hot topics | investment insights | march 2017 leading

LEADING OPINION: GETTING MORE OUT OF INVESTING

Hot Topics | Investment Insights | March 2017

Presenters

THE

EXPERTS

Michael Prinsloo

Executive Head: Institutional Research & Product Development

Anne Cabot-Alletzhauser

Head: ResearchLesiba Mothata

Chief Economist: Investment Solutions

Presenters

THE

EXPERTSInge West

Head: Responsible Investing –

Investment Solutions

Rob Southey

Head: Asset Consulting

Topics

Setting the scene

Interplay between politics & economics

Responsible investing

Break at 10:30

Black asset managers

Trends in investment costs

Phi

Setting the scene

The shape of things to come

Asset

management

over the

coming decade

From the CFA Institute*

*Chartered Financial Analyst

Investment industry is struggling to deliver on promises:

managing wealth creation & risk to meet goals, & mobilizing

capital to create growth & employment

The industry has overwhelmed the profession

Risks abusing the “license to operate” that society grants

Need to reconnect with client purpose to strengthen value

proposition & trustworthiness

Money may make money – but money does not create value

Asset management grows up from profession to

business

Source:

template

Source:

Scenarios

Source:

new technologies = new business model

challengers do better than incumbents -

disrupts who does what in value chain

Landscape Can now solve for individual on every levelRegulatory environment must accommodateOrganizationsTraditional active management community shrinks but re-emerges in evolved form PeopleChanges who does what jobHighly personalisedRobo-advice Algorithmically driven

Can now solve for

individual on every

level

Regulatory

environment must

accommodate

Traditional active

management

community shrinks

but re-emerges in

evolved form

Changes who does

what job

Highly personalized

Robo-advice

Algorithmically

driven

Landscape Organizations People

1. Fintech disruption

Scenarios

Source:

Different segments, by geography / populations engage

differently with investing & have different financial needs

Technology provides

education leveler

Different histories

create different

priorities

What worked in the

West

Rethink optimal

technology

Public / private

partnerships with

Government

The challenge of

bringing financial

planning to everyone

– who may have little

in the way of assets


2. Parallel worlds

Scenarios

Source:

New normal interest rates & returns become embedded for the

foreseeable future (5 to 10 years) – lower growth

Headwinds to growth

from indebtedness

Conditions for

pensions poverty

Costs are seen as an

unacceptable drag

on performance

Margin pressure

Trust in financial

firms low given

outcomes

Inequality fissures


3. Low for longer

Scenarios

Source:

Finance raises its game and connects back to purpose

From business back to profession

Client-focus the new normal

“Societally guided

capitalism”

Regulatory

intervention

Investing for impact

Asset owners adopt

bigger role in

ecosystem

Increased focus on

fiduciary alignment

Financial service

provider must

demonstrate “clean

license to operate”

through ESG &

client-focus


4. Purposeful capitalism

template

Source:

Interplay between politics & economics

template

Definition of animal

spirits

US business cycle and

cash hoarding

Trump and animal spirits SA throttled

animal spirit

Path to recovery

0102

0304

05

Agenda

Cannot ignore behavior & emotions

Source: Keynes, John Maynard. "The general theory of employment, money and interest." The Collected Writings 7 (1936)

:

"Most, probably, of our decisions to do

something positive, the full consequences

of which will be drawn out over many days

to come, can only be taken as the result of

animal spirits – a spontaneous urge to

action rather than inaction, and not as the

outcome of a weighted average of

quantitative benefits multiplied by

quantitative probabilities."

John Maynard Keynes, 1936

Nobel Laureate’s interpretation of economics

Source: George Arkelof and Robert Shiller (2009)

To understand how the economy

really works is to appreciate how it

is driven by animal spirits.

Pay attention on thought patterns

that animate people’s ideas &

feelings

Instabilities of capitalism are

underpinned by animal spirits.

What caused 2008 global financial

crisis was excess; Wall Street’s

animal spirits ‘got drunk’.

