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THE TIMES THEY ARE A-CHANGIN’. David Picton, President, Picton Mahoney Asset Management. INTRODUCTION TO PICTON MAHONEY. Portfolio management boutique managing $7.0 billion in assets for investors through three lines of business Authentic hedge fund strategies Sub-advisory services

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the times they are a changin

THE TIMES THEY ARE A-CHANGIN’

David Picton, President,

Picton Mahoney Asset Management

introduction to picton mahoney
INTRODUCTION TO PICTON MAHONEY
  • Portfolio management boutique managing $7.0 billion in assets for investors through three lines of business
    • Authentic hedge fund strategies
    • Sub-advisory services
    • Institutional long-only mandates
  • We remain committed to our founding principles:
    • Authenticity
    • Transparency
    • Capacity
there is a reason the markets have been so challenging over the past five years
THERE IS A REASON THE MARKETS HAVE BEEN SO CHALLENGING OVER THE PAST FIVE YEARS
  • History shows that big bull markets are usually followed by big consolidation phases
  • These “great reckoning” phases are never pleasant and usually squeeze excesses from the system, setting the stage for the next bull market
portfolio construction is extremely difficult in today s environment
PORTFOLIO CONSTRUCTION IS EXTREMELY DIFFICULT IN TODAY’S ENVIRONMENT
  • Consider how lacking the traditional tools are for savers today

(Not to mention, the general aversion to risk many investors have post the 2008 collapse)

income investors have benefitted disproportionately from falling interest rates
INCOME INVESTORS HAVE BENEFITTED DISPROPORTIONATELY FROM FALLING INTEREST RATES
  • We are very concerned that conservative investors are not prepared for potential volatility/losses that these types of investments could face once interest rates normalize

Source: Corporate Reports, National Bureau of Economic Research, Empirical Research Partners Analysis

a cautionary tale for income investors
A CAUTIONARY TALE FOR INCOME INVESTORS
  • Rate Risk 1994: The great bond massacre

Today if rates increase 1%, 5-year Government bonds should lose $5 and 10-year Government bonds should lose $9

Source: Bloomberg, Bank of America Merrill Lynch

we believe that most investor portfolios especially in canada are poorly constructed
WE BELIEVE THAT MOST INVESTOR PORTFOLIOS, (ESPECIALLY IN CANADA), ARE POORLY CONSTRUCTED

Potential problems with portfolios

  • Too much cash that has no chance of upside or inflation protection
  • Concentrated in interest rate related vehicles that are trading at excessive valuations
  • Lack foreign content (especially U.S. growth stocks)
  • Disproportionately exposed to resource stocks and banks given that makeup of the Canadian benchmarks
what if questions investors need to ask themselves regarding their portfolio
“WHAT IF” QUESTIONS INVESTORS NEED TO ASK THEMSELVES REGARDING THEIR PORTFOLIO
  • What if stock markets continue to rally?
  • What if interest rates continue to rise/normalize?
  • What if stock/sector leadership change continues?
  • If you don’t like the answers you are getting to these questions then it is time to reconsider your positioning and/or the investment tools you are using to build your portfolio
slide9

Investment outlook

The times they are a-changin’

the case for economic acceleration in 2014
THE CASE FOR ECONOMIC ACCELERATION IN 2014
  • Many former headwinds are becoming (or should soon become) tailwinds to the economy

We are in both

u s outlook is improving
U.S. OUTLOOK IS IMPROVING
  • Rise in home prices and stock have added almost $9 trillion of wealth

Source: J.P Morgan Chase

housing is strong and an interest rate spike risk is overstated
HOUSING IS STRONG AND AN INTEREST RATE SPIKE RISK IS OVERSTATED

Source: NAR, MBA, Zelman & Associates analysis

jobs still to come from housing
JOBS STILL TO COME FROM HOUSING
  • Each 250,000 Of U.S. Housing Starts adds one million new jobs and $4 to S&P 500 EPS

