All posts by Financial Independence Hub

China: the Emerging Markets haven

 

By Jeff Weniger, WisdomTree Investments

Special to the Financial Independence Hub

The S&P China 500 is down 28.5% since January 26,1 an ugly and quick plunge that fits the common definition of a bear market. Who in their right mind would use “haven” in the same sentence as “China?”

We will, in context.

Compared to cash in a Zurich vault, no, Chinese equities are not even close to a haven. But is the Chinese equity market a haven compared to other nations in the emerging world? We hypothesize yes.

The fragile five

Part of the market’s focus in 2018 — and maybe 2019 too — is the so-called “Fragile Five” current account deficit nations: Brazil, Indonesia, India, Turkey and South Africa (the “BIITS”).  Brazil has recently caught a rally in sentiment amid hopes that recently elected Jair Bolsonaro will implement free market economic reforms, but nevertheless, it is still one of the five countries watched like a hawk by market observers.

In Getting More Defensive in European Portfolios, we discussed the effect the Turkish debt crisis may have on its neighbors, particularly Europe and its banks. Along with Argentina, Turkey is at the top of the crisis malaise leaderboard, courtesy of a burgeoning hard currency debt load and runaway inflation that exceeds the state’s 24.5% official number.  Its deep 6.3% current account deficit gauge of two-way capital flows is the icing on the cake.2

It is that latter metric — the current account — that is the primary reason the BIITS currencies came under pressure, although there are other factors. For example, South Africa’s expropriation of Afrikaner farms raises serious questions about general property rights in a country whose stock market has a history of state-mandated equity redistribution.

Which takes us back to China. Five-year credit default swaps, which gauge the cost of insuring against default by Beijing, pale in comparison to those of other emerging market sovereigns.  For good reason. While it costs $384,000 per year to insure $10mm of hard currency 5-year Turkish debt, the price for covering Chinese exposure is just $72,000.

Beijing is no Bern or Oslo, but then again it also isn’t facing down instability like many other emerging markets.  From a risk-of-not-getting-paid-on-your-bonds perspective, China is one of those in-between countries— not the most stable, but nevertheless a veritable haven in the context of some of these other governments.

Figure 1: Five-Year Sovereign Credit Default Swaps (CDS) Prices, Emerging Nations

Figure 2 summarizes some of the risk drivers befalling the nations viewed as most risky by the credit default swaps market.

Figure 2: Market Concerns, Six Focal Nations

Market Concerns Six Focal Nations

Others

Beyond the already mentioned trouble-spot nations, embattled Russia is hit with sanctions for both the Crimean and Ukrainian invasions and the Salisbury poisoning, which involved the brazen use of a military-grade nerve agent on British soil. Then there is Russia’s support for the al-Assad regime in Syria, which, by the way, is in opposition to the U.S.-Saudi alliance.

As for Indonesia, the country had to tighten monetary policy this summer in an attempt to stave off the rupiah’s waterfall decline to levels last seen in the Asian contagion of the 1990s.

Mexico has long suffered from trade war headlines but now that the new trade deal with Washington was agreed, the risk is morphing into the very real concern that Andrés Manuel López Obrador (“Amlo”) will choose the Venezuelan or Cuban route instead of, say, the Chilean one.

China: The relative haven?

China is, of course not without warts. Coastal housing prices are in runaway territory, with cities like Shanghai witnessing home price-to-income levels that would make New York City blush. Then there is the Trump and Xi chest thumping, with North Korea smiling, stage left. However, we question how, even if all $619 billion of Chinese exports to the U.S. completely disappeared, it warrants sending the equities of China’s $16.1 trillion economy3 into bear territory.

At this time next year, we suspect the market will still question South Africa’s property laws and Turkey’s debt serviceability. But China, a current account surplus nation, may be in a different place, a place where WisdomTree no longer feels alone in the darkness, wondering why so few investors even know about its massive tax code overhaul.

