Cerno Capital Journals 2017-10-27T09:07:43+00:00

Cerno Capital Journals

Turkey: You Better Not Look Down

Better not look down, Better not look down, If you want to keep on flying. Put the hammer down, Keep it full speed ahead. Better not look back Or you might just wind up cryin’. You can keep it moving, If you don't look down “Better Not Look Down”, Sample & Jennings, BB King, 1979 Perhaps your analyst has a cultural proclivity to look down too often. Certainly there have been no rewards in financial markets, at least since Q1 2016, for those not prepared to put the hammer down. Whether gauged by low cash levels in pension funds and mutual funds, high margin levels, low short interest levels or extinct volatility, all the evidence is that the hammer is down. Meanwhile, far below – so far it seems that even those occasionally glimpsing down cannot see it – a liquidity crisis is developing that is likely to become an [...]

By | November 17th, 2017|

The Price Paid

It is rare for investment managers to write about investment management fees. Like the artist who struggles to describe his ceramic pot in monetary terms, high quality investment managers prefer to build portfolios that deliver client objectives while leaving fees to their business colleagues. Investment management services are typically charged for by one of two methods. The most common is to charge a fixed percentage of assets managed for example, 0.75% per annum. This fee is set at a level which covers the costs of the investment manager and which also delivering a profit to the owners of the business. Critics point out that the manager earns his fee, and presumably a profit, regardless of the success of the strategy. To determine this, one needs to be clear on the investment objective. All investment managers should be able to express what their investment objective is. Under a flat fee scale [...]

By | October 10th, 2017|

FAQs on the Cerno Global Leaders Fund

Fay Ren compiles a glossary of questions asked in recent investor meetings and the related answers. Would you discuss your idea generation screen? Our permanent source of ideas is a screened universe of companies. We narrow the global universe of publicly listed companies by applying liquidity, size and profitability parameters. We also exclude banks, energy and basic materials companies given the leverage inherent in the former and commodity price sensitivity of the latter two groups. This screen provides a list of approximately 500 companies which are qualitatively reviewed for Global Leader characteristics. This list is not restrictive and analysts are free to generate ideas from multiple sources, however the screen ensures there is always a ready supply of ideas to work on. Do you have positive ESG filters?   We anticipate holding our companies for very long periods of time and therefore look for those businesses which embrace sustainable practices. [...]

By | September 20th, 2017|

Cerno Global Leaders – The Podcast

On November 1st, Cerno Capital will launch a concentrated, low turnover, global equity fund, TM Cerno Global Leaders. The strategy has been active in client accounts since 2013 and target 25-30 holdings are identified via proprietary research from our investment team. In the captioned podcast, Lead Manager James Spence explains the underlying thinking and portfolio structure and protocols which we believe make it a unique offering in the global equity sphere. Listen to the podcast here, or using the player below.

By | September 15th, 2017|

Electric Wheels

The sport of cycling has, since James Moore won a 1,200-meter race in 1868 at the Parc de Saint-Cloud, been dogged by the willingness of riders and their minders to administer stimulants or other medical products to gain an advantage. Riders doping strategies have come a long way from the consumption of cocaine, caffeine and strychnine cocktails to the more modern techniques of altering blood composition. A rider’s heart and lungs are typically referred to as the “engine”. To-date, there have been no biological advances to provide an extra engine within the body. However, engineering has provided riders with the opportunity to engage a “second engine”. The term given is “mechanical doping”. The practice is simple – a small electric motor, along with a battery is secreted within the frame and connected to the drive mechanism providing the cyclist with assistance at opportune moments in a race. While electrical assistance [...]

By | July 14th, 2017|

Patient Capital Outperforms – are you fishing in the right pond?

While investment manager returns can be observed on an ex poste basis, the more important question is whether managers with a high probability of success can be observed on an ex ante basis. Our response is that they can. There are key characteristics that we see repeatedly across excellent investors. The first characteristic is one that surprises many casual observers of the investment problem. When investing in companies or buildings or lending money “active” should not imply activity. The ability to trade successfully and the ability to invest rarely reside in the same person or team. Excellent investors are patient, methodical people who think about the development of a business in terms of years rather than the development of a share price over minutes. Contrast this with the quick minded trader, taking advantage of market psychology on the demand and supply of paper assets. While the popular image of an [...]

By | June 6th, 2017|

Keeping an eye on the left field

We spend a lot of time thinking about how defendable the competitive advantage is of the companies we invest in. For us this means understanding the breadth and sustainability of the protective moat around the business which underpins profitability and growth. A broad moat tends to be multifaceted incorporating persistent innovation, deep customer relationships and technological expertise. We view this as a key signpost for a company with the ability to deliver long term value. However, focusing exclusively on the playing fields where a company already competes can leave investors (and CEOs) blinkered to events ‘out of left field’. Disruptive technology can shift the goal posts, and even the field of play. Further, the ‘winner takes all’ nature of new technology means the viability of incumbent business models can potentially be challenged. Given the size of the downside risk we try to incorporate a regular re-assessment of innovative threats to [...]

By | May 8th, 2017|

China Tech: From Cubs to Pandas

China’s technology sector, once a discretionary purchase within a regional portfolio, now deserves scrutiny. China is a place where Google, Facebook and Twitter simply do not exist. Their analogues do. In their place stand Baidu and Tencent. Alibaba is a much more significant concern than Amazon. The digital economy is thriving. E-commerce penetration has overtaken the US, as has mobile payments, led by Alibaba (AliPay) and Tencent (WeChat Pay), where the value of transactions dwarfs the US by nearly 50 times. The army of Chinese netizens pay for almost everything from goods and services to bills and insurance via one of the two payment systems available on a smartphone. The internet is one area where foreign brands do not possess any competitive advantage over indigenous brands. China’s netizens have never become accustomed to Google, Facebook, and Twitter. This is in part due to regulation: popular social media sites are often [...]

By | March 24th, 2017|

Risky thoughts

The investment world can be split into many camps, but, in discussions of risk, owners and custodians of capital, their agents, academics, analysts and journeymen pitch their tents firmly in one of two camps. In one field we have those for whom risk means the probability of a permanent loss of capital which would cancel all hope of achieving an investment objective. This group will oft reference the Sage of Omaha, Warren Buffet, who has been robust in his observation that risk is not synonymous with the preferred definition of the other camp – volatility. In business school classrooms, university lecture halls and many of the world’s largest asset managers it has been standard practice to use volatility, or the “spikiness” of a price chart, as a proxy for the risk of a tradeable asset, sector or asset class. The use of volatility stems from the study of the role [...]

