PIMCO’s economic forums are integral to our firm’s time-tested investment process. Three times a year, we gather from all corners of the world to discussour outlook for the cyclical horizon ‒ i.e., the next six to 12 months. These discussions inform and influence portfolio positioning andday-to-day management. But PIMCO has long known that an appreciation of long-term, or secular, realities is equally (if not more)important; for that reason, once a year, for more than 30 years, we have convened a multi-day session to look out over a longer, three-to-five-year period.
We hope you have had the opportunity to review the summary from our secular forum in May: “The New Neutral Revisited,” written by PIMCO’s Group CIO Dan Ivascyn,Global Fixed Income CIO Andrew Balls and Global Strategic Advisor Rich Clarida. In this analysis, the authors identify the six key themes that emerged fromour discussion, as well as six risks (see box below).
These themes and risks have unique implications for Asia-Pacific investors
First, as Asian economies transition from savers to spenders and from exporters to consumers, they are contributing meaningfully to the narrowing of globalimbalances – a potential driver of sustainable regional growth.
Second, Asian fiscal and monetary policymakers – from Japanese Prime Minister Abe to People’s Bank of China (PBOC) authorities in Beijing – are keenlyfocused on tailoring economic policies to specific objectives, including Japan’s goal to reflate to its 2% inflation target and China’s efforts to see theyuan included in the IMF’s special drawing rights (SDR) basket of currencies. On this theme of economic policy, we expect the opening of the Chinesecapital account to be a seminal part of the secular economic story, with significant implications for investors around the world.
Some of the risks noted in our secular outlook will likely have an impact on the Asia-Pacific region: We need look no further than Chinese equity marketsover the last few weeks to see that enormous volatility exists; indeed, the possibility of bursting bubbles, and even recessions, cannot be ruled out.Moreover, while many Asian economies are focused on increased regulatory oversight, convergence between regulatory frameworks has been limited, creatingchallenges in cross-border initiatives.
Given these long-term themes and risks, we see several implications for Asian investors
1. Explore better betas and customized multi-asset solutions
2. Combine secular sovereign and corporate “winners” with the strength of the U.S. dollar
3. Be thoughtful about income
4. Consider alternatives and harvest illiquidity premiums
5. Keep a secular eye on India
6. Gain strategic (not just tactical) exposure to China
PIMCO's 2015 Secular Forum
SIX THEMES DRIVING GLOBAL MARKETS
- Converging to New Neutralpotential growth ratesin developed andemerging economies
- Evolving to a re-regulated, better capitalized global banking system
- Moving from energy scarcity toenergy abundance unlockedby the shale revolution
- Accelerating from deflation toward targeted 2% inflation in the major economies
- A narrowing in global imbalances as the global savings glut abates
- Implementing better economic policy in key emerging as well as developed economies
- A global recession as few countries can maneuver to deploy countercyclical policy
- Flash crashes, air pockets and trading volatility, which have a greater likelihood amid diminished liquidity
- Weaker aggregate demand as “winners” from declining commodity prices save their windfall gains
- A breakout of inflation to the upside of central bank inflation targets
- “Disaster risk” relating to geopolitical conflicts
- Policy failures due to fractured politics or implentation challenges
Better betas and customized multi-asset solutions
Absolute return, benchmark-agnostic and “smart beta” strategies have increased in popularity throughout Asia-Pacific (and globally) as investors gainawareness of the limitations of market capitalization-weighted equity indexes and debt-weighted bond indexes. Traditional indexes can be reactive ratherthan proactive, and investors in a multi-speed world demand a higher degree of agility. PIMCO has been a pioneer on this front, offering both unconstrainedstrategies across asset classes (including credit, mortgages and commodities) and indexes that account for fundamentals rather than simply market-cap ordebt weights. In addition, PIMCO’s customized asset allocation solutions utilize both qualitative “best ideas” models and quantitative mathematicalanalysis in seeking to outperform traditional stock/bond combinations. These strategies can serve as prudent first steps for investors who are makinginitial offshore allocations, as well as for clients seeking higher return targets with explicit downside risk management.