Interaction between politics & economics

Source: Concept borrowed from George Arkelof and Robert Shiller: Animal Spirits - How Human Psychology Drives the

Economy, and Why It Matters for Global Capitalism, Princeton University Press, Princeton and Oxford, 2009

PoliticsAnimal spirits

+Economics &

markets

template


spirits


cash hoarding


animal spirit

Path to recovery

0102

0304

05

Agenda

NBER’s business cycle dates

Source: National Bureau of Economic Research, US Business Cycle Expansions and Contractions

Previous recession was the

deepest since post-World War II

9 months 9 months 18 months

Jun

2009Nov

2001Mar

1991July

1990Mar

2001Dec

2007

Selected DMs: Corporate cash balances

Source: P Morgan, February 2017

788 768

1014

11611210

1311

1439 14531524

'07 '08 '09 '10 '11 '12 '13 '14 '15

MSCI US ex-Financials Cash on Balance sheet ($bn)

602 597

735793 773

847 872936

1001

'07 '08 '09 '10 '11 '12 '13 '14 '15

MSCI Europe ex-Financials Cash on Balance sheet (€bn)

EM’s corporate cash balances

Source: JP Morgan, February 2017

503559

718

853 872

9631017

1190 1201

'07 '08 '09 '10 '11 '12 '13 '14 '15

MSCI Emerging Markets ex-Financials Cash on Balance sheet ($ bn)

template


spirits


cash hoarding


animal spirit

Path to recovery

0102

0304

05

Agenda

CEO’s spending intentions

Source: United Nations Conference on Trade and Development (UNCTAD), World Investment Report, 2016

Evidence that animal spirits are constrained

All 26 25 41 8 18 20 50 12 13 18 52 16

Executives’ global FDI spending intentions, 2016-2018, with respects to 2015

levels (Per cent responding executives, based in each region and sector)

Emerging markets 35 23 42 20 20 57 3 16 16 61 6

Top MNEs 45 16 32 6 29 23 35 13 22 19 44 16

Developed countries 24 26 40 10 17 19 49 15 12 18 51 18

No change Decrease Increase No change

Trump’s policy priorities

Source: MFS Institutional Advisors, January 2017, Market Insights

POLICY INITIATIVE EFFECT ON REAL GROWTH EFFECT ON INFLATION

Affordable Care Act reform Unclear Unclear

Dodd-Frank reform Positive Positive

Immigration reform Negative Positive

Trade protectionism

Leading to trade war

Negative

Negative

Positive

Negative

Corporate tax reform Positive Positive

Profit repatriation Positive Positive

Income tax reform Positive Positive

Infrastructure/defense

spendingPositive Positive

Reg

ula

tory

Exte

rnal

Fis

cal

Tax cuts do not immediately improve profits

Source: GMO Quarterly Newsletter, Q4.2016

US corporate profits and companies tax (20-year lag)

Tax rateProfits

Co

rpo

rate

Tax R

ate

Aft

er-

Tax P

rofi

ts/G

DP

wit

h IV

A &

CC

ad

j

1947 1953 1959 1965 1971 1977 1983 1989 1995 2001 2007 2013

55%

50%

45%

40%

35%

30%

25%

20%

11.0%

10.0%

9.0%

8.0%

7.0%

6.0%

5.0%

4.0%

Noticeable rebound in business confidence

Source: JP Morgan, February 2017

-2

-1

0

1

2

2010 2011 2012 2013 2014 2015 2016 2017

Global business confidence Standard deviation from average, 2010-present

EM

G-4

Global

Note: Emerging Market (EM)’s November data point is an estimate from JP Morgan

Has Trump ignited animal spirits?

Source: ABSA Asset Management, Errol Shear, 24 January 2017

MS Capex Plans Index (rhs)

NFIB Small Business Optimism Index (lhs)

110

105

100

95

90

85

80

50

40

30

20

10

-10

-20

0

04 05 06 07 08 09 10 11 12 13 14 15 16

Huge spike in optimism

US net debt to GDP

Source: MFS Institutional Advisors, January 2017, Market Insights

CRFB = Committee for a Responsible Federal Budget

0%

20%

40%

60%

80%

100%

120%

1940 1945 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 2020

Ne

t d

eb

t-to

-GD

P

Net debt-to-GDP for new US presidents(Public debt)

Trump Projected

(Source: CRFB)

Current

Law

Truman: 104%

Eisenhower: 57%

Kennedy: 44%

Johnson: 41%

Nixon: 28%

Ford: 23%

Carter: 27%

Reagan: 25%

H.W. Bush: 39%

Clinton: 48%

W. Bush: 31%

Obama: 52%

Trump: 77%

Big fiscal

deficits under

Trump?

template


spirits


cash hoarding


animal spirit

Path to recovery

0102

0304

05

Agenda

SARB’s business cycle dates

Source: South African Reserve Bank and Investment Solutions

40 months

52 months

21 months

101 months

33 months Longest

post-1994

economic

downturn

Aug

2009Aug

1999Dec

1996

Dec

2007

Nov

2013

Business confidence has hardly recovered

Source: Bloomberg and Investment Solutions

0

20

40

60

80

100

Ind

ex L

evel

RMB-BER Business Confidence Index

Business investment recession


-15.0%

-10.0%

-5.0%

0.0%

5.0%

10.0%

15.0%

20.0%

1994 1995 1997 1998 2000 2001 2003 2004 2006 2007 2009 2010 2012 2013 2015 2016

Year-

on

-year

(5-y

r m

ov.

ave.)