The South China Morning Post, Hong Kong’s paper of record, said this on August 27, in direct parallel with our Gipper Comes to China research note:

Ernst & Young estimates that changes in exemptions and tax brackets – including raising the monthly tax exemption allowance by 40 per cent to CNY5,000 per month – would trim the monthly burden of a taxpayer with a gross monthly wage of CNY60,000 by 16 per cent, to CNY11,006.

Individuals at lower income levels will fare better. Someone with a CNY10,000 monthly salary will see their tax bill slashed by 71 per cent to CNY115.  

        -Xie Yu, South China Morning Post (Hong Kong)

In CAD terms

Look at the last sentence of the passage and convert CNY to CAD. Someone who makes $22,586 per would see a tax cut of $636.  Tell us: what would happen to U.S. or Canadian retail sales or local stock markets if Trudeau or Trump started cutting tax liabilities on Wal-Mart-equivalent income by more than $600 per head?

In other words, while many countries may be dealing with debt issues or social unrest in 2019, it is quite possible that the images from China will be of packed shopping malls.

China is the haven in emerging markets, with an unappreciated upside catalyst poised to click when the market shifts focus from trade wars to tax reform.

Our TSX-listed WisdomTree ICBCCS S&P China 500 Index ETF (CHNA.B) is based on the S&P China 500 Index CAD, so it can be used as a solo holding to cover the whole country.

1Source: Bloomberg, through 10/30/18, in CAD.
2Source:  Consumer price inflation from the Turkish Statistical Institute, as of 9/30/2018.  Current account from Bloomberg, as of Q2/2018.
3Sources: Exports by Customs General Administration PRC, as of 9/31/18. GDP by the World Bank, with all figures in CAD

Jeff Weniger, CFA serves as Asset Allocation Strategist at WisdomTree. Jeff has a background in fundamental, economic and behavioral analysis for strategic and tactical asset allocation. Prior to joining WisdomTree, he was Director, Senior Strategist with BMO from 2006 to 2017, serving on the Asset Allocation Committee and co-managing the firm’s ETF model portfolios. Jeff has a B.S. in Finance from the University of Florida and an MBA from Notre Dame. He is a CFA charter holder and an active member of the CFA Society of Chicago and the CFA Institute since 2006. He has appeared in various financial publications such as Barron’s and the Wall Street Journal and makes regular appearances on Canada’s Business News Network (BNN) and Wharton Business Radio. 

Important Risks Related to this Article
There are risks associated with investing, including possible loss of principal. Foreign investing involves special risks, such as risk of loss from currency fluctuation or political or economic uncertainty. The Fund focuses its investments in China, including A-shares, which include risk of the RQFII regime and Stock Connect program, thereby increasing the impact of events and developments associated with the region, which can adversely affect performance. Investments in emerging or offshore markets are generally less liquid and less efficient than investments in developed markets and are subject to additional risks, such as risks of adverse governmental regulation and intervention or political developments. The Fund’s exposure to certain sectors may increases its vulnerability to any single economic or regulatory development related to such sector. As this Fund can have a high concentration in some issuers, the Fund can be adversely impacted by changes affecting those issuers. The Fund will be required to include cash as part of its redemption proceeds which introduces additional risks, particularly due to the potential volatility in the Chinese market and market closures. The Fund invests in the securities included in, or representative of, its index regardless of their investment merit and the Fund does not attempt to outperform its index or take defensive positions in declining markets. Due to the investment strategy of this Fund, it may make higher capital gain distributions than other ETFs. Please read the Fund’s prospectus for specific details regarding the Fund’s risk profile.

What is Asset Allocation really?

 

By Tony Porcheron

Special to the Financial Independence Hub

What everyone wants is for their money to grow without any risk. This is of course impossible, especially over a short time period.

Risk is usually measured by volatility, however risk and volatility are not exactly the same.

Risk for most investors is the chance that they lose money or do not meet their long term financial goals.