By | March 3rd, 2017|

Cerno Capital receives 2017 Suggestus 3D Award

Cerno Capital has received a Suggestus 3D Award for 2017 from Asset Risk Consultants (ARC). This award is an independent endorsement of the firm’s commitment to the principles of transparency, engagement and integrity, as recognised in ongoing service to clients. ARC have established a strict 3D Award framework consisting of a stringent set of criteria against which investment managers must measure up to in order to receive the accolade. Whilst investment managers are entered into the award process on completion of the ARC Due Diligence Questionnaire, they have to undergo a series of comprehensive analysis by the ARC Research Team against the 3D framework of which the award consists: Due Diligence, Data, Demonstration. ARC’s Manager Selection Research Team spend on average 30 hours collecting, analysing, questioning and feeding back to those managers as part of award methodology, working to truly understand the investment philosophy and process of a manager, and [...]

By | February 23rd, 2017|

Investment Benchmarks – Utility, Clarity, Applicability

When the owner of capital engages the services of professionals to manage that capital, an investment management agreement (IMA) should state an investment objective.Said IMA will also describe a benchmark against which the change in value of the capital may be compared to evaluate the ongoing progress of the manager in delivering the investment objective. What makes for an appropriate benchmark? It goes without stating that the benchmark should correlate with the objective. Institutional equity mandates which are tightly defined in terms of region, sector or company size have been guided by four tenets, namely an appropriate benchmark is :- Composed of constituents that are known in advance of any valuation day Measureable Investable Representative of the chosen asset class While these requirements are suitable for single asset class benchmarking exercises and, by extension, permit a passive implementation option, we can draw on them when thinking about a benchmark for [...]

By | February 7th, 2017|

Ham & Eggs – our view of the proposed merger of Luxottica and Essilor

Luxottica is a new addition to the Global Leaders portfolio. Italian sunglasses & frames maker Luxottica and French optical lens maker Essilor have announced a €46bn “merger of equals”. When it is completed, it will represent one of the largest cross-border deals attempted by European companies, and the news was well-received by the market. The stock of both companies rose +8% and +12%, respectively, on the day of the announcement. The marriage makes strategic sense, considering the highly complementary nature of the two businesses, which are already leaders in their respective fields. Luxottica is known for their strong brand portfolio: 7 proprietary brands including Ray-Ban and Oakley, and over 20 licensed designer brands incl. D&G, Bulgari, Chanel. They also have a notable retail presence including Sunglass Hut, LensCrafters, Sears Optical, among others. Its size dwarfs the next largest competitor Safilo (also Italian) by almost 6 times. Essilor, who controls over [...]

By | January 26th, 2017|

Breaking Waves with Hannah White

On Wednesday 18th January 2016, Cerno Capital hosted a dinner with Hannah White, one of the female adventurers the firm has been supporting. Following the dinner, Laura Winter, sports journalist and presenter, met up with Hannah to catch up on Project Speedbird, Hannah’s attempt to break the world speed sailing record over 500m and one nautical mile. Words by Laura Winter Hannah White thought she had her life meticulously planned, at least for a few years or so. From her latest challenge, her bid to break the world speed sailing record over 500m and one nautical mile, to her broadcasting career presenting the sailing on BT Sport, the adventurer was in control and on task. And while the weather, or more precisely the lack of strong winds, played havoc with her record attempt, what was to come next would throw all of her carefully laid plans “out the window” and [...]

By | January 23rd, 2017|

Cerno Capital Joins VW Lawsuit

Boutique wealth management firm Cerno Capital is participating in the litigation seeking damages from Volkswagen. James Spence, managing partner at the boutique, said that the following the emissions scandal, Cerno sold out of its position in the automotive company and joined an investors’ group to join in the litigation in Germany. Saying that it is the only litigation that the company has ever been involved in, Spence pointed out that he felt it was important to be in a part of it following the scandal. He said ‘We were investors in VW and when the emissions scandal broke we sold the position entirely and we are participating in the litigation against VW to seek compensation on behalf of investors. That grinds on. But we hope and expect to be successful on behalf of investors’. Last year, it was reported that fund management giant BlackRock had also joined a shareholder lawsuit, [...]

By | January 19th, 2017|

Cerno Capital and the Getty Images Sport Photographer Internship 2017

Cerno Capital supports UK women athletes, explorers and adventurers. It is part of our ongoing mission to promote participation and inclusion through various outreach programmes. In a new initiative with Getty Images, Women’s Sport Trust and Canon, we will support women behind the camera by funding a one year paid internship with Getty Images. Entries for the Getty Images Sport Photographer Internship are open and in May next year, a young female talent will be selected to join Getty’s roster of professional sports photographers covering major sporting events both here in the UK and more widely afield. The successful applicant will experience all aspects of the sport photography business at Getty Images, and will have the chance to hone their photography skills at UK and international sporting events with the guidance of the best sports photographers in the industry. It is our hope and Getty’s intention that the internship will [...]

By | December 7th, 2016|

We're All Builders Now

The world is guessing as to what parts of Donald Trump’s electioneering agenda he will deliver on. The much touted wall with Mexico has been downgraded to a partial fence. Mrs Clinton looks as if she will be able to enjoy her retirement outside a penitentiary. Even elements of the reviled “Obamacare” are to be retained. Having developed a reputation for unpredictability on the campaign trail, Mr Trump looks as if he will carry it forth into his presidency. There is one area, though, where we would be happy to make a judicious bet that there will be some delivery versus expectations and that is infrastructure spending. We believe this for several reasons. Firstly, it was area where two polar opposed candidates agreed upon. Both touted the need to spend on roads and bridges. Furthermore, the idea has common currency outside America and has been already proffered here in the [...]