Gross fixed capital formation for private firms in SA5 year rolled average (year-on-year)

Capital investment by private businesses Post-1994 average

Capital formation

Source: South African Reserve Bank

0%

20%

40%

60%

80%

100%

1946

1948

1950

1952

1954

1956

1958

1960

1962

1964

1966

1968

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

2008

2010

2012

2014

Stock of gross capital formation by type of organisation

Government SOEs Private businesses

Private businesses marks up the lions share

Protectionist America will hurt flows

Source: Institute of International Finance (IIF), February 2017

Mexico and SA most at risk for FDI inflows

IIF’s revisions to 2017 FDI forecasts for selected

Emerging Market Countries – US$ billion

2017f (Nov 16) 2017f (Feb 17) Change

1 Brazil 56.4 62.0 +10.0%

2 India 71.4 65.0 -9.0%

3 Korea 26.0 21.84 -16.0%

4 China 143.0 110.0 -23.1%

5 Argentina 12.9 9.0 -30.0%

6 South Africa 15.8 10.9 -31.0%

7 Mexico 22.4 13.0 -42.0%

SA underperformance of EM’s on FDI

Source: United Nations Conference on Trade and Development (UNCTAD), World Investment Report, 2016

1.0

3.0

5.0

7.0

9.0

11.0

13.0

15.0

FDI inflows % of gross fixed capital formation (5-year rolled average)

Developed economies Emerging economies South Africa

Post-2008 structural weakness

SA private non-financial corporate deposits

Source: South African Reserve Bank

Lazy balance sheets

2006

R334 billion

2011

R491 billion

2016

R722 billion

template


spirits


cash hoarding


animal spirit

Path to recovery

0102

0304

05

Agenda

Path of private investment during upswings


75

95

115

135

155

175

195

215

235

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36

Ind

ex

Quarters

Private-sector gross fixed capital formation through upswings in the business cycle

1993-1996 1999-2007 2009-2013

Business confidence in SA

Source: Bloomberg and Investment Solutions

0

10

20

30

40

50

60

70

80

90

100

1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35

Ind

ex

Quarterly Periods

Business Confidence Through Upswings in Business Cycle

1993-1996 1999-2007 2009-2013

Create special economic zones in the metros

Source: World Bank, South Africa Economic Update, Private Investment for Jobs, January 2017

“Locating SEZs in metropolitan areas, were most growth and job creation will likely occur, provides the

best chance of unlocking the agglomeration forces that will make SEZs economically successful

and better integrated in local economies” (World Bank, South Africa Economic Update, Jan 2017, page 41)

Richards Bay

Industrial

Development

Zone (2015)

30

25

20

15

10

5

0

Direct jobs Indirect and construction jobs

East London

Industrial

Development

Zone (2015)

COEGA (2015) Dube

Tradeport

(2020 target)

Saldanha

(Steady State)

Atlantis

(Steady State)

‘00

0

40

45

Number of jobs created by special economic zones

SA has the highest responsiveness

Source: Loungani and Mishra (2016) & International Monetary Fund

1% increase in GDP is matched by an increase in employment of 0.75%

Spanning the globe

The number of jobs created by growth varies widely across countries

Au

str

ali

a

Un

ited

Sta

tes

Ca

nad

a

Un

ited

Kin

gd

om

Sau

di A

rab

ia

Ko

rea

Ru

ssia

Germ

an

y

Italy

Arg

en

tin

a

Fra

nce

Mexic

o

Bra

zil

0.8

0.6

0.4

0.2

0

-0.2

Ch

ina

Ind

on

esia

Tu

rkey

Note: The chart shows the response of employment growth to real GDP growth. India is not shown due to lack of data

So

uth

Afr

ica

-25%

-15%

-5%

5%

15%

25%

-60%

-40%

-20%

0%

20%

40%

60%

1997 2000 2003 2006 2009 2012 2015

SA earnings growth vs. capital formation

Real earnings growth y/y Gross fixed capital formation

Earnings growth and private capital allocation

Source: Bloomberg and South African Reserve Bank

Key take outs

Investors ought to be cautious of being heavily influenced

by the noise that can surround politics.