Volatility is the amount that your investments go up and down over a certain time period.

sigma  is the usual definition of Volatility

Beta  defines how much a return is based on an underlying index or other investment

Alpha   is your return earned above your index and volatility.

This is the holy grail of investing.

What methods do professional investors use so that volatility does not turn into risk? Asset Allocation.

You may have heard the term, “Don’t put all of your eggs in one basket”, this is Asset Allocation.

In most investment research, 80 to 90% of your investment returns are from you asset allocation, not your individual investment picking. Given this fact, this is what you should be paying attention to more than picking your winning investments.

Asset Allocation is deciding on what percentage of your portfolio should go into asset classes. Generally this is broken up by:

  1. Asset Type (Equity, Fixed Income, Alternative)
  2. Size of the underlying company (Large, Mid and Small)
  3. Geographic Region (USA, Canada, Western Europe, Asia, Emerging Markets)

You then make the decision:

  1. Manager type (Index, Active, Hedge)
  2. What are your financial goals? How close are you to them? Are you contributing or withdrawing money?
  3. What is the correlation between the different asset classes (how much do they go up and down together

The chart at the top of this blog shows a correlation analysis.

Strategic and Tactical Asset Allocation

The 2 main types of Asset Allocation are Strategic and Tactical. The adjustments to asset allocation are called rebalancing.

Strategic Asset Allocation is determining your asset allocation based on your long term investment return goals, volatility acceptance based on historical investment returns, volatility and correlation. Continue Reading…

Getting your investments into the green

By Dale Roberts

Special to the Financial Independence Hub 

I would get this question quite often when I was an adviser with Tangerine.

“Do you have any Green investments?”

Of course, when one offers broad-market index based portfolios the investment is environmentally agnostic. It makes no judgement on how the company operates or how it makes its profits. Company behaviour will be determined by the regulators and shareholders and the company’s board and management. And largely the demand for the products or services will be determined by the consumer: that’s you.

Now I would certainly direct clients to the green investment options in Canada, it’s not up to me to tell you to leave your values or principles at the door, but I would also suggest that one might have a greater chance to effect change by addressing the way they live compared to how they invest. Largely, lifestyle choices trump investment choices when it comes to having a positive impact on the environment. To be consistent and transparent, I still believe that to be true.

That said, there is an investment option that appears to fit the bill for enabling that change. That investment is the CoPower Green Bond.

Greenbond LogoYes, it’s a bond, and that means that an investor is loaning money that is used by developers to fund clean energy infrastructure. For that loan, an investor would be paid 4% annual for a 4-year bond and 5% annual for a 6-year bond. In today’s low-rate environment that’s a very good rate of return.

There are 3 types of projects that your monies (your loan) will fund.

CoPower Green Bond Portfolio Investments Table (Oct 2018)We might consider this a truly green investment because the at the core (geothermal pun intended) we have Canadians who are making a choice to ‘Go Green’, or their version of green. As an investor, you are enabling those projects. Your monies will fund projects that will reduce CO2 emissions, and perhaps reduce polluting particulates that are a by-product of traditional energy generation. You will be an ‘investor agent of change’.

These green projects are very successful and there is great demand from potential partners to start more geothermal, solar and LED bulb replacement projects. The demand is there, the projects simply need more funding. The more Green Bonds that can be issued, the more projects that can be funded. Quite simply, they need your monies, your loans.

If you look into the projects that are funded you’ll discover that they are more grass-roots and small-scale. Individual home geothermal conversion projects don’t attract interest and traditional loans from large financial institutions. These are individual Canadian homeowners who are largely being funded by individual Canadians (that’s you, potentially). What might be appealing to many is the small scale and clear transparency in where your monies are directed and how the effect can be measured.

How do you get your Green Bonds?

You can sign up through the CoPower website, where you would complete an online application. As part of the process you would also have a phone conversation with a CoPower investment representative to ensure suitability and to ensure that you do understand the investment and the associated risks.