By | November 30th, 2016|

Global Financial Assets and the Trump Presidency

Financial markets will struggle to adjust to what was a very possible, however largely unexpected and definitely undesired result. Between today and his inauguration on the 20th January, they will pay rapt attention to every utterance of President elect Trump. Already, we see a gulf between the rhetoric of the campaign and his acceptance speech which, for the large part, hit the usual magnanimous marks. This though was written by others and it was all too obvious where he extemporised: “it will be a beautiful thing”. It is not difficult to locate why this has happened in political historical terms. America is about to become a minority white country and many resent this. Nor were all ready for the Obama presidency. Real wages for all but the top echelons have stagnated since the early ‘80s, fostering disappointment over a generation. A large majority of the country is pessimistic about the [...]

By | November 9th, 2016|

Less Cream, More Expensive

Cerno Global Leaders is a long term equity investment programme designed to identify and invest in high quality, defensible business franchises. We have been investing in an equal weighted portfolio of such stocks on behalf of investors since 2013. Results, to date, have been very encouraging and the portfolio has exhibited strong performance. The underlying process is very much tilted toward the research and identification stages with many possible candidates rejected along the way. To render a manageable list of candidates from the global equity universe of 68,000 listed companies, we apply a quantitative screen. To ensure sufficient liquidity, we screen for companies with a minimum market cap of US$2.5bn. We exclude highly leveraged sectors and deeply cyclical sectors such as banks, oil & gas, basic materials and mining. Positive profit histories and robust balance sheets are also requirements for inclusion. Note that past stock performance is not a criteria. [...]

By | September 6th, 2016|

The Passive Fallacy

The growth of passive investment strategies has been supported by a narrative that active management should be shunned in favour of the passive approaches which have disrupted the investment management landscape. We at Cerno remain ardent supporters of well-considered, properly implemented active approaches to investment. Our position is based on our own experience of investing and of our time spent observing active investment managers and the development of passive, or rules based approaches. The potential rewards to a successfully implemented active investment strategy are significant and are perhaps best exhibited through the example of a savings plan for a new born child. Assuming the parent of a child born in 2016 is willing to make the requisite JISA and ISA contributions and that child is subsequently able to continue with contributions to the age of 65, the uplift from an active approach results in a potential doubling of income in [...]

By | September 6th, 2016|

Project Speedbird at the International Festival for Business 2016

For the past few months, I have been lucky enough to work with Downing Street’s GREAT Campaign as a GREAT Adventure ambassador. When the team at No.10 invited me to exhibit the boat at the International Festival for Business in Liverpool for 3 weeks, I jumped at the chance. Despite being right smack bang in the middle of my record attempt window, I knew this would be an opportunity that I couldn’t miss. International Festival for Business 13 June - 1 July 2016 Exhibition Centre Liverpool The International Festival for Business 2016 is renowned for being the world’s top business event, with over 30,000 delegates from over 100 countries. Having the opportunity to showcase Project Speedbird on this level is something that I could only dream of. Unlike being at the Boat Show or the Science museum, visitors to IFB are there to make connections, do deals and inspire each [...]

By | July 18th, 2016|

The Robotic Chauffeur: ethics and the adoption of driverless cars

In our recent article for Citywire magazine ‘Fundmanagers as Futurologists’, we analysed how technological developments in the automobile, payments and energy industries influence our investment choices. In this article we further investigate the auto sector and the prospects for the driverless car. Valentine’s Day can be problematic for many of us, but for one company this year it was a complete car-crash. Not only did Google’s self-driving car collide with a public bus, but, for the first time in history, the car itself was deemed partially responsible[1]. Robotics has been influencing the way we travel for decades:  the birth of the aeroplane auto-pilot function in 1912 and London’s very own driverless Docklands Light Railway (DLR) being just two examples. The most recent developments in such technologies mark a turning point: firms such as Google and Tesla are now developing cars with no need for drivers to actually touch the steering [...]

By | March 30th, 2016|

Feeling It – Sentiment and Markets

The potential to use investor sentiment as a gauge for future market trajectory is an appealing proposition. Sentiment is often cited as a contrarian indicator; excessive bullishness signals market exuberance poised for a reversal, whilst extreme bearishness may be the precursor to a market recovery. Such indicators are most useful when they are at extremes, and less so when the readings are neutral, which tends to be most of the time. The reason for assessing sentiment is that, when investors are extremely bullish, they tend to be fully invested, leaving little available cash to drive asset prices higher. On the other hand, when extreme bearishness prevails, the abundance of cash sitting in portfolios can be deployed to buy cheap assets, creating the foundation for a bull market. There are broadly two approaches to quantifying investor sentiment: attitude and activity. The former are typically surveys, gathered through proxies, of near-term expectations [...]

By | March 8th, 2016|

Health Care Stocks – Accessing the Demographic Dividend

In an endemically low growth world, prone to accelerating forces of disruption, it has become progressively harder to identify stocks to hold for the very long run. There is, though, a group of superficially boring healthcare stocks which are locked into long term palliative, chronic or geriatric pathologies where the demand profile is observably robust and their respective market positions pretty much unassailable. We hold six such companies within the Cerno Global Leaders Strategy, an equity investment program designed to identify and invest in companies for the very long term. The six are made up of three medical equipment suppliers, two chronic conditions specialists and one generalist. The healthcare companies we like have very simple, understandable products and services and are accessing large and growing patient pools. These companies typically operate in oligopolies where the competitive environment is relatively benign, where they are able to maintain stable market shares through [...]

By | February 26th, 2016|

‘I’m not done yet’ vows Peter Pan Pendleton

This article was first seen on The Mixed Zone - the women's online sport magazine After her untimely fall on her jumps debut at Fakenham racecourse aboard odds-on favourite Pacha du Polder, Victoria Pendleton’s dreams of riding at the Cheltenham Festival are hanging in the balance. The Mixed Zone’s Laura Winter spoke to her after the race about the reasons behind her desire to become a jump jockey Victoria Pendleton readily admits she achieved more on a bike than she dreamed she would. Her illustrious cycling career, spanning more than twenty years, embraced nine world titles and three Olympic medals – including two golds. She also picked up a Commonwealth title in 2006 and two European golds in 2011. She was a poster girl for Great Britain during those two glorious weeks in the summer of 2012 when the Olympic Games came to London. And after winning a gold in the keirin and a [...]