Investment outcomes can, at times, differ vastly from the

economic and political situation.

Eventually, markets will again reference fundamental

values, riding away from all the euphoria created by

animal spirits.

Conclusion

Partisan

politics

impacting

economics

SA must boost

business

confidence

1 23

Animal spirits

can not be

ignored

Responsible investing

Asset bubbles

Biodiversity loss Cyber attacks

Weak climate change response

Fiscal crises

Food crises

Interstate conflicts

Man-made catastrophes

Involuntary migration

National governance failures

Natural catastrophes

Regional governancefailures

Social instability

State collapseor crisis

Terrorist attacks

High unemployment

Water crises

Extreme weather

3.2

3.3

3.4

3.5

3.6

3.7

3.8

3.9

4.0

4.6 4.8 5.0 5.2 5.4 5.6 5.8 6.0

Imp

ac

t

Likelihood

Investing in a fragile world

Note: Global Risk Perceptions Survey (745 responses worldwide): Respondents were asked to rate each risk based on its likelihood and impact on a scale

from 1 to 7 and 1 to 5, respectively. Outliers not shown: Weapons of mass destruction rank top in terms of impact, but are considered to be the second-least

likely risk. Similarly, the spread of infectious diseases ranks above-average in terms of impact, but significantly below-average in terms of likelihood.

Source: World Economic Forum, Global Risks Report 2017, Mercer

Global risk landscape 2017 – Top risks in terms of likelihood & impact

Economic Environmental Geopolitical Societal Technological

What is responsible investing?

“Responsible investment is an approach to investing that aims to

incorporate … ESG factors into investment decisions in order to

better manage risk and generate sustainable, long-term returns.”

Principles for Responsible Investing (PRI)

“Responsible investment is building on traditional investing with

an extra layer of due diligence that incorporates … ESG factors.”

Mercer

What is responsible investing?

“Are the best interests of savers only to be defined as their

financial interest?

Are not the social and environmental interests of savers also

to be taken into account?

What good is an extra percent or three of financial return if the

society in which they are to enjoy retirement and in which their

descendants will live deteriorates.”

United Nations Environmental Programme Financial Initiative (UNEP FI)

More managers say that

clients are short-term

focused

More managers say there is

low investor education on

ESG issues

Industry perceptions

Source: Investment Solutions Responsible Investing Survey (2016)

Barriers to responsible investing

57%

28%

61%

27%

42%

6%

Local Global

2016

2015

2014

52%

14%

67%

18%

55%

6%

Local Global

2016

2015

2014

Industry perceptions

Source: Investment Solutions Responsible Investing Survey (2016)

The majority of managers say

consideration of ESG factors

results in a better assessment

of risk

Managers that say

consideration of ESG factors

enhance returns

How ESG factors affect investment performance

50%45%

50%45%

41%47%

Local Global

2016

2015

2014

93%83%

88% 86%78%

53%

Local Global

2016

2015

2014

A potential alpha generator?

Source: Nagy, A, Kassam, A & Lee, L. 2016. Can ESG add alpha? An analysis of ESG tilt and momentum strategies. MSCI &

SSGA

ESG TILT

Overweights stocks

with higher ESG

ratings

ESG MOMENTUM

Overweights stocks

that have improved

their ESG rating over

recent time periods

Note: The ESG momentum strategy is lagged by one year to allow for the change in ESG rating to be calculated. ESG ratings are

based on MSCI’s ESG rating system and returns are all backtested.

ESG tilt & momentum strategy active cumulative performance versus MSCI Index: Feb 2007 to March 2015


Source: Nagy, A, Kassam, A & Lee, L. 2016. Can ESG add alpha? An analysis of ESG tilt and momentum strategies. MSCI

& SSGA

Active return

(%)Active risk (%)

Style 0.76 0.00

Industry 0.08 0.21

Country -0.18 0.01

Currency -0.01 0.02

Specific 0.43 2.23

Total active 1.06 2.55

Active return

(%)Active risk (%)

0.72 0.08

0.44 0.35

-0.28 0.14

0.03 -0.05

1.32 2.07

2.23 2.59

ESG tilt source of returnESG momentum source

of return


33.24%

33.42%

-60%

-50%

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%S

ep

07

De

c 0

7

Ma

r 08

Ju

n 0

8

Sep

08

De

c 0

8

Ma

r 09

Ju

n 0

9

Sep

09

De

c 0

9

Ma

r 10

Ju

n 1

0

Sep

10

De

c 1

0

Ma

r 11

Ju

n 1

1

Sep

11

De

c 1

1

Ma

r 12

Ju

n 1

2

Sep

12

De

c 1

2

Ma

r 13

Ju

n 1

3

Sep

13

De

c 1

3

Ma

r 14

Ju

n 1

4

Sep

14

De

c 1

4

Ma

r 15

Ju

n 1

5

Sep

15

De

c 1

5

Ma

r 16

Ju

n 1

6

Sep

16

De

c 1

6

MSCI WORLD ESG

MSCI WORLD

Since inception return (p.a.)

