Managing equity risk at M&G

Ritu Vohora, Investment Director

June 2016

2

Portfolio Construction & Risk – our approach

• Market developments – challenges and opportunities

• Delivering sustainable alpha

– M&G Global Dividend Fund

Managing equity investment risk at M&G

3

• Minimise impact of

unintended risks

• Back conviction with

enough risk

• Portfolio positioning

• Rigorous challenge &

debate

• Focus on key risks

• Ensure funds are ‘true to

label’

•

• Valuable insight and

additional perspective

• In depth analysis of

portfolio construction,

risk and performance

How do we manage equity investment risk?

Source: M&G, 2016

Our approach: an advisory role, not a policing function

Adding value to the investment process

1. Portfolio construction 2. Investment oversight 3. Transparency for clients

4

What does this involve?

• ‘Traditional’ support

– Efficient capital allocation – risk budget

– Understanding biases

– Pre-trade analysis/screening to benefit portfolio construction

– Ensuring that performance is driven from intended risk

• Understanding transient risks

– Valuation risk

– Factor trends

– Changes in market regime

Source: M&G, 2016

Providing an additional perspective

It’s necessary to have a fluid approach

5

• Portfolio Construction & Risk – our approach

• Market developments – challenges and opportunities

• Delivering sustainable alpha

– M&G Global Dividend Fund

Managing equity investment risk at M&G

6

Prolonged rewarding of quality and non-cyclical growth

Source: Factset, 30 April 2016, returns shown in GBP terms. *Rebased to 100 at 31 December 2014.

Bifurcation of sector performance

Recent reversal in materials and energy

60

70

80

90

100

110

120

130

Rebased t

o 1

00*

Consumer staples Heathcare

Telecoms Technology

Materials Energy

MSCI AC World Index: total returns by sector Sector returns : 1 Jan 16 - 11 Feb 16 & 12 Feb 16 - 30 Apr 16

-20% -10% 0% 10% 20% 30%

Consumer staples

Utilities

Telecoms

Healthcare

Technology

Consumer disc

Industrials

Financials

Materials

Energy

12th Feb to 30th April

1st Jan to 11th Feb

7

Where has investor sentiment been?

Source: M&G PCR team, Macquarie, 30 April 2016. Long-short returns, market cap weighted

Investors have favoured perceived safety

Value and high beta styles have struggled, as investors

favoured quality

Cumulative style performance – Global

60

70

80

90

100

110

120

130

140

150

160

Re

ba

se

d to

10

0 a

t 3

1 D

ece

mb

er

20

10

Price momentum ROIC ROE Earnings yield Book-to-price High beta

Quality &

momentum

have

outperformed

Value & high

beta have

struggled

8 Source: Macquarie, 30 April 2016. Long-short performance, market cap weighted.

Value and beta back in favour across all regions

Style performance – March & April 2016

-15.0%

-10.0%

-5.0%

0.0%

5.0%

10.0%

15.0%

Earnings yield Book-to-price ROE ROIC Beta Pricemomentum

US Europe Japan Emerging markets Far East ex Japan Global UK

Recent reversal in style performance

9

‘Risk-off/risk-on’: the market’s changing risk appetite

Source: Datastream, 29 April 2016. Returns in US dollars

Correlation of risk assets and oil prices

-14.0%

-12.0%

-10.0%

-8.0%

-6.0%

-4.0%

-2.0%

0.0%

2.0%

4.0%

20

25

30

35

40

45

50

55

Nov-15 Dec-15 Jan-16 Feb-16 Mar-16 Apr-16

% c

ha

nge

S&

P 5

00

Ind

ex

Bre

nt cru

de

oil

price

(U

S$

pe

r b

arr

el)

Brent crude oil S&P 500 Index

Risk-off Risk-on

S&P 500 Index % change vs Brent crude oil price (USD)