By | February 24th, 2016|

What Equity Indices Tell Us When They Get “Narrow”

The S&P 500 index peaked in late May 2015 at 2130, having enjoyed a seven year bull run. However, the current mix of strong dollar, weak oil and the peaking of the earnings cycle have pitched the US into bear market territory. The dip into bear te rritory was preceded by a narrowing of market breadth. In local currency terms, the S&P 500 index returned -0.73% on a price basis in 2015 (and 1.4% on a total return basis) however, this number is skewed by a handful of large entities. In particular, the new darlings of the tech industry: Facebook, Amazon, Netflix, and Google (collectively termed as the ‘FANGs’), together with Microsoft and General Electric, produced outsized returns which dominated index performance. These six firms contributed in excess of 100% of the index level return, as shown in the table below: Stock 2015 Performance Contribution to Index Return Netflix 134.4% [...]

By | February 12th, 2016|

#BeAGameChanger Awards 2016

The Women’s Sport Trust #BeAGameChanger Awards 2016 are now open for nominations. These awards promote and celebrate those who are helping the development and recognition of women’s sport. The individuals and organisations involved are inspiring role models and thought-leaders who endeavor to alter the perceptions of female participation in the world of sport. There are nine different nominations categories including role models, Women’s Sport Ambassadors and inspiring initiatives among others. Nominate here. Last year, we had the honour of attending the #BeAGameChanger Awards 2015 and witnessing first-hand how much positive influence last year’s nominees and winners have had in not only just their field, but throughout the wider remit of women’s sport. At Cerno Capital, we continue to support and encourage female athletes, coaches, journalists, and anyone involved in competing against the odds, thriving in and enjoying women’s sport the way it should be. Make sure to nominate the athlete, [...]

By | February 9th, 2016|

Cerno Capital opens business for international clients

We are pleased to announce our webpage for international clients is launched and now live. The page can be viewed by clicking into ‘INTERNATIONAL CLIENTS’ on the homepage of company website (, the Chinese version is also available on our Chinese  website ( This extension to our web page reflects our dedication to the international market by providing professional services to international investors looking to settle in the UK through Tier 1 (Investor) Visa scheme. The webpage provides information about the scheme and relevant contact details at Cerno. We look forward to connecting with investors around the globe through this exciting expansion of our website. 盛诺理财的海外客户网页现已诞生并正式启用了。这标志着本公司向开拓海外尤其是中国客户市场又迈进了一步。网络用户可以通过我们的中文网站进入到海外客户的页面(,新添加的页面提供了英国第一级(投资者)投资移民服务的相关信息,客户也可以通过网页上的联系方式与我们的客户总监直接联系作详细咨询。盛诺投资的资深财富管理团队致力为客户提供度身定做的专业服务, 我们期待新的网页可以帮助我们与更多的中国客户连接沟通。

By | January 20th, 2016|

The Problem With America

Whilst the headline indices held up in 2015, the drivers behind the US equity market have been weakening for sometime. Index levels have been pendant on flows into a concentrated number large cap technology growth shares and, outside these, supported by extraordinary levels of share buy-back activity. Meanwhile the model-dependent Fed is hawkish as long as employment numbers hold up. Should they do so, higher rates crimp equities but should they weaken, other aspects of the US economy will presumably be weakening in tandem. These are an unattractive set of payoffs and our core thesis now calls for a bear market in US equities. We have been reducing risk within portfolios and have moved to a more defensive position.

By | January 18th, 2016|

Cerno Capital sponsors Project Speedbird

The mission is simple on paper - a raw test of speed and power. Project Speedbird is Hannah White’s mission to become the fastest woman on water over one nautical mile. And for a woman who has made three trans-Atlantic crossings, cycled the Alps and kayaked through England, a 90 second effort on Grafham Water in Cambridgeshire should be straightforward. But the 32-year-old, who has years of adventuring experience, believes breaking Zara Davis’ current record is her toughest challenge yet. “This isn’t a simple course completion project, there are so many variables and its not an easy record - it was set windsurfing,” the sailor explained. “It’s travelling at 80km/hour for a minute and a half. It is so far removed from my skill set. I am an endurance athlete, I’m not a sprinter. “I look back to a year ago this week and I was sailing a foiling boat [...]

By | January 11th, 2016|

Cerno UK Income Strategy – 2015 review

The hunt for income continued in 2015. Equity income investors who were drawn to the energy and materials sectors faced the headwind of commodity price declines. Recent dividend cuts from companies such as Anglo American highlight the risk of a singular focus on yield. The Cerno UK Equity Income Strategy had no direct exposure to these sectors during 2015 having sold a position in Royal Dutch Shell at the end of 2014. The proceeds of this sale were invested in Vodafone. Other than this purchase, portfolio activity for the year was restricted to rebalancing. Our strategy identifies London Stock Exchange listed businesses which demonstrate a history of dividend progression along with growth, profitability and balance sheet characteristics which suggest the progression of dividends can be maintained. The strategy is concentrated in a small number of positions which are equally weighted and rebalanced routinely. The performance of the strategy is captioned [...]

By | January 8th, 2016|

Is the US Dollar Index Fit for Purpose?

The trade-weighted U.S. Dollar Index (DXY) is the de facto benchmark used to gauge the value of the US dollar devised by the ICE. The index is a weighted geometric mean of the dollar’s value relative to a basket of six currencies, where both the constituents and the weights have little changed since the series began in 1973, except to account for the creation of the Euro. The index can be decomposed as follows: Exhibit 1: The composition of the trade-weighted US dollar index (DXY) Currency Weight Euro 57.6% Japanese Yen 13.6% Pound Sterling 11.9% Canadian Dollar 9.1% Swedish Krona 4.2% Swiss Franc 3.6% Source: ICE The term ‘trade-weighted’, however, appears somewhat inappropriate on this occasion. For one, with the Euro accounting for nearly 60% of the index weight, it renders the DXY Index into a predominantly USD/EUR phenomenon, where the fate of the Euro has an outsized impact on [...]