MSCI WORLD ESG 3.12%

MSCI WORLD 3.14%

Tracking Error: 1.07%

Source: MSCI, Old Mutual Customised Solutions

Note: Returns prior to June 2013 are backtested



Note: Returns prior to June 2013 are backtested

37.63%

-5.92%

-80%

-60%

-40%

-20%

0%

20%

40%

60%

Sep

07

De

c 0

7

Ma

r 0

8

Ju

n 0

8

Sep

08

De

c 0

8

Ma

r 0

9

Ju

n 0

9

Sep

09

De

c 0

9

Ma

r 1

0

Ju

n 1

0

Sep

10

De

c 1

0

Ma

r 1

1

Ju

n 1

1

Sep

11

De

c 1

1

Ma

r 1

2

Ju

n 1

2

Sep

12

De

c 1

2

Ma

r 1

3

Ju

n 1

3

Sep

13

De

c 1

3

Ma

r 1

4

Ju

n 1

4

Sep

14

De

c 1

4

Ma

r 1

5

Ju

n 1

5

Sep

15

De

c 1

5

Ma

r 1

6

Ju

n 1

6

Sep

16

De

c 1

6

MSCI EM ESG

MSCI EM


MSCI EM ESG 3.48%

MSCI EM -0.65%



73.23%

62.18%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

Oct 12 Mar 13 Aug 13 Jan 14 Jun 14 Nov 14 Apr 15 Sep 15 Feb 16 Jul 16 Dec 16

Responsible Investment Equity Index Fund

ALSI SWIX


Responsibility Investing Index 13.80%

SWIX 12.05%



Note: Returns prior to April 2016 are backtested

What strategies are available ?

Source: PRI

Impact

investing

Positive

screening

Negative

screening

Thematic

investing

Exclude certain stocks generally related to ethical concerns e.g.

Alcohol, tobacco, pornography, arms

Also known as best in class screening i.e. managers choose

best performing stock in a sector

Invest in projects with the intention to generate a measurable,

beneficial social or environmental impact alongside a financial

return

Invest in assets specifically related to sustainability themes,

such as natural resource scarcity, energy security and climate

change

Active

ownership

Managers use their influence as shareholders to positively

affect a company’s conduct through engagement and proxy

voting

Integration Systematic inclusion by investment managers of ESG factors

into traditional financial analysis.

How is Investment Solutions doing?

Source:

2016 Global PRI assessment results

Strategy and Governance

- Maintained our score of A

Listed equity

- Improved over the years to a score of A+

- Only 10% from 790 managers globally

received a score of A+

Fixed income

- Included fixed income in our 2016 due

diligence trip

Source: PRI

Role of trustees - holding asset managers to account

Trustees need to start asking managers to:

describe how ESG issues are considered in their

investment process & ask for examples to demonstrate

how this is done

comment on material ESG risks in their portfolios & how

they are addressing these

provide evidence & outcomes (with relevant examples) of

engagements they’ve had with company management

explain their approach to proxy voting & advise what proxy

voting policies are in place.

Role of trustees - ESG recommendations within King IV

Principle

3

….the fund is and is seen to be a responsible corporate citizen…in

line with Regulation 28 of the Pension Funds Act and calls for the consideration of ESG factors

within the investment process…

Principle

4…the fund to take a long-term view when considering the fund’s performance, for

the benefit of its members….

Principle

7… calls for ongoing learning and development in areas, including those

related to responsible investing and ESG matters…

Principle

10

…while the application of responsible investing principles may be delegated to a third party, this

does not absolve the board from accountability….

