education Centre, Course Details, Double Dip, Emerging Markets, Equity Research, Fixed Income, Global Economy, International Asset Management, Investment Analyst, Investment Professionals, Kawaja, Lovelace, Mulally, Panel Discussion, Portfolio Manager, Rate Periods, Silos
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Tuesday, August 10th, 2010
During the last week there has been a great deal of interesting and unusual but positive commentary about the upturn in the market and the economy.
In our first selections this week, Laszlo Birinyi, who runs an excellent asset management shop, a long-time contributor to Forbes Magazine, and runs Tickersense.com, comments that the market rally is a signal that the economic recovery will be far stronger than forecasters’ consensus estimates. In a follow up article, Birinyi says that waiting for an economy Roubini can believe in means missing rally.
Birinyi Says Stocks Rally Signals Economic Rebound, August 24, 2009, Bloomberg.com
Birinyi said on May 20 that the S&P 500 would climb to a record 1,700 in the next two or three years, a 66 percent gain from its current level. The index has rallied 14 percent since his forecast. The benchmark for U.S. stocks may rise 6 percent to 1,087 within the next three months “if it continues to progress at the rate it’s been progressing,” he said
Waiting for Economy Roubini Can Believe In Means Missing Rally, August 26, 2009, Bloomberg.com
“We’re looking at a bull cycle in phase one,” Laszlo Birinyi said in a telephone interview yesterday. Birinyi was the top-ranked Dow Jones Industrial Average forecaster for most of the 1990s on PBS’s “Wall Street Week with Louis Rukeyser.” “No one wants to come out and say, ‘This is a bull market.’ Everyone’s just dancing around the term,” he said.
John Lipsky, First Deputy Managing Director at the IMF states that there are ‘Clear’ signs of a global rebound under way.
IMF’s Lipsky Sees ‘Clear Signs’ of a Global Rebound, Bloomberg.com, August 24, 2009
The global economy is showing “clear” signs of a rebound and central banks are unlikely to raise borrowing costs for many months, the International Monetary Fund’s No. 2 official said.
“The signs are clear — if still tentative — of renewed growth,” John Lipsky, the IMF’s first deputy managing director, wrote today on its Web site. “With inflation threats distant, there is little doubt that central bankers intend to keep policy interest rates very low for some time to come.”
Kenneth Rogoff, former Chief Economist, IMF and Harvard U Prof says “There is no question the global economy is healing and emerging from recession,” in an Bloomberg TV interview August 21, 2009.
World Economy Emerging From Worst Recession Since World War II, Bloomberg, August 22, 2009
The global economy may be coming out of the worst recession since World War II as record-low interest rates and trillions of dollars in fiscal stimulus spur demand.
Sales of existing U.S. homes jumped in July to the highest level since August 2007, and German service industries expanded this month for the first time in almost a year, reports yesterday showed. The Japanese economy grew for the first time in five quarters, according to a report earlier this week.
Next, and most dear to Canadian investors, there has been excellent news on the retail sales and banking front at home. Stewart Hall, Economist for HSBC Canada says “All in, the month of June is shaping up nicely with manufacturing, wholesale and now retail sales all posting upside surprises and suggesting that the economy is stabilizing and beginning to transition over to the recovery phase.”
Surging retail sales lift hopes for Canada economy, Thomson Reuters, August 24, 2009
Canadian retail sales grew much faster than expected in June, the latest in a series of upbeat economic numbers to raise hopes the economy is pulling out of recession.
Sales jumped 1 percent from May, far surpassing forecasts for a 0.2 percent increase, Statistics Canada said on Monday.
But much of the gain was due to rising prices, especially for gasoline, while the volume of sales inched up by just 0.4 percent.
Sales were down 4.4 percent from a year earlier.
The report points to a recovery in consumer demand during the second quarter, after two straight quarters of sharp declines in spending.
“All in, the month of June is shaping up nicely with manufacturing, wholesale and now retail sales all posting upside surprises and suggesting that the economy is stabilizing and beginning to transition over to the recovery phase,” said Stewart Hall, an economist at HSBC Canada.