11 Feb

10

• Portfolio Construction & Risk – our approach

• Market developments – challenges and opportunities

• Delivering sustainable alpha

– M&G Global Dividend Fund

Managing equity investment risk at M&G

11

Ensuring the risk profile is consistent with the mandate

Source: M&G PCR Team, Axioma World-Wide Global Fundamental Factor Risk Model, medium horizon, 30 April 2016, relative to MSCI AC World Index

M&G Global Dividend Fund

Risk profile demonstrates high conviction and consistent

approach

Active risk profile

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

0%

1%

2%

3%

4%

5%

6%

7%

8%

Activ

e s

ha

re A

ctive

ris

k

Active risk Systematic risk Specific risk Active share (RHS)

12

What are the key drivers of portfolio risk?

Source: M&G Axioma World-Wide Global Fundamental Factor Risk Model, medium horizon, 29 April 2016, relative to MSCI AC World Index

Drivers of active risk

0%

10%

20%

30%

40%

50%

60%

Market Style Industry Currency Country Stock-specific

Ris

k c

on

trib

utio

n

Differentiating between unintended and intended risks

Stock selection is the key driver of active risk

13

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

40.0%

45.0%

50.0%

Quality Assets Rapid growth

We

igh

t

Oil & gas

Cyclicals

Defensive

Credit sensitive

Is the fund true to label?

Source: Factset, 29 April 2016, excluding cash

Basket characteristics

Balancing quality and beta

Basket weights decomposition (%) Basket weights decomposition

14

Is the fund true to label?

Source: M&G, 29 April 2016. Weighted average dividend yield and 3-year dividend growth

Basket characteristics

Combination of yield and premium growth

Quality

Assets

Rapid growth

Sources of dividends Dividend yield

3.2%

4.8%

3.3%

Dividend growth

13.0%

8.8%

18.4%

15

Diversified sources of performance

Source: Factset, 29 April 2016. Holding period returns (gross of fees and transaction costs) relative to MSCI AC World Index, calculated in sterling, *Fund

launched on 18 July 2008

Each ‘basket’ has different risk/return characteristics

Different parts of the portfolio perform at different times

Attribution by source of dividends since fund launch*

-10%

-5%

0%

5%

10%

15%

2008* 2009 2010 2011 2012 2013 2014 2015 2016 YTD

Va

lue

ad

de

d

Quality Assets Rapid growth

16

-1.5%

-1.0%

-0.5%

0.0%

0.5%

1.0%

1.5%

Con

trib

utio

n to

active

retu

rn

Understanding performance drivers – 2015 A more granular insight

Source: M&G PCR team. Axioma Worldwide (Global) Fundamental Factor risk model, medium-term horizon, 31 December 2015, relative to MSCI AC World Index

Top/bottom contributors to factor performance over 2015

Correlated themes

Energy-related holdings accounted for more than 75% of

underperformance

17

Drivers of active performance

Source: M&G PCR team, Axioma Worldwide (Global) Fundamental Factor risk model, medium-term horizon, 31 March 2016, relative to MSCI AC World Index

M&G Global Dividend Fund

-5.0%

-4.0%

-3.0%

-2.0%

-1.0%

0.0%

1.0%

2.0%

Industry Market Country Style Currency Stockspecific

Contributors to active return – Q4 2015 Contributors to active return – Q1 2016

-2.0%

-1.0%

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

Stockspecific

Country Industry Currency Market Style

2016 YTD has been led by stock selection in the ‘assets’

category

18

-1.5%

-1.0%

-0.5%

0.0%

0.5%

1.0%

1.5%

2.0%

CAD Japan Canada Tobacco Oil & gas Biotech. Metals &mining

EUR JPY ST mom

Con

trib

utio

n to

active

retu

rn

Reversal of factor performance

Source: M&G PCR team, Axioma Worldwide (Global) Fundamental Factor risk model, medium-term horizon, 29 April 2016, relative to MSCI AC World Index