Principle

17

…ensure that responsible investment is practised by the fund to promote the good

governance and the creation of value by the companies in which it

invests…

Time for a break

See you after the

break

Black owned asset management landscape

The SA asset management industry has

been slow to transform

Source:

What are some of the things that Trustees need

to be aware of? Transformation is vital for a sustainable &

competitive industry

Regulation 28 requires that trustees consider the

need to promote broad-based black economic

empowerment of service providers (Clause 2(c)(iii))

FSC aims to introduce a voluntary disclosure

program for the Top 100 funds to measure

progress

We need to help promote transformation

SA asset management landscape

Source: Investment Solutions, RMI Investment Managers (November 2016)

Not Black owned

Black owned

Over 130 asset managers in SA of which only 42 are black owned

B-BBEE rating trends

Source: Alexander Forbes, Investment Solutions (June 2016)

Difficult to differentiate asset managers on the basis of B-BBEE scores

alone

0

5

10

15

20

25

Level 1 Level 2 Level 3 Level 4 Level 5 Level 6 Not rated

Nu

mb

er

of

Ma

na

ge

rs

2015 (51 Managers - 25 Black) 2016 (53 Managers - 27 Black)

The industry is highly concentrated

Source: Alexander Forbes AuM Survey, June 2016. RMI Investment Managers, November 2016

None of the Top 10 asset managers are Black owned

52%

48%

5 Asset Managers 100+ Asset Managers

Po

rtio

n o

f in

du

str

y a

ssets

Black manager landscape

Source: Investment Solutions, June 2016

Afena All Weather

Aluwani

Argon Balondolozi

Benguela

Bopa Marua

Cachalia

Element Excelsia

First Avenue

JM Busha

Kagiso

Lunar Maestro

Mazi

Meago

Mergence

Mianzo

Oasis

Pan-African

PerpetuaSentio

Sesfikile

Taquanta

Vunani

-

20

40

60

80

100

120

140

1996 2001 2006 2011 2016

AU

M (

bil

lio

ns)

Year founded

Black manager landscape

Source: Investment Solutions, June 2016

28

12

2

0

5

10

15

20

25

30

< R5bn: Start-up between R5bn and R50bn:Emerging

> R50bn: Established

Nu

mb

er

of m

an

ag

ers

Manager successes

Largest institutional

money market

manager

Amongst top 7 SA

institutional equity

managers

MEAGO

SESFIKILE

Amongst top 5

institutional listed

property managers

Performance of black owned managers

Source: Alexander Forbes Manager Watch Surveys, Investment Solutions, December 2016

-8%

-6%

-4%

-2%

0%

2%

4%

6%

8%

0% 5% 10% 15% 20% 25%

Exce

ss r

etu

rn p

.a.

Tracking error

SA equity – 3 years to 31 December 2016



SA bonds – 3 years to 31 December 2016

0.00%

0.50%

1.00%

1.50%

2.00%

2.50%

3.00%

0.0% 0.5% 1.0% 1.5% 2.0% 2.5% 3.0%

Excess r

etu

rn p

.a.

Tracking error



SA listed property – 3 years to 31 December 2016

0%

2%

4%

6%

8%

10%

12%

14%

0% 1% 2% 3% 4% 5% 6%

Exce

ss r

etu

rn p

.a.

Tracking error

Obstacles facing black asset managers

Source:

Product offering mainly focuses on specialist mandates -

but this is changing

Low penetration in unit trust market

Difficult for asset consultants to cover full manager

universe

Trustees tend to prefer brand names for their managers

Difficult to build / start an asset management business -

require capital, skills & clients

Most managers are small & have short track-records -

requires a mind shift for trustees & consultants

Role that Incubation can play

Source:

Incubation has been important to help many managers

build a track record & grow

Incubation is not a new idea - international as well as local

trend

Investment case is strong as potential for boutique

managers to outperform

Helps develop investment talent

Helps promote a more diverse & sustainable industry

Issues to consider when embarking on the incubation journey

What are you trying to

achieve?

Eligibility criteria

At joining

At target asset value

The fit with the overall

beliefs & investment

strategy

How much to allocate to

incubation?

Case study – Does incubation have an impact?

Source: Eskom Pension and Provident Fund, Investment Solutions, December 2016

Jan-2013 Apr-2014 Jun-2015 Sep-2016 Dec-2017

Benguela

Cachalia

Legacy Africa

Mianzo

Perpetua

Years

R250m - 2 clients

R729m - 3 clients

R1 060m - 5 clients

R906m - 6 clients

R150m - 2 clients

R6 100m - 10 clients

R3 213m - 13 clients

R2 387m - 8 clients

R772m - 5 clients

R466m - 3 clients

Manager 1

Manager 2

Manager 3

Manager 4

Manager 5

Role of trustees

Be strategic & purposeful about

considering B-BBEE mangers

when changing managers

Different ways an incubation

program can be managed:

Direct implementation where

the client does it on their own

with the investment consultant

Through a solution provider

Take away points

Source:

