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Wealth Management

NAVIGATING THE GLOBAL INVESTMENT LANDSCAPE

By Francois van der Merwe, Portfolio Manager at Absa Multi-Management

 

We are living in extraordinary times. The United States (US) economic expansion is now the longest in history, the US president can move markets with a Tweet, de-globalisation is taking hold, populism is rising and a record amount of global bonds are trading at negative yield. The investment landscape has become just as murky. Stocks, especially in the US, are up double digits for the year-to-date and trading at eye-watering lofty valuation levels on the back of buoyant investor sentiment and interest rate cut expectations. At the same time, market commentators are warning that the more than $12 trillion of negative yielding bonds (see graph below) and a yield curve inversion in the US are all distress signals pointing towards imminent global recession. How does one make sense of these conflicting signals and navigate this difficult environment?

 

Global Market Capitalisation of Negative Yielding Debt

 

Source: Bloomberg Global Aggregate Negative Yielding Debt Index

Having a globally diversified portfolio with exposure to best in class investment managers and different asset classes is a good starting point. Understanding how these managers invest and what investment style you are exposed to is critical. Know the pitfalls of passive investing and the shortcomings of index construction (i.e. fixed interest indices are skewed towards the largest borrowers) and understand the risks that you take. Risk has various definitions and meanings to different investors. Sometimes it is meant to describe the volatility of returns (or standard deviation thereof), other times it is viewed as the permanent loss of capital. Importantly, it should also be viewed as the failure to meet a desired outcome over a specified time horizon. Investors should be careful not to chase past best performance, and be aware that previously defensive portfolio strategies might not be as effective in this market cycle.

 

Francois van der Merwe

Active management

When investing with active managers, one’s portfolio will look drastically different and will frequently incur more volatility than the index. Sometimes, it will mean short-term underperformance. However, this differentiation will provide these managers with the opportunity to add value over the long term. Active managers that follow fundamental research will typically invest in businesses that they believe the market often does not fully understand. The resulting share-price variation is usually driven by a multitude of shorter-term investors changing their mind about an asset whose intrinsic value is not really changing at all. In this instance, volatility is not a risk but it creates opportunity for long-term investors that are willing to take the calculated risk believing that they will be compensated for it. It is the multi manager’s role to ensure that active managers are blended together in a complemented manner to ensure one manager’s short-term underperformance is potentially countered by another one’s outperformance, and that both provide long-term outperformance.

 

Volatility

Volatility measures an asset’s price fluctuation over time. An investor with a holding period of less than a year and a half is almost certainly ignoring what matters for the underlying businesses over the longer term. Stock prices change far more frequently than a business’s true structural opportunity. It is thus important for active managers to be able to take long-term positions. Tolerating volatility can generously compensate patient investors over the long term. Investors should also differentiate between positive and negative return volatility, i.e. large swings in returns when these movements are negative and large swings in positive returns. The former being undesirable in all instances, while the latter is acceptable for a long-term investor who wants outsized returns. This is evident in the graph above where Fund B would be considered more volatile than Fund A, but this is due to volatility in positive returns. A different way of assessing a fund’s return profile would be to decompose it into upside and downside capture to a relevant index. This will provide a better understanding of how a manager performs in different market environments.

 

Opportunity Cost

Opportunity cost is also a very real and costly risk to investors. In 2019, the US equity market (as measured by the S&P 500 Index) posted its best first half in 20 years, but many investors missed out on these gains, as indicators of investment sentiment observed some of the most bearing investor confidence since the Global

 

 

Source: Factset

 

Financial Crisis. This is further echoed by US equities having posted 40 straight quarters of institutional outflows despite the longest bull market on record. One way opportunity cost materialises is the instinct to avoid businesses with high, perceived “risk” (volatility) or high valuations, but this often ignores business fundamentals and longer-term opportunities. Often the best days for stock returns occur within two weeks of the worst, and over time, missing those best days can hurt. The chart above shows that missing even the 10 best days can almost halve an investor’s return. Sixty percent of the best 10 days occurred within two weeks of the 10 worst days. While it is never enjoyable to experience the pain of stock price declines, investors should maintain a long-term investment approach that helps them resist the temptation of trying to time the market.

 

Investment Style

Confounding the difficult investment landscape even further is the selection of investment management styles that investors have to choose. From “deep value” investment, where stocks are bought at what is deemed to be a significant discount to their calculated intrinsic value in sometimes un-loved companies, through “growth” investment where companies are bought in the expectation that their earnings growth will be above market average. Another investment style that has grown in popularity is “quality”. Quality criteria can vary among investment managers and can range from soft measures (the quality of the company’s management, economic moat) to hard criteria (balance sheet strength, low debt levels, high returns on invested capital, stability of earnings, free cash flow generation).

If ever there was an environment that favoured safety and certainty, this would be it. Disruption-free, quality, visible growth and defensiveness are all characteristics investors want and have been willing to pay for. As a result, they have rushed headfirst into businesses that have these characteristics – or appear to, anyway. This has resulted in both the “quality” and “growth” styles of investing having had good returns over recent years. The low interest rate environment, that has lifted the present value of future dividend streams and made companies with strong earnings growth seem to be more valuable, also helped in this bull run. In contrast, “value” investing has underperformed severely. The outperformance of growth versus value has now gone on for almost 10 years and is now the longest stretch of outperformance that can be reasonably measured.