Our long standing love affair with our banks stocks have been warranted all along despite last year’s losses. BMO’s report today indicates that loan defaults have peaked, as BMO reported lower than expected loan loss provisions and $1 per share in today’s earnings report.
BMO Shows Credit Storm is Passing, Andrew Willis, Globe and Mail, August 26, 2009
Better-than-expected loan performance at Bank of Montreal is expected to boost all the Canadian banks, as analysts predict individual loan defaults have peaked.
Bank of Montreal (BMO-T) turned in earnings of $1 a share on Tuesday, well above the consensus forecast of 90 cents. Analyst John Aiken at Dundee Securities said: “The big surprise in the quarter was specific provisions of $357-million, well below expectations of above $400-million.”
Finally, a video featuring George Vasic, analyst from UBS:
Dividend Stocks: Get Paid to Wait for a Rebound, George Vasic and Rob Carrick, August 19, 2009
You also get tax benefits and stability, says George Vasic, equity strategist at UBS Securities.
If you have any articles to contribute to our weekly “Articles You Can Send to Clients” feature, please forward them to firstname.lastname@example.org.
Tags: Central Banks, Consensus Estimates, Dow Jones, Economic Rebound, Economic Recovery, Forbes Magazine, Forecasters, Global Economy, Imf, International Monetary Fund, John Lipsky, Laszlo Birinyi, Market Rally, Phase One, Roubini, Telephone Interview, Time Contributor, Upturn, Wall Street Week, Wall Street Week With Louis Rukeyser
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Tuesday, March 30th, 2010
An important note:
Over the past 18 months, the quarterly templates for a client letter have ranked among the most popular features on this site.
Research with investors has identified the five elements of an effective client letter. It has to be:
1. balanced in outlook
3. short enough for clients to get through comfortably but long enough to be substantial
4. supported by facts
5. indicative of the advisors voice and personality
On this last point, if you like the basic structure of the letter, you MUST take the time to customize it to your own philosophy and outlook — I can’t emphasize this strongly enough.
April 12, 2010
“I have no idea what the stock market will do next month or six months from now. I do know that, over a period of time, the American economy will do very well and investors who own a piece of it will do well.”
Warren Buffet in an interview on CNBC on Friday, October 10, 2008
After the market roller coaster of 2008 and 2009, the first quarter of 2010 has been blessedly uneventful by comparison — the markets ended the first quarter about where they started the year, although up almost 60% from their lows of a year ago.
That said, there is still a cloud of uncertainty that is making many investors nervous.
Causes for concern … and for optimism
Even with the stabilization of the global economy, there’s no shortage of short term causes of concern:
… continued questions on the direction and timing of the economic recovery in the United States and Europe
… US housing prices that are staying stubbornly low and unemployment levels in North America and Europe that are stubbornly high.
… and in late March the deputy director of the International Monetary Fund made headlines as he talked about the need for advanced economies to cut spending in order to reduce deficits.
Here’s a New York Times article about the IMF’s views: http://www.nytimes.com/2010/03/22/business/global/22imf.html?scp=1&sq=lipsky%20imf&st=cse
The good news is that there are offsetting positives, even if the media headlines that feature them aren’t quite as prominent:
… on Monday March 22, the Wall Street Journal ran a story about dividend hikes as a result of rising profits by US companies. The article also mentioned that cash on hand on US corporate balance sheets was at the highest level since 2007.
… on the same day the Financial Times ran a similar story about dividend increases in Europe
… and there’s growing attention to the impact that Germany’s emphasis on manufacturing productivity had in sheltering it from the worst of the economic downturn — and questions about whether this might be a model for other countries. In March the Economist ran a 14 page feature on how Germany positioned itself for success.
Forecasting the future
Whether you choose to focus on the positives or the negatives, there’s broad agreement that the steps taken by governments stabilized the financial crisis that we were facing a year ago — and there is almost no talk today of a global depression.
So the issue is not whether the economy will recover, but when and at what rate –and whether there might be another stumble along the way.
If you look for investing advice in the newspaper or on television, the discussion tends to revolve around what stocks will do well in the immediate period ahead … this week, this month, this quarter.