A concerted effort is required by all to support black

owned asset managers to foster transformation

Incubation plays a meaningful role in supporting black

asset managers, but should not be limited to incubation

Landscape continues to evolve - skilled black owned

asset management firms have built a sound track record

Many managers are in the process of building credible &

sustainable businesses

Ultimately, this will lead to a more transformed &

competitive asset management industry

Trends in investment costs

The shape of costs to come

Source:

National Treasury’s 2013 technical

paper: over a 40 year retirement

fund - fee differential of 250 bps vs

50 bps could translate into a 60%

performance differential

Costs became a primary target for

consideration from policymakers

2016 PwC identifies changing fee

models as being one of top 6

gamechangers for 2020

Why are investment costs important

Source:

After 30 to 40 years spent in a fund,

asset manager fees account for most of the charges

The problem

Source:

Therefore, it is correctly a focus area

And low fees can’t be the only consideration - should

always be a question of value i.e. what value is received

for the fee that is paid?

How are the rewards of the process split between the

providers, allocators and managers of capital?

What does the survey tell us about asset manager fees?

Average Fee survey results – various mandates

Source: Alexander Forbes Annual Survey – base fees

0.00%

0.10%

0.20%

0.30%

0.40%

0.50%

0.60%

0.70%

0.80%

2012 2013 2014 2015 2016

0-50 million fee band : 2012 - 2016

Domestic Bonds Average Domestic Equity Average

Domestic Money Market Average Global Balanced Pooled Average

Global Balanced Seg Average

Equities & global balanced

segregated are increasing


0.00%

0.10%

0.20%

0.30%

0.40%

0.50%

0.60%

0.70%

1 2 3 4 5

500+ million fee band : 2012 - 2016

Domestic Bonds Average Domestic Equity Average

Domestic Money Market Average Global Balanced Pooled Average

Global Balanced Seg Average

Global balanced pooled

decreasing

Average Fee survey results – various mandates

What this masks

Source:

Survey is self-reporting and not full universe

Still – important difference between large & smaller

managers – an opportunity?

Differential fees – large & small managers


0.00%

0.10%

0.20%

0.30%

0.40%

0.50%

0.60%

0.70%

0.80%

0.90%

1.00%

DomesticEquity -Large

Managers

DomesticEquity -Small

Managers

DomesticBonds -Large

Managers

DomesticBonds -Small

Managers

DomesticMoney

Market -Large

Managers

DomesticMoney

Market -Small

Managers

GlobalBalancedPooled -

LargeManagers

GlobalBalancedPooled -

SmallManagers

GlobalBalanced

Segregated -Large

Managers

GlobalBalanced

Segregated -Small

Managers

2016 fees – 0 to 50 million band

Money Market Global Pooled Global SegEquities Bonds

What this masks

Source:

Anecdotally fees are coming down at the solutions level

Fees that are remaining high are being justified by past

performance

Some managers also appear to be backing down on

performance fees

A few other take-aways from the survey

Source:

Domestic Equity: increased by average 8.7% across all

bands

Domestic Absolute Return: experienced largest decrease

in fees (8.3% ) on average across all AUM bands.

Domestic Balanced Segregated: remains most expensive

domestic category - manager charges for asset allocation

Caveat: there are many nuances in disclosed fees and

survey methodology – must unpack before basing

decisions on it

Disclosure and transparency is desired, but does not on

its own change the fee levels

A starting point - greater transparency

But improved disclosure & transparency should improve:

more considered decision-making

information and discussions helping trustees recognise fees are

a function of investment strategy and risk

To sum up…..

Source:

Discussion on fees warrants considerable focus

Fee levels should not be based on past alpha

Debate around value for money vs. performance

Getting fees right impacts on what gets rewarded…

One particular challenge is the cost embedded in an

investment solution:

Where does cost cutting pay off?

Where does it not pay off?

To sum up…..

Source:

To be fair, fees need to reflect the value add of each

component in the delivery chain:

The contribution from the solution-provider in setting and

managing the ongoing solution

The contribution to the capturing the different risk premia the

make up the solution

The contribution of a given strategy to targeting a particular

outcome : lower volatility, hedge downside, capture income,

matching liability, etc

This way we can shift to outcomes-based and client

focused strategies – those with higher “Phi”

“Not everything that counts can be counted

and not everything that can be counted

counts”

Charlie Munger with a twist on Einstein

Elizabeth Kolbert: “Why the facts won’t change your mind” (The New Yorker Feb 27, 2017)

H. Mercier, D. Sperber: The Enigma of Reason, (Harvard University Press)

S. Sloman, P. Fernback: The Knowledge Illusion, Why we never think alone (Riverhead)

How do we break the past performance habit?