Top/bottom contributors to factor performance over YTD 2016

Understanding performance drivers – YTD 2016

19

Drivers of active performance

Source: M&G PCR team, Factset , 30 April 2016, *relative to MSCI AC World Index

Fund weight vs contribution to active return – 2016 YTD

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

0.0 1.0 2.0 3.0 4.0 5.0 6.0 7.0 8.0

Co

ntr

ibutio

n to

active

re

turn

* (%

)

Portfolio weight (%)

Stock level decomposition

Good stock selection across the portfolio

20

Performance in both rising and falling markets

Basket ‘hit’ rate Up market Down market

Quality 48% 77%

Assets 62% 43%

Rapid growth 67% 50%

M&G Global Dividend Fund 57% 57%

Source: M&G PCR team, Factset, 30 April 2016, investment returns (gross of fees), relative to MSCI AC World Index, calculated in sterling

A consistent approach – does what it says on the tin

Robust portfolio construction reduces risk and diversifies

income sources

21

Appendix

22

Ritu Vohora Biography

Ritu Vohora

Investment Director

• Joined M&G in May 2005. Ritu has worked in M&G

Equities for the past seven years and heads up client

communications on Portfolio Construction & Risk and

markets, focusing on the analysis and interpretation of

portfolio construction, investment risk, and positioning of

equity funds for clients and fund managers

• Graduated from Warwick Business School with a BSc

(honours) degree in Accounting and Finance in 2003 and

subsequently gained an MSc in Management & Regulation

of Risk at the London School of Economics in 2004

• Ritu has completed the UKSIP level 3 certificate in

investment management (IMC) and is a CFA charterholder

23

-1.0%

-0.5%

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

Stock selection Asset allocation

Drivers of performance

Source: M&G Xamin, 30 April 2016, Investment returns (gross of fees) relative to MSCI AC World Index, calculated in sterling, preliminary data only

Performance attribution – sector level YTD 2016

It’s not all about energy – adding value across different

sectors

24

Portfolio activity

Source: M&G, 31 May 2016

Transactions, 2016 year-to-date

New ideas in ‘rapid growth’ category

New purchases Complete sales

Nordea Assets HollyFrontier Assets

Medtronic Quality Xilinx Rapid growth

MasterCard Rapid growth Prudential Rapid growth

AIA Rapid growth Rio Tinto Assets

Sabre Rapid growth Eaton Corp Assets

Legrand Assets

Publicis Rapid growth

25 Source: Datastream, Federal Reserve Bank of New York, 30 April 2016

Equities look compelling relative to most bonds and cash

-1 %

1 %

3 %

5 %

7 %

9 %

11 %

1990 1993 1996 1999 2002 2005 2008 2011 2014

Yie

ld

Equity risk

premium

10y term

premium

World real yields – US equity earnings yield vs 10-year Treasury yield

Valuation signals are clear

26

Longest period since the tech bubble that value has underperformed

Source: Barclays Research, MSCI, Datastream, December 2015

Rising bond yields should be the catalyst for value to

start outperforming

Global value vs quality and US bond yields

Yie

ld %

Rebased to 1

00

27

-20% -10% 0% 10% 20% 30% 40%

Shanghai A shares

US dollar

MSCI developed equities

Japan Nikkei 225 Index

Eurozone stocks

MSCI Frontier stocks

MSCI AC World Index

S&P 500 Index

Commodities

US 10Y Treasury

Euro vs US dollar

MSCI EM equities

Italy 10Y govt bonds

Emerging dollar debt

Copper

Global 10Y bonds

German 10Y bund

Jap yen vs US dollar

Gold

Brent crude oil

YTD to 30 April 2016

Asset class performance Oil was the clear winner in April

Source: Datastream, 30 April 2016

Asset class performance (USD) – Apr 16

Markets have taken a lead from macro news

28 Source: Datastream, 25 May 2016

Dispersion developing between value and oil

Russell 1000 Value Index vs Brent crude oil price (USD)

29

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