By | December 15th, 2015|

Fran Millar at the Rapha Cycle Club – Introductory Remarks by James Spence

How many of you cycled today? A few but well below the national average. As usual I cycled to work today with all the Rapha clad commuters whizzing past we. The final humiliation being when Nick Hornby performed the perfect undercut at Hyde Park Corner. We’re in the Rapha Cycle Club and our friends from Rapha are telling me it’s Black Friday early. Black Friday means a different thing to an investment person but I’m advised it’s a good thing for consumers. We have a filial relationship with Rapha as Rupert Rittson-Thomas is both a director of Rapha and a non- executive partner of Cerno Capital. Thank you Rupert and thank you Tom Wood and Alistair Fenning. Cerno Capital is an asset manager. We build globally diversified portfolios of investments for our clients, some of whom are here tonight. In the audience we have financial advisers, institutions, private investors and [...]

By | November 26th, 2015|

The Mixed Zone – A New Place to Track Our Favourite Sports Women

As a growing business in a competitive market place, we are naturally supportive of dedicated, hardworking individuals looking to gain competitive edge in their chosen areas. Women in sport, in particular, face considerable obstacles in gaining visibility for their achievements. They garner less coverage from the media and less financing from sponsorship deals than their male counterparts. The Women in Sport Trust was set up to address the imbalance of coverage and a new portal and information service, The Mixed Zone  is one of the many ways they are helping support the cause. The Mixed Zone brings together the best stories of women in sport, curated and written by top athletes, sports journalists, enthusiasts and supporters. A truly inspiring and entertaining collection of articles for all who understand the mental strength, dedication and self-motivational challenges required when facing an up-hill climb in sports as well as in business.

By | November 17th, 2015|

Japan – Restructuring of Positions

Japanese equity, which has been a consistent allocation within our client portfolios since 2011, now stands at a twenty percent weight. Within this allocation, the precise expression has changed over time. Our approved list provides us with the necessary toolkit to alter allocations in response to changing drivers of the Japanese stock market. At present, half of our Japanese allocation is to the Lyxor JPX Nikkei 400 tracker. This ETF is assembled of companies, predominantly large caps, which score favourably on a shareholder value creation ranking. The Japanese equity market is attractively valued and we anticipate further improvement in return on equity (ROE), which currently averages nine percent across the corporate universe. With his triumvirate of ‘arrows’, Japanese Prime Minister Abe introduced measures to reform corporate governance and refocus corporate attention to the shareholder. These aim to prompt companies to allocate capital more efficiently and target returns on equity above [...]

By | November 13th, 2015|

Back to Buybacks

Share buybacks, or the repurchase of shares by listed companies is a popular use of listed companies’ cash. Repurchased shares are initially held in treasury which means they do not qualify for dividends or voting rights. If treasury shares are subsequently retired, this provides a stronger signal on the intentions of management.  From the long term shareholder’s perspective, a buyback is viewed positively because the reduced share count increases all other shareholders’ percentage ownership of the company. Of course, the value of the company has declined by the amount of cash used to repurchase the shares. A buyback impacts per share data. Therefore, an immediate benefit to shareholders of a buyback is the reduction in share-count which increases dividend per share assuming there is no reduction in the total amount of cash set aside for dividend distribution. The corresponding benefit to management is an increase in earnings per share; many [...]

By | October 13th, 2015|

Turkish Vulnerability

In recent weeks, China has dominated the headlines; in particular the recent stock market and currency volatility have sparked fear across global markets. Looking forward, we would highlight a less discussed market that has been concerning us in recent periods: - Turkey. Turkey is significant, due to the size of its economy (13th largest among OECD countries) and its geographical and economic proximity to Europe, which accepts circa 55% of its exports. Turkey is in a more vulnerable position than China in several ways: it runs one of the highest current account deficits in the EM universe owing to its dependency on short-term foreign funding to support the economy. Like its EM peers, Turkey has been a beneficiary of large foreign capital inflows, manifest in the significant external leverage built by its domestic corporate sector, masking its waning economic momentum. Gross external debt has doubled from pre-crisis levels to almost [...]

By | September 10th, 2015|

A day at the Women’s Ashes

Although it was a disappointing Ashes Test for England Women at Canterbury last week, Cerno Capital hosted an event to remember on the second day of play at the Spitfire Ground. A delayed and rainy start to proceedings saw Australia declare for 274-9 before Wallabies star Ellyse Perry took centre stage to see off several English wickets. In the event box, Cerno were remaining positive about England’s slow start, with members of the investment team and guests celebrating the coverage of women’s Test cricket across TV screens and on the radio, via Sky Sports and Test Match Special. Former England cricket captain Mike Gatting attended the event day, sharing his thoughts on the Test match and discussing the progress of women’s cricket on the international stage. It presented a fantastic opportunity for all to quiz the brave batsman about his career, who played for Middlesex and toured South Africa as [...]

By | August 25th, 2015|

Mirror, mirror, on the wall, who is the Sharpest of them all?

In an ideal world, an investment portfolio would deliver a total return in excess of that of the risk-free rate (e.g. Gilts) without taking any additional risk at all. Sadly, that is not possible. The pursuit of excess returns, or “alpha”, forces us out of traditional risk-free asset classes into riskier areas of the market. Riskier could mean many things, including less liquid (how easy something is to sell), leveraged (borrowing to accentuate returns) or more volatile. Volatility measures the dispersion of returns for a given investment, which means that a higher volatility investment could deliver a very good month in terms of performance, followed by a very significant loss in the next. This also has the effect of making timing a far more critical decision. Luckily, there is a commonly used method for calculating the risk-adjusted return of an investment, called the Sharpe Ratio. This is the average return [...]

By | August 19th, 2015|

RMB Regime Change

The change to China’s currency regime has potentially large consequences for global financial assets. It should prompt new thoughts. The reason why it surprised many was on account of the authorities’ insistence that they did not see the currency as a tool to promote growth,  the relative stability and strength of the currency in the past 20 years and, due to the tight way in which it is managed, the lack of volatility over recent years. The general consensus was that relative currency stability would further China’s desires for the RMB to be accepted as a transactional base currency with regards to their longer range plans for capital account opening and inclusion in the IMF’s currency basket of Special Drawing Rights. Whereas the relationship between monetary policy and currency in, for example, the Eurozone or Japan is readily accepted, in the case of China, it comes with a heavy freight [...]