Secular “winners” and the U.S. dollar
Dollar-hedged strategies offer investors the opportunity to take advantage of the secular theme of continued U.S. dollar strength. As the Federal Reservebegins to raise rates while other global central banks continue easing, we see the U.S. dollar continuing to appreciate. PIMCO offers strategies withestablished track records to Asia-Pacific investors seeking to access credit markets while mitigating potential currency loss versus the U.S. dollar. Wealso expect central bank accommodation to broadly support credit markets, and as PIMCO’s Global Credit CIO Mark Kiesel notes in thesecular credit outlook, we anticipate this phenomenon particularly in China as the PBOC considers quantitative easing measures. Our credit team is focused on identifyingcompanies that can benefit from our secular themes, including rising consumption in Asia, housing growth in the U.S. and export growth (given a weak yen)in Japan.
Being thoughtful about income
Asia-Pacific investors have long been focused on income-generating strategies, and we expect this trend to continue over the secular horizon. We follow adisciplined approach to income investing, aiming to outperform our return targets and achieve sustainable yields. PIMCO’s income team has been recognizedfor its performance, including in 2013 when portfolio managers Dan Ivascyn and Alfred Murata were honored as Morningstar Fixed-Income Fund Managers of theYear (U.S.). PIMCO also offers strategies that provide access to bank capital instruments, which have the potential to perform like traditional high yieldbonds or bank equities. The secular theme of intensifying regulation is supportive of this type of strategy, as recent regulations are meaningfullystrengthening the banking sector.
Alternatives and less liquid investments
Asia-Pacific investors are keenly focused on alternatives, recognizing that these allocations may reduce portfolio volatility, achieve differentiatedreturns and capitalize on unique market opportunities. In Asia ex-Japan alone, institutional investor allocations to hedge funds and private equity havegrown from 2.7% in 2010 to 9.9% today; high-net-worth investors in Asia ex-Japan and Japan allocate 14.0% and 13.1% to alternatives, respectively. 1 Similarly, in Australia, institutions have increased their allocations from 7.2% in 2010 to 10.2% today.2 Over the secular horizon,we expect this investor demand for alternatives to continue expanding. From bank deleveraging-based investments to relative-value sovereign and creditarbitrage, PIMCO’s alternatives strategies encompass hedge funds (global macro, relative value, commodity) and private equity (opportunistic real estateand credit). Critical to our alternatives approach is our belief that the illiquidity premium – the reward investors receive for investing in less liquidassets over an extended period – will remain attractive over the secular horizon. We plan to continue growing this important business.
A secular eye on India
To date, India’s growth story has been challenged by unfavorable business conditions, insufficient infrastructure and obstructive fiscal policies (e.g.,the tax code). With the election of pro-business Prime Minister Narendra Modi last year and the 2013 appointment of Raghuram Rajan as governor of theReserve Bank of India, PIMCO is closely watching for indications of higher sustainable future growth, including infrastructure development, more stablemacroprudential policies, deeper financial markets and simplification of the tax codes.
Raja Mukherji, head of Asia credit, and Luke Spajic, head of Asia ex-Japan portfolio management, recently returned from a trip to India encouraged by thenew policymakers and awaiting additional reforms, which could set the stage for deeper exploration of the investment universe in the country over a secularhorizon.
Strategic exposure to China
Whereas India may present an opportunity in the future, the Chinese capital account liberalization story is imminent. On a near-daily basis, we see Chinesepolicymakers and regulators opening new doors for offshore investors to access Chinese fixed income and equity markets and global index providersevaluating Chinese stocks and bonds for inclusion in their benchmarks. As evidenced by recent volatility in China’s stock market, security selectionremains crucial, and liquidity can still be challenging. That said, the PBOC and the central government in Beijing remain committed to attempting a smoothlanding for the economy. So, we think China will continue to grow in importance for the global markets. Indeed, China is already the world’s largesteconomy in purchasing-power-parity terms and the third-largest fixed income market. We therefore believe that investors should begin to consider the placeof stand-alone strategic allocations to China, while remaining mindful of volatility and liquidity dynamics. For PIMCO, building a thoughtful presence inChina is a critical secular objective to bring both China-based solutions to global investors and global solutions to local investors.(For more, see Viewpoint, “Understanding Investment Opportunities in China,” May 2015.)
Evolving with investors and the global markets
PIMCO has established a strong track record of delivering value to investors both in and beyond traditional fixed income; importantly, our secular outlooksupports continued growth in non-traditional fixed income, as well as in multi-asset, “smart beta” and alternatives solutions. We have built world-classportfolio management and client servicing teams focused on these strategies and welcome the opportunity to exchange views on asset allocation, economicdevelopments and portfolio solutions to navigate this New Neutral world.
1Source: Greenwich Associates; Preqin;
Capgemini and RBC Wealth Management
Global HNW Insights Survey
2Source: Australian Trade Commission