Source: Bloomberg

capex still languishes the 2 trillion cash hoard
CAPEX STILL LANGUISHES – THE $2 TRILLION CASH HOARD
  • A lack of faith in politicians and more specifically, the fiscal circus in the U.S., may be the only thing that stands between the deployment of cash and a CapEx Supercycle

Source: Credit Suisse, ISI Group

u s fiscal drag is peaking
U.S. FISCAL DRAG IS PEAKING

Source: Goldman Sachs

europe is pulling out of recession
EUROPE IS PULLING OUT OF RECESSION
  • Europe is coming out of the recession led by Germany and France.  The fiscal drag from the austerity measures (-1.6% of GDP in 2012, -1% in 2013, and a projected 0.6% in 2014) are diminishing

Source: Eurostat, national statistics office, JP Morgan

japan where inflation is welcomed
JAPAN – WHERE INFLATION IS WELCOMED!
  • Japan has finally decided to tackle its decade long deflationary recession problem
  • Japan’s new prime minister, Shinzo Abe, has embarked on a massive fiscal & monetary stimulus plan, dubbed “Abenomics”
  • The monetary aspect is aimed at reducing real interest rates and weakening the Yen
  • Japanese stocks tend to outperform when the Yen depreciates

Source: Bloomberg

japanese equities earnings are improving and valuations remain attractive
JAPANESE EQUITIES: EARNINGS ARE IMPROVING AND VALUATIONS REMAIN ATTRACTIVE

The weaker Yen has translated into better earnings expectations for Japanese companies

Despite the rally, Japanese equity still has lots of room to run

china is a wildcard
CHINA IS A WILDCARD

Source: Bloomberg, PMAM Research

china s growth over next decade s likely to be led by consumption
CHINA’S GROWTH OVER NEXT DECADE(S) LIKELY TO BE LED BY CONSUMPTION
  • A 1% Increase in China’s consumption to GDP is equivalent to $73 billion (USD) of incremental spending

Source: Bloomberg

china growth companies will continue to be sought after in a low growth environment
CHINA: GROWTH COMPANIES WILL CONTINUE TO BE SOUGHT AFTER IN A LOW GROWTH ENVIRONMENT

Despite the negatively regarding China/EM, Chinese small/mid cap stocks (as represented by ChiNext) has massively outperformed this year.  Investors are buying the new growth companies focused on the consumer rather than the large cap growth companies of the past (predominately state owned materials/energy/financials/industrials)

Source: Bloomberg, MSCI

short term stock market weakness would be typical and should be bought
SHORT-TERM STOCK MARKET WEAKNESS WOULD BE TYPICAL, AND SHOULD BE BOUGHT

Source: Bloomberg / PMAM Research

corporate cash should lead a boom in m a
CORPORATE CASH SHOULD LEAD A BOOM IN M&A
  • Current M&A activity rests at more than half of 10 year averages. This suggests that the markets may be in the very early stages of a market rise with a good deal of potential going forward

Source: Bloomberg

inflation risks may be overstated which could be good for developing economies and p e ratios
INFLATION RISKS MAY BE OVERSTATED, WHICH COULD BE GOOD FOR DEVELOPING ECONOMIES AND P/E RATIOS

Lower inflation has paved the way for better economic data

Decoupling from China allows for the return of non-inflationary growth

sleepless nights
SLEEPLESS NIGHTS

There are numerous questions that keep us up at night including:

  • Are we underestimating the tail risks on BOTH sides?
  • Has Fed policy so distorted the market pricing mechanism that it is fostering risk seeking behaviour reminiscent of the pre-crisis period?
  • Do investors understand that they take inordinate amount of risk in the bond market and not enough in the equity market?
  • Will politicians keep watching financing costs fall while doing nothing to get to the heart of the issues?
  • Will a healthy balance between monetary and fiscal/political policy be struck in time?
slide32

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