Source: The Folklore of finance, State Street Center for Applied Research

Research shows tenuous link between skill and performance. Despite

this, past performance dominates and there is still belief:

Why the debate is important

Consequences:

Hire/fire decisions destroy

value if badly informed

Failure of business

Distrust

Misalignment

But:

Asset management and

consulting are powerful

resources

Solution design has a great

impact on the final outcome

How it all started

Can financial advisers add value?

Yes, on the following:

Tax-efficient withdrawal sourcing

Risk capacity-driven total wealth allocation

Annuity Allocation

Dynamic withdrawal allocation

Liability Relative Optimisation

…but not in terms of picking the best asset managers

Asset managers add value?

Source: The CFA Institute and the State Street Center for Applied Research

:

The ‘hidden variable in

investment performance’

Purpose

Habit

Incentives

The essence of Phi

HABIT Culture of meeting

client needs

INCENTIVES Rewards based on

meeting client

needs

PURPOSE

Client focus

Recognise failure of

current system of

carrot-and-stick

Three essential

elements:1. Autonomy

2. Mastery

3. Purpose

Rather stimulate

intrinsic rewards

Theoretical underpinning of Phi

http://www.google.co.za/url?sa=i&rct=j&q=&esrc=s&source=imgres&cd=&cad=rja&uact=8&ved=0ahUKEwj29_Ku7LXSAhWFPBQKHfNrDMoQjRwIBw&url=http://books.google.com/books/about/Drive.html?id%3D-Ohi7PSAYhoC%26source%3Dkp_cover&psig=AFQjCNGpaPm_TtHJ55Hm6wPmrplJhjPaLw&ust=1488476275320337

http://www.google.co.za/url?sa=i&rct=j&q=&esrc=s&source=imgres&cd=&cad=rja&uact=8&ved=0ahUKEwj29_Ku7LXSAhWFPBQKHfNrDMoQjRwIBw&url=http://books.google.com/books/about/Drive.html?id%3D-Ohi7PSAYhoC%26source%3Dkp_cover&psig=AFQjCNGpaPm_TtHJ55Hm6wPmrplJhjPaLw&ust=1488476275320337

The study of 6 938 in 20 countries

Source:

Why be an asset

manager?

53% asset managers

pursued investing

because passionate of the

markets

Only 28% motivated by

helping clients achieve

goals

But…

15% felt leaders articulated

a compelling vision

41% believed leaders

articulated values and beliefs

92% felt demotivated - Why?

Inadequate mentoring

Rewards did not recognise

what was in or out of their

control

The study of 6 938 in 20 countries

Source:

In reference to rewards:

44% considered their

compensation fair

40% believed it was

transparent

34% saw it as

controllable

In reference to risks :

52% worried that 18

months of

underperformance could

lead to being fired

36% believe acting in

clients’ best interest =

career risk

How well did global

investment professionals

score?

Source:

PURPOSE

HABITS

INCENTIVES

Translating Phi from professional to corporate

Source:

Phi in the asset management business – 4 models:

A client-aligned business model

A client-focused product design

How, where and by whom assets are invested

The mandate collaborator

template

Source:

Of course, due diligences look at “business

model”, but…

Source:

What Phi looks at

Source:

How is the business model aligned to client

needs

How is the business led?

How is value shared between client & corporate?

How are professionals rewarded?

“There are plenty of great investors & investment

strategies; there are very few great investment

companies.”

template

Source:

This is a bit trickier

Source:

Who creates the client-focused solution?

Asset manager or solutions provider?

Some asset managers are using their expertise

to move into this space: i.e. determining the

optimal asset allocation over time for an

individual to meet a specific outcome within a

certain time frame

Goals-based asset management

template

Source:

Non-negotiables

Source:

Embed responsible investing (ESG) into the

investment process - this is a risk trustees can’t

afford not to manage

Include a transformation agenda

Both these strategies demand the right tools to

monitor & maintain the integration

template

Source:

What do trustees need to do to benefit from this

value potential?

Source:

Ask more of your asset consultants & asset

managers:

1. Ask how they are assessing asset manager alignment to

client needs & outcomes

2. Rethink your investment policy statement

3. Align your criteria for assessing success to whether

your fund or its members are meeting that goal

4. Change your messaging to your members

Making performance pay for you and

your members through

measuring

Closing comments

THANK

YOU

hot topics | investment insights | march 2017 leading

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