On the Risk/Return Outlook for Assets, Real Rates and the Benefits of Vegetables and Fruits!

From: aditya rana
Date: Sat, Apr 5, 2014 at 2:08 PM
Subject: On the Risk/Return Outlook for Assets, Real Rates and the Benefits of Vegetables and Fruits!


Investors have been fortunate to experience a relatively benign period of superior returns (with low risk) on a broad variety of assets classes over the last few decades. Declining nominal (and real) interest rates have driven this unusual period of outperformance, so what is the outlook for rates going forward? Bill Gross, CIO of Pimco, looks at this issue from the perspective of the U.S.) in his latest monthly letter (http://www.pimco.com/EN/Insights/Pages/Bob.aspx) while the IMF looks at the prospects for real rates from a global perspective in their 2014 World Economic Outlook (http://www.imf.org/external/Pubs/ft/weo/2014/01/pdf/text.pdf). To summarise:


-Over the last 15 years (as the chart below shows), all assets have exhibited positive Sharpe ratios – a measure of historical returns on an asset adjusted for its risk (i.e. return divided by the volatility of return). This has occurred despite periods of severe setbacks – the 2000’s dotcom crash and the financial crisis of 2008 – and investors would have been better off holding risky assets than cash.

-However, it is important to realise that this period over the last 30 years has been a remarkably non-volatile period driven by an almost linear decline in interest rates as shown in the chart below, and it’s unlikely that the Sharpe ratios of various asset classes will be as attractive going forward.

-Today (as the table below shows) , the return of some assets per unit of risk is almost half what it was 15-20 years ago – i.e. for AAA, BBB and High Yield bonds and investor has to take twice the amount of price risk for the same return.

–As the Fed completes its Taper, 5-30 year bonds are at risk as higher yields will be required to entice private investors.

-Bond investors have three choices: 1) either "double the duration risk" to maintain the same return, 2) maintain even lower duration risk in the face of rising yields but face low returns, or, 3) diversify the risk to other sources of return mainly through credit and to a lesser extent curve roll-down and volatility risk to achieve a superior risk/return profile. Return expectations are in the low-to-mid single digits.


-Since the early 1980s (as the graph below shows) , real interest rates globally have declined substantially – from an average of 5.5% for 10-year bonds in the 1980s to 0.33% between 2008 and 2012.

-This has been driven by three factors, which are likely to continue to operate for a while longer:

-Savings: the significant increase in savings by emerging markets between 2000 and 2007, driven by their higher growth rates, which is likely to be only partially reversed (see graph below).

Portfolio flows: since the financial crisis demand for less risky assets, particularly after 2000 (see graphs below) and reserve accumulation from emerging markets been substantial and this trend is likely to continue, though at a slower pace.

Investment: the decline in investment in the developed countries in the aftermath of the financial crisis is likely to persist.

-In summary, while real rates are likely to increase over the next several years, there is no compelling reasons to expect them to return to the levels prevailing in the early 2000s due to the effects of the above three factors and the likely continuance of easy monetary policies in the developed world as growth falls short of potential.

The evolution of real interest rates over the next three to five years will have a significant impact on asset returns – and the increase of real rates (but not necessarily nominal rates) should be muted for the reasons described above. The implications for asset portfolios are clear – overweight equities (with more emphasis on EM-see graphs below, Europe (in particular peripheral Europe) and Japan), low duration developed world high yield credit and EM credit. Diversification is important to achieve a superior risk/return profile.

Emerging Market stocks are cheap

Source: Barclays Research

Fund managers are extremely underweight Emerging Markets

A significant event occurred last week, with the ECB (to quote Gavyn Davies) "stating that the governing council is now unanimously willing to adopt quantitative easing in order to cope with prolonged low inflation (dropping to 0.5% in March), the statement substantially alleviates the risk of secular “lowflation” that has been worrying investors for some time. The risk of prolonged inaction in the face of low inflation or mild deflation has now been sharply reduced. Furthermore, Mr Draghi’s increasing emphasis on the exchange rate as a key component in the ECB’s assessment of medium-term inflation makes it far less likely that the euro will be allowed to rise further without running into a policy response from the ECB". Anticipation of ECB action on the QE front is likely to have a significant positive impact on risk assets as we move into the summer months.

The benefits of vegetables and fruits:

The evidence continues to mount in favour of eating vegetables and fruits to significantly reduce the risk of an early death from chronic diseases like cancer and heart disease – this time a new study recently released in the U.K. which demonstrates the benefits of eating several helping of vegetables and fruits with the pecking order (in declining order of benefits) being vegetables, salad, dried fruit, vegetables in composites, fruit in composites, pluses, fresh fruit, and fruit juice :

by Dr Khezar Hayat In Medical— 1 Apr, 2014

-Eating at least seven daily portions of fruit and vegetables may confer the best chance of staving off death from any cause, indicates research published online in the Journal of Epidemiology and Community Health ( http://jech.bmj.com/content/early/2014/03/03/jech-2013-203500.full ). And vegetables may pack more of a protective punch than fruit, the data suggest.

-A diet rich in fruit and vegetables has been linked to good health, but many of the studies on which this association is based have largely been carried out on people who are already likely to be health conscious.

-The authors therefore analysed lifestyle data for more than 65,000 randomly selected adults aged at least 35, derived from annual national health surveys for England between 2001and 2008. And they tracked recorded deaths from among the sample for an average of 7.5 years.

– On average, the survey respondents said they had eaten just under four portions of fruit and vegetables the previous day. During the monitoring period 4399 people died (6.7% of the sample).

-The analysis revealed that eating fruit and vegetables was associated with a lower risk of death, overall, and deaths from heart disease/stroke and cancer. The higher the intake of fruit and vegetables, the greater the protective effects seemed to be.

-Eating at least seven daily portions was linked to a 42% lower risk of death from all causes and from cancer and heart disease/stroke of 25% and 31%, respectively, after excluding deaths within the first year of the monitoring period.

-Vegetables may be more protective, the figures suggest: 2-3 daily portions were linked to a 19% lower risk of death, compared with a 10% lower risk for the equivalent amount of fruit. And each portion of salad or vegetables seemed to confer a 12-15% lower risk of death.

-But while fresh and dried fruit seemed to strongly curb the risk of death, a portion of frozen/tinned fruit seemed to increase it by 17%. Might added sugars in ‘processed’ fruit products explain this finding, they wonder.

– As only one in four adults in England gets their recommended ‘5 a day’ the health benefits of getting everyone else to up their game are “huge,” they suggest.

Here’s to upping the daily servings of vegetables and fruits!




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