You can also obtain the CoPower Green bonds with the discount brokerage Questrade and through Olympia Trust. Keep in mind that when you access the bonds through a third party, those institutions will charge fees. Ensure that your investment is large enough (the returns are large enough) to more than compensate for any fees that are applied. Through those third party options you can invest in RSP and TFSA and RIFF accounts.

How is CoPower different from a bond fund?

A SRI Socially Responsible Investment bond fund will hold dozens to hundreds of individual bonds. As a mutual fund it will change in price every day. There are management fees associated with mutual funds as well. The CoPower bonds are offered directly to you and carry no fees. You receive your interest payments and the effect of compound interest in full.

You will be owning an individual bond and you will be required to hold the bond to maturity. That means that if you purchase a 6-year bond, you will have to wait for 6 years to see that return of your initial investment amount. You may choose to have the bond pay you your interest payments ‘along the way’. Continue Reading…

How decluttering your Home Office can raise your Productivity

By Melanie Saunders

Special to the Financial Independence Hub

Thinking about boosting your productivity in your home office? Decluttering your office space and creating a tidy working environment might just do the trick. Let’s take a look at some of the benefits of cleaning up your home office.

You won’t get distracted

Working in a clean office means you are less likely to be distracted by different items cluttering up your workspace. It’s quite easy to get distracted by unnecessary objects lying around your desk, so why not remove everything that is not needed and that may distract you from being productive? The truth is that clean offices also make people less stressed simply because mess and clutter can have a bad influence on your focus and make your stress levels jump up to the roof. By making your desks sparklingly clean and moving all the unnecessary stuff to another room, you will definitely see the difference between an organized space and a cluttered work office.

You’ll save time and resourses

If you decide to organize all of your files, you won’t have trouble finding that document you’ve been searching for a week now. Continue Reading…

How the USMCA affects Canadian homebuyers

By Jordan Lavin, Ratehub.ca

Special to the Financial Independence Hub

Goodbye NAFTA, hello US-Mexico-Canada Agreement (USMCA).

The new trade deal with our neighbours to the south will have wide-reaching effects across all areas of our economy, and housing is no exception. While the agreement is said to be good for our economy overall, it’s not necessarily good news for your ability to afford a home.

What is the USMCA?

Canada recently reached an agreement with the United States and Mexico to replace NAFTA, the decades-old trade agreement that has stood since it was signed by Brian Mulroney, Bill Clinton and Carlos Salinas de Gortari.

The new agreement looks much like the old one, with some changes. Key differences include changes to the way the three countries approach auto manufacturing, fewer restrictions on trade of dairy products, and stronger measures against counterfeiting and media piracy. Like NAFTA, the USMCA makes it possible for the three countries to exchange goods without barriers.

For now, the US, Mexico and Canada will continue trading under the rules of NAFTA. The USMCA will come into effect once it’s ratified by its members, a process that could take months. In the United States, congress won’t vote on ratification until some time next year due to that county’s mid-term elections. Here in Canada, the looming Federal election means that if the USMCA isn’t made official by June, it could be delayed until 2020.

How does this affect Canadian housing?

If you’re wondering how having access to American milk at your local Superstore can possibly affect how much mortgage you can afford, you’re not alone. The implications for home affordability are driven by the market’s reaction to the uncertainty of the negotiation period, the removal of uncertainty brought by a signed agreement, and the actual economic growth that’s expected to occur because of the USMCA once it’s in force.

When the Trump administration demanded to renegotiate “the worst trade deal” ever, the market got spooked. As the trade war intensified, the US threatened to (and did) impose significant tariffs on imports from Canada. With repeated threats from our largest trading partner, there was a real chance that the Canadian economy could be jeopardized. Even though our economy was growing during that time, the Bank of Canada (BoC) was reluctant to raise interest rates, which it would normally do in that situation. Continue Reading…