We refuse to participate in that speculation — when it comes to short-term predictions, whether about the economy or the stock market, there’s one thing we can say with virtual certainty: Most of them will be wrong. Quite simply, no one has a consistent track record of successfully forecasting short term movements in the economy and markets.
Which is why in uncertain times such as today, one of the people I look to for guidance is Warren Buffett.
Advice from Warren Buffett
In an investment industry poll a couple of years ago, Warren Buffett was voted the greatest investor of all time; among the runners up were Peter Lynch, John Templeton and George Soros.
Buffett’s returns are a testimony to the power of compounding. From 1965 to the end of 2009, the growth in book value of his investments averaged 20% annually. As a result, $10,000 invested in 1965 would currently be worth a remarkable $40 million. By contrast, that same $10,000 invested in the US stock market as a whole, returning just over 9% during this period, would be worth $540,000.
In one of his annual letters to shareholders, Warren Buffett wrote that it only takes two things to invest successfully — having a sound plan and sticking to it. He went on to say that of these two, it’s the “sticking to it” part that investors struggle with the most. The quote at the top of the letter, made at the height of the financial crisis, speaks to Buffett’s discipline on this issue.
I try to apply that approach as well — putting a plan in place for each client that will meet their long term needs and modifying it as circumstances warrant, without walking away from the plan itself.
Boom times such as we saw in the late 90’s and scary conditions such as we’ve seen in the past two years can make that difficult — but those conditions can also represent opportunity. Indeed, in his most recent letter to shareholders Buffett wrote that “a climate of fear is an investor’s best friend.”
Five core principles that shape our approach
On balance, I share Warren Buffett’s mid term positive outlook, not least because many of the positives that drove market optimism two years ago are still in place, among these the continued emergence of a global middle class in developing countries like Brazil, China, India and Turkey. This educated middle class will fuel global growth that will make us all better off.
In the meantime, here are five fundamental principles that we look for in money managers and that drive the portfolios that we believe will serve clients well in the period ahead.
1. Concentrate on quality
The record bounce in stock prices over the past year was led by companies with the weakest credit ratings. Some have referred to last year as a “junk rally”, with the lowest quality companies doing the best. That’s unlikely to continue– that’s why I’m focusing my portfolios on only the highest quality companies, those best able to withstand the inevitable ups and downs in the economy.
2. Look to dividends
Historically, dividends made up 40% of the total returns of investing in stocks and have also helped provide stability through market turbulence. Two years ago, quality companies paying good dividends were hard to find — one piece of good news is that today it’s possible to build a portfolio of good quality companies paying dividends of 3% and above.
3. Focus on valuations
Having a strong price discipline on buying and selling stocks is paramount to success — history shows that the key to a successful investment is ensuring that the purchase price is a fair one. Investors who bought market leaders Cisco Systems, Intel and Microsoft ten years ago are still down down 40% to 70%, not because these aren’t great companies but because the price paid was too high.
4. Build in a buffer
Given that we have to expect continued volatility, we identify cash flow needs for the next three years for every client and ensure these are set aside in safe investments. That buffer protects clients from short term volatility and reduces stress along the way.
5. Stick to your plan
In the face of economic and market uncertainty, another key to success is having a diversified plan appropriate to your risk tolerance — and then sticking to it. It can be hard to ignore the short-term distractions, but ultimately that’s the only way to achieve your long term goals with a manageable amount of stress along the way.
In closing, let me express my thanks for the continued opportunity to work together. Should you ever have any questions or if there’s anything you’d like to talk about, my team and I are always pleased to take your call.
Name of advisor
P.S. If you’re interested, here’s a link to Warren Buffett’s 2010 letter to investors: http://www.berkshirehathaway.com/letters/2009ltr.pdf
Tags: American Economy, Climate Of Fear, Cnbc, Compendium, Deputy Director, Economic Recovery, First Quarter, Five Elements, Global Economy, International Monetary Fund, Lows, Optimism, Period Of Time, Roller Coaster, Six Months, Stock Market, Target, Unemployment Levels, Warren Buffet, Warren Buffett
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