 

Value versus Growth

Source: Artisan Partners. As of 30 June 2019. Three-year rolling returns, MSCI AC World Growth Index vs MSCI AC World Value Index.

A rising tide of doomsayers have said that the current underperformance of value versus growth is a repeat of the excesses that were witnessed at the end of the 1990’s with the dot-com boom, where information technology shares have once again led the market to unsustainable valuation levels. However, there are some big differences. Many of the current tech companies have dominant platforms and are global champions. They trade at high return on invested capital (ROICs) and companies with high ROICs justify trading at higher price to earnings (PE) as it is easier for these companies to grow their future earnings than what it is for low ROIC companies. Hence, it is also important to understand that PE ratios alone do not tell us whether one company is cheaper than the other one. There are additional statistics that prove the current technology boom is different to the dot-com one. They include the median age of tech initial public offerings (IPOs) that has risen from four to 12 years and the median sales of tech IPOs that has increased more than threefold. This means that the tech companies that are going to the stock market for capital raising are real companies that have developed robust, viable and innovative business models.

 

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Wealth Management

HOW RESILIENT IS YOUR ORGANISATION’S SECURITY?

Kimon Nicolaides, Digital Services Group Head at MASS

 

Organisational security can be thought of like peeling the layers of an onion – with critical assets sitting in the middle protected by multiple layers, and if one layer is removed or breached, there’s another one underneath. At least that’s the way it should be – too often, however, we see a siloed approach to the different areas of security. In practice, physical, cyber and personnel security can be much more inter-related than many imagine.

The finance sector is arguably one of the more mature in terms of established security measures. However, it’s also vastly diverse, targeted by some of the most advanced threat actors, and one where even the smallest breach has the potential for significant impact, monetarily, or on market reputation, perception or confidence. Security measures should therefore be viewed holistically, led and understood by senior management, otherwise gaps for exploitation will be found by intelligent and experienced people, supported by an ever-growing arsenal of exploitation technology.

Here, we take a closer look at some of the things that comprise a holistic view of security – based on the approach we take with public sector and defence organisations.

 

Physical security

It may seem obvious, but the first layer to assess should be the physical access to your business. For all organisations, this step remains as true today as it ever has been – even for the finance industry where physical security principles have been established over many years.

This stage should go back to the basics of how an intruder could gain access, starting by reviewing the ‘perimeter’ controls. In fact, the first question is, ‘what is the perimeter?’. With the potential for distributed site facilities, linked remote assets, and supply chain dependencies, this simple question needs careful consideration.

Scenario-based analysis, using threat actor personas, motivations and objectives can really help by defining a where a ‘perimeter’ really lies. It’s also an invaluable methodology for exposing how an organisation could be exploited.

This stage should involve a review of physical controls such as fencing, access technology, CCTV coverage etc., including, their role in deterrence and detection of hostile reconnaissance activities.  Disrupting the planning cycle of attacks is often overlooked relative to direct prevention of unauthorised access.

Ultimately, security measures are only as effective as the people that apply them, so an understanding of human behaviours is essential. It’s important to consider how people’s actions affect overall site security and, why these actions occur.

Issues can range from the wearing of security badges in the street through to poor motivation and effectiveness of roving security staff or those monitoring CCTV. Simple and innocent human mistakes could form the seed of future security breaches.

 

Cyber security

The finance sector has progressed its cyber resilience considerably as it’s been dealing with threats for many years. But business sizes now range from the very large to the small and, as new forms of financial transactions evolve, protection becomes more challenging. There is an increased availability of cyber exploitation toolsets and associated managed services and coupled with a reduction in their cost – lowering the financial and technical barriers to advanced cyber-attacks.

This means that cyber security, even for the finance sector, needs to be taken to a new level and existing assumptions continuously challenged.

For example, while penetration testing regimes remain a vital tool in mitigating network cyber risk (including ‘CBEST’ which has been widely rolled out across the finance sector), these still remain a snapshot in time. While they deliver valuable depth of analysis within a network, they are often constrained in breadth of scope and can potentially leave vulnerability blind spots. Very frequent, lighter-touch cyber assessments can fill this gap as they offer a more dynamic view of ongoing vulnerabilities over a wider proportion of the estate, which could represent ‘low hanging fruit’ for the cyber actor. Assessments can be enhanced by applying modern threat intelligence techniques to rapidly identify existing compromises and potential weaknesses (including personnel and corporate digital footprint). This establishes a picture of cyber posture and vulnerabilities before any testing taking place.

Similarly, end-user device security is often viewed in terms of the encryption strength, keys etc.  However, modern methods of fault injection attack (a device’s response to artificially applied ‘fault conditions’ used to derive security credentials), can effectively sidestep assumed security measures, which would normally take decades to ‘crack’ using computer power. So, it makes sense to test a device’s vulnerability to fault injection, rather than assuming encryption alone will protect it.