By | August 14th, 2015|

Ben Inker (GMO) and the Definition of Investing Insanity

Sometimes one comes across a written piece that so succinctly expresses a held point of view that the only job in hand is to circulate it. The captioned piece (below) by Ben Inker of GMO's asset allocation group delves into the phenomenon of price insensitive buyers of bonds and the havoc they may reek just if they cease to buy. He describes the consequent overvaluation of long term bonds, focusing on the UK inflation linked series where pension legislation crowds providers into "insane" investments. His probability based explanation of why equities will prove (with a 99% probability) a better investment than the 2062 Index Linked bond should be decisive to any rational investor. Inker (GMO)_Price Insensitive Sellers  

By | August 7th, 2015|

Bonds – Their Scale of Overvaluation

The above chart, which is sourced from the Bank Credit Analyst, depicts the deviation from mean real yields since 1980 for the world's major government bond markets. The picture it paints is stark: with a very few exceptions, the valuation of most bond markets stand at more than one standard deviation from long term norms. Some bond markets are approaching or have exceeded two times normal levels. For the kind of new normal described by these valuations to prevail, something definitive and long lasting has to have taken place with regards to inflation. We continue to be of the view that greatest risk facing markets is that either growth or inflation surprises to the upside. Bond markets, inflated by non-price sentive buyers, are now priced for only one environment: pervading disinflation.

By | August 7th, 2015|

New Risks From Dollar Strength

Since mid-2014, the trade-weighted dollar index has surged 21%. If this is indeed a new bull market in the US dollar, it is not yet fully fledged. The previous two major US dollar bull markets during the open currency era traced rises of 88% and 47% between 1980-1985 and 1995-2002, respectively. Divergent monetary policies remain the key driver, predicated on the assumption that the Fed tightens first, whilst other major blocs retain looser monetary policy, increasing interest rate differentials. Speculative long dollar bets reached a record high earlier this year with the most extended positions against the Euro and the Yen. However, since March, with the renewal of the Greek Crisis and Chinese equity volatility grabbing headlines, the dollar has traded sideways and given up some of its earlier gains. A stronger dollar also exerts pressure on emerging market economies, who traditionally suffer under this scenario. History suggests that disruptions [...]

By | July 24th, 2015|

The G in D

“Do you know the only thing that gives me pleasure? It’s to see my dividends coming in." -  John D. Rockefeller A discussion of dividends or income can lead to glazed eyes of some equity market participants. Hot-handed momentum traders care only for the greater fool who will pay a higher price for their slice of equity. Long-term growth investors may well be invested in companies at the pre-profitability stage and hence dividends are not on the agenda. Alternatively, some investors believe in the capital allocation credentials of their management teams to the extent they entrust management to reallocate all profits on their behalf. Meanwhile, the income investor knows exactly when his or her companies go ex-dividend, and feels Rockefeller’s embrace when the pay date comes and the dividend shows up on the daily cash sheet. In truth, an interest in dividends is a hall mark of the equity investor. [...]

By | July 16th, 2015|

Active Management: Identifying Outperformance

At Cerno Capital, we believe in a) the ability of some managers to outperform and b) our ability to identify them. The track record of outperformance of our approved list is contained in the below chart. Against this, we entirely concede the point being made repetitively by academics and journalists alike that the average active manager does not outperform an appropriate index by a significant margin. It is, though, an error to conjure this observation into a theory that markets are “efficient” and therefore an indexed approach is appropriate. That the “average manager” does not produce returns which are statistically different from the appropriate index is hardly a surprise. This average manager is typically highly constrained in terms of the level of benchmark relative risk taken (no bad thing given an average level of ability) and must incur the costs of implementation not applied to benchmark indices. Faced with the [...]

By | July 8th, 2015|

Japan – Restating the Bullish Case with Hugh Sloane, Sloane Robinson

Hugh Sloane of Sloane Robinson (SR), one of Cerno Capital’s Investment Advisory Board Members, has recently published a comprehensive note, summarising his bullish view on Japan. The note was written in collaboration with his Japan co-portfolio manager, Alex Kydd and is captioned with this note. Hugh Sloane has been portfolio manager of the Sloane Robinson Japan Fund since he co-founded the firm in 1993. Hugh started his investment career in Hong Kong in 1979. Their view, which we also share, is that deflation in Japan is over and this has positive consequences for the equity market. Core CPI might not be moving up yet, however other indicators are supporting this argument; for example, a tightening labour market and rising wages and income. Also, the GDP deflator has increased well into positive territory for the first time in 18 years, as SR points out. The driver of Japan’s recent bull market [...]

By | June 26th, 2015|

A lunch date with Judy Murray

When Cerno Capital’s James Spence met Judy Murray at the BTSport Action Woman of the Year Awards last December they instantly hit it off. So much so that when James asked Judy if she might come along and speak at an event organised by Cerno Capital, she agreed whole heartedly. Some six months later and the team at Cerno were pleased that Judy Murray - the mother of the World No 3 Andy Murray, Wimbledon Doubles Champion Jamie Murray, captain of the British Fed Cup team and TV star - was still keen to devote a wet and windy Wednesday afternoon in Glasgow. Weather notwithstanding, Judy graced us, 50 Glasgow and Edinburgh based IFAs, and journalists from several Scottish national newspapers with both her presence and her wisdom. Renowned sports journalist Sue Mott was present from BTSport with Maureen McGonigle also present to represent Scottish Women in Sport ( The [...]

By | June 26th, 2015|

Defining Megatrends: Demographics & Debt

When investors talk of long-term trends, they are often referring to the next three to five years. Few envisage horizons past the ten year mark. Yet super long-term trends do exist and are slowly but definitively changing the world socially, economically and politically. In our minds, some of the largest of these are demographics, debt, the technology of energy provision and gene based medical discoveries. We address the first two, which represent more of a threat than opportunity, in a chart book. The world is getting older. This is a topic that has been acknowledged and fretted over by academics, economists and governments, whilst relatively little can be done on a supra-state basis. In the recent past, people worried about world population exploding to unmanageable levels, which at the time seemed realistic. They noted that the world’s population doubled twice in the 20th century. However, future demographic shifts in many [...]