For this reason, it’s crucial to examine the wider supply chain. In the finance sector, there is high dependence on suppliers of digital telecommunications and energy services, and when different systems are interconnected its challenging to pinpoint cyber resilience risks. Despite this, it’s possible to map complex information to establish risk, by identifying ‘hot-spot’ concentrations of dependencies that represent single-point failures within the complexity of the overall business operation.

 

The insider threat

The potential threat from insiders – those who might misuse their legitimate access to an organisation’s assets for unauthorised purposes – is often overlooked.

This is particularly true for financial businesses, where personal financial gain could be an incentive, or where security controls are so effective that hostile actors must exploit those with legitimate access to circumvent them. You can think of insider threat as the ‘grand master skeleton key’ of security, as there are few security measures that cannot be overcome by the right insider, or team of insiders.  Security compromises involving insiders can also have a disproportionately high business impact.

Yet many organisations consider insider risk to be mitigated simply by pre-employment screening and fail to recognise the spectrum of risks ranging from genuine human error, through to orchestrated insider activity by paid professionals. Insider cases frequently involve individuals who have been with an organisation for some years and have had some personal vulnerability exploited or exposed, or simply become disgruntled.

It’s a broad area to address. Internal governance, security culture, employee wellbeing, employment measures, corporate digital footprint, and perceived employee sentiment are some of the aspects that should be considered. When you have understood this for your own organisation, you should make the same assessment of your supply chain.

If the business is committed, it’s possible to use structured analytical methods to quantify your organisation’s maturity and assess where the key vulnerabilities and risks could lie. This understanding paves the way for improvement, and even small changes can make a big difference.

 

The hidden layers

Like an onion, there are hidden layers to security that may be overlooked so it’s important to consider physical, cyber and personnel security collectively, and to understand the dependencies you have as a business.

For example, your own environment may be protected, but if data is shared with your suppliers or partners, is it still secure? Similarly, if a supplier or partner has a security breach, what does it mean for your operation, your business continuity and your customers?

When assessing security measures, it’s essential to go an extra layer deeper and consider how a range of factors could impact your organisation and its readiness to respond to an incident.

At MASS, our security experts consist of professionals with extensive experience in preventing security breaches and performing assessments in accordance with Ministry of Defence processes, so that we can ensure our security analysis meets and exceeds industry best practice.

For more information, please visit: https://www.mass.co.uk/what-we-do/cyber-security/cyber-security-training/

 

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Wealth Management

HOW TO CATCH UP ON YOUR RETIREMENT SAVINGS

By Gerard Visser, Certified Financial Planner at Alexander Forbes

For many South Africans who were already finding it difficult to save for retirement, Covid-19 has created additional financial pressures which may take years to overcome.

If you stopped contributions to your retirement annuity, or took a payment holiday on your pension or provident fund, you might be worried about the shortfall created, and how you’re going to catch up.

Stop worrying and take action to avoid retiring with insufficient funds. There are many ways to contribute to your retirement, from employer and employee contributions to pension or provident fund, monthly contributions to a Retirement Annuity or a tax free savings account.

With many people having a reduced income due to the economic ramifications of Covid-19, it might be impossible to contribute a large monthly amount to catch up while having concerns such as debt to pay, but I recommend starting with your budget. This will aid you not only by freeing up extra funds to catch up your retirement contributions with, but could also create some peace of mind with an opportunity to pay debts off faster or save some discretionary money.

Gerard Visser

There are many reasons why it is important to follow a monthly budget. Besides reducing stress levels by keeping an eye on your spending habits, it also allows you to track your debts, finding opportunities to top up emergency funds or save extra towards your retirement. A budget goes hand-in-hand with setting and achieving financial goals.

A budget does create an additional administrative burden and requires time to update. I have my budget on an Excel spreadsheet and update it monthly when making EFT payments.

Costs for entertainment, groceries and petrol are variable in nature and change each month. You might end up not using all the funds set aside for these variable costs. Adding these leftover funds at the end of the month to your savings is a good habit to inculcate. The immediate impact might seem small but over time will make a positive outcome to both your retirement and the development of a savings mind-set.

When you are able to free up some money each month, start automating your savings. Instead of having a variable amount go towards savings, set up an automatic contribution, where you “pay yourself first”. Set up an automatic debit for your retirement savings and you’ll grow these funds without having to think about it.

One of the most important decisions you can take to help make your retirement comfortable is preserving your retirement funds when changing employer.

When starting new employment or if you are coming out of a payment holiday, try matching your employer’s monthly contribution toward your pension or provident fund, or if on a total cost to company structure, start on the maximum employee contribution percentage. By doing this as well as automating your savings, you get use to contributing those amounts and could potentially have a larger nest egg at retirement.

Remember that life happens, and your budget might come under strain – many of us have experienced this during the pandemic. If you have been going through a difficult financial time, it is time to reassess and ask yourself, what in your budget is necessary and what is actually a luxury?

It is never too late to start sorting out your finances, but the earlier you start, the better, and more achievable, the outcome will be.

 

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