By | June 17th, 2015|

Bet the House? The Odd Thing About Leveraged Returns

We all know that the UK and US stock markets have risen over the past 50 years. It would therefore seem intuitive to think that leveraging these markets would have generated higher returns. No so. We investigate the relationship between financial leverage and stock market returns over the long-term. The use of leverage is intended to capture price movement greater than the market, typically accomplished through derivatives trading to mimic the return characteristics of an underlying index. Leveraged investment vehicles are widely distributed in exchanged traded fund (ETF) format and these strategies are commonplace within hedge funds via derivatives markets. A leveraged strategy intends to deliver a multiple of the underlying indices’ daily (or in rare cases monthly) return. However, over the long-term this does not translate into any reliable multiple of the performance of the underlying index. The chart below illustrates this. The log cumulative return of the S&P [...]

By | June 12th, 2015|

Entrepreneurs' Lunch with Douglas Brodie, Baillie Gifford

On the 10th of June Cerno Capital hosted a round table discussion with Douglas Brodie, the head of Baillie Gifford’s Global Discovery Team and a group of early stage investors, founders of businesses and fund raisers. The sectors represented were broad, including food, fashion, insurance, technology, sport, natural resources and logistics. Constituent companies included Jack Wills, Rapha, Tesla, Patisserie Valerie, Edgebold and a number of smaller concerns. Douglas opened by sharing his enthusiasm for innovation emphasising that his approach to small company investing centres more on immaturity than simply looking for small companies. Given the audience, there was some debate as to the availability of these traits in listed companies. Douglas noted that founding individuals remain involved in over half of the companies in his portfolio. Serial consumer sector investor Mark Farrer-Brown noted that in his successes, it has been selecting the right people that have driven a business forward, [...]

By | June 12th, 2015|

The Strain in Strine – Australian Macro

For the unconstrained global investor, Australia is a prospective hunting ground for profit. Any comprehensive analysis of the main trade and capital trends at work in the world find their conflux in Australia’s capital markets. Predicated on China’s fixed asset investment boom over the past quarter century, Australia’s economy has been substantially driven by demand for its ores and minerals. It relates uneasily, it seems at times, on account of deep cultural differences, to the rest of Asia, in particular Indonesia. Australia is an affluent, urbanised society. It is, above all, a consumerised population that is, in economic jargon, fully financially included. It has an independent central bank and currency. On account of these features, backed by disciplined capital markets and secure laws, Australia’s equities, government bonds and currency have been a destination for macro investors of all stripes, including hedge funds. We measure recent opportunities by looking at 12 [...]

By | June 4th, 2015|

Is It Time For Value?

Within global equity markets, April saw value style indices outperform growth style indices. The relative return of one style versus the other would not typically be a significant event and the relative outperformance was just 1% according to the Russell Global Style Indices. However, the prolonged period of underperformance of the value style versus growth (a 5% difference over the last year and a 37% difference since 2005) and the associated headwind for equity investors with pronounced value style bias means that observers are in a mood to call for a change in trend. Can we observe a similar pattern in active manager universe data? For reliable style universe data we look to the Morningstar US large cap value and growth peer groups. The median value manager has underperformed the value and broad market indices over the last five years while outperforming over one and three months. Meanwhile the median [...]

By | June 2nd, 2015|

Deflation Worries – A Case of Bad Semantics

Comments surrounding the report of negative inflation for the UK are designed to insinuate that negative inflation does not equal deflation. One reason for this confidence is the recovery of the oil price, not present in these numbers, due to the lag between wholesale and petrol markets. Indeed, some commentators have gone far enough to suggest that deflationary worries have been quashed and that the ECB needs to be less committed to its unbounded plans of creating electronic money. Whilst we retain our belief that outright debt deflation is a low probability outcome, it is easy to conflate two distinct phenomena, leading to confusion of the issue. When commentators reference deflation, they sometimes mean a phenomenon more expressly termed debt deflation, balance sheet deflation or debt spiral. This only occurs as a consequence of a great rent in the fabric of financial infrastructure, accompanied by, or caused by, a systemic [...]

By | June 2nd, 2015|

Japan – ROE is the Key

Those who have seen our opinions on Japan will know that our arguments on expanding equity returns in the country are predicated on the condition that Japanese corporates implement reforms, aimed at increasing shareholder value. We like to think of long term investment as being evidential, and are therefore seekers of proof for our beliefs. We have already seen a string of positive developments. Most recently, Fanuc, a large cap Japanese robotics manufacturing business, has announced the hiring of an investor relations team. The company was previously known for purposefully avoiding shareholder contact. This is a significant development, with a 1.2% weight in the TOPIX index, Fanuc is leading by example. Other noteworthy changes include the reduction in cross shareholdings between companies, announcement of dividend increases and share buybacks. With the prominent launch of the JPX Nikkei 400 Index, one particular measure of shareholder value creation has been pushed into [...]

By | May 14th, 2015|

Demand Shift – Japan Has a New Marginal Buyer

Last year, the Japanese Government Pension Investment Fund (GPIF) announced its intention to cut allocations to low yielding government bonds and to double its exposure to domestic equities. The logical pretext for this decision is the need to achieve higher returns to cover increasing pension payments to the country’s aging population. After decades of overweighting bonds - which benefitted from Japan’s deflationary environment - policy changes by Prime Minister Abe, set out to boost risk assets and to introduce inflation, gave this move further urgency. The new asset allocation came into effect on 31st October 2014. The table below outlines the extent of this change and alludes to the impact it had so far in monetary terms. Source: BCA Research, GPIF Data from BCA Research shows that the world’s largest pension fund, with total investable assets of Y138 trillion (US$1.14tr), has shifted close to US$90bn into domestic equities in the [...]

By | April 13th, 2015|

The real sea change in Japanese equity is coming

There is a sea change in corporate behaviour in Japan that is leading to a focus on capital efficiency, return on equity and higher dividends, as well as share buybacks. Valuations and earnings growth are favourable compared with other markets at a time when foreign investors are underweight and have been selling the market. Deflation has de facto ended, with rising wages, rising rents and better domestic consumption. Everything is in place for Japan to be one of the best performing major equity markets. The Nikkei 225 has rallied by 112% in total return terms since December 2012, when prime minister Shinzo Abe came to power. Owing to very strong earnings growth – 20% in 2014 – valuations are attractive. Japan is the only major developed market with lower price-to-earnings ratios (P/Es) now than in 2012. Japan’s forward P/E trades at 13.6x versus 17.3x for the US and 16.4x for Europe. [...]

By | April 9th, 2015|

What R&D Really Means

The Cerno Global Leaders Programme seeks to identify and invest in a group of companies worldwide which possess leadership attributes with a view to holding them for the long term. What constitutes leadership capacity? There are a small group of enterprises within the global equity universe that persistently exhibit above average growth, profitability and investment returns over the long-term. These companies often operate in oligopolistic industries and possess qualities that contribute to their competitive advantage and economic moats, ranging from:- barriers to entry economies of scale differentiated product/service offerings outstanding management teams with good strategy and execution capabilities. This method of understanding industries has been shaped by the work of Harvard professor Michael Porter. Porter coined five archetypal attributes: pricing power, bargaining power, threat of new entrants and substitutes, and competitive industry structure. From a quantatively screened universe, the investment group selects stocks based on seven main criteria that were [...]

By | March 5th, 2015|

A New Look at European Cyclical Shares

Throughout 2014, institutional investors have become more concentrated in their positioning. The consensus became to be underweight the euro, long the US dollar, overweight US equities and short commodity currencies. We have recently backed away from this consensus. Last year, European equities underperformed US equities, the sixth of the last seven years in which they did so. The negligible positive return they recorded in 2014 (+4%) reflected the lack of earnings growth. Currently, there is a fascinating spectrum of opinions on Europe within the active management community with most gravitating to one of two opposing outlooks. Sceptics argue that  European QE is doomed to fail: ‘too little, too late’. On the other end of the spectrum we see enthusiasts cautiously hailing QE in combination with lower energy and commodity prices as the saviour of Eurozone lending and spending. A careful analysis of active managers’ portfolios reveals that almost all exhibit [...]

By | March 5th, 2015|

The Healthcare Sector – Time for a Check Up

Through the first 8 years of the noughties, global healthcare stocks were notable underperformers. There was an aversion to “paying up for growth”, considerable concerns about the patent expiry cliff and government spending cuts. As a consequence, valuations became progressively more attractive. The long term outlook for the sector was and remains attractive given ageing populations with expectations of remaining active well into old age and the money to achieve this. This underperformance ended after the Global Financial Crisis and Healthcare stocks have been a great place to invest in the past five years with the MSCI World Healthcare Index delivering an annualised total return in excess of 17% in USD. Over the same period, MSCI World Index returned 12% per annum. Heathcare stocks have performed almost as well as the Tech heavy NASDAQ index. Therein lays one of the clues to the sector’s appeal. The Healthcare Sector now represents [...]

By | March 4th, 2015|

A Chat About Risk

One of our larger accounts rang me this week to ask what we thought of the geopolitical situation and how we were positioning for this. Where? I asked. Well, there’s the Ukraine, we really need to let them fight it out, he replied. What a desperate situation. And then there’s Greece: that’s an intractable one isn’t it? And then ISIS and that conflagration. Our investor warmed to his topics but, after he had finished speaking I told him I was worried about other things. What? My two biggest concerns are lack of depth in markets and concentrated positioning. What do you mean? Well, on the first point, one of the consequences of the Global Financial Crisis was to place much stricter limits on banks’ activities and capital ratios applied to each activity. The sum consequence of these measures is to drive banks out of proprietary trading and to severely restrict [...]

By | February 18th, 2015|

What's So Special About Active Share?

In short, not much. Like any attempt to reduce a complex process to a digit, it fails as an investment assessment tool. “Active Share” is the number you get when you sum the difference between the weight of a stock in a portfolio and the weight of that stock in an appropriate benchmark for all stocks in the benchmark. The maximum score on this basis is 200%. We can simply divide by two or agree to only sum the overweight positions to arrive at a figure where the maximum score is 100%. The score is an attempt to measure the risk that fund is taking – but note that we are talking about relative risk versus an index rather than absolute risk (the probability of a permanent loss of capital). By using current holdings, the score is not a rear view mirror measure of relative risk in the way that [...]

By | February 13th, 2015|

Passive Aggressive

I recently met Colin. He has the longest unbroken track record in the UK Equity Income sector. We did not talk about his Income fund; instead, we talked about his Blue Chip Equity Fund, which, notwithstanding a long track record has seen assets dwindle as investors joined the passive bandwagon – predominantly through Exchange Traded Funds (ETFs). Colin’s fund will be converted into a UK Rising Dividends Fund. The strategy makes a great deal of sense – focus on businesses with a track record of dividend growth and with the potential to maintain that growth. A set of rules whittle his universe down to a manageable list, then his experience and brain take over. The challenge for Colin is that the passive ferry may have already picked up his potential passengers. The growth in ETF-land is now focused on “Smart Beta”, “Factors” or “Advanced Beta”. The terminology proliferates as quickly [...]

By | February 5th, 2015|

Disaster Scenario

The launch of QE by the ECB on January 22nd represents a milestone in the drawn out campaign against disinflation. With all the major Central Banks of the world having ‘deployed’, it is logical to begin to contemplate the consequences of failure in these monetary campaigns. Extending the military analogy to ISIS or the Taliban, one’s foe can prove more malicious and tenacious than anticipated. So of deflation, where the collapse in the price of oil surely skewers the thought that other vestiges of disinflation are just isolated events. In the instance of the failure of uncoordinated monetary easing we might expect coordinated money easing which, if that in turn fails, genuine helicopter money becomes the final barrage. This is the mechanism where deflation could flip to inflation in an uncontrolled manner. That disastrous phase can plausibly take us to a place where there is a general loss of confidence [...]

By | January 30th, 2015|

Cerno Capital and BT Sport Action Woman

"You were the guys that came into the room and said yes, we’re going to do this" was how Clare Balding welcomed us at the BT Sport Action Woman of the Year Awards in December 2014. Our involvement with Action Woman represents a new era for Cerno Capital. The referral-based nature of our growth trajectory to date is perhaps in contrast to the visible world of sporting sponsorship. We have learned, however, from many years investing in the markets that opportunities can appear in unexpected places and as such we try to go about most things we do in a considered way. While the commercial relevance of being involved with a project which promotes diversity and inclusion was not lost on us, there was a more profound connection. On a cultural level, the process of immersing ourselves in the world of Action Woman has been an enlightening one, in particular [...]

By | December 19th, 2014|

The CAPE Ratio Revisited

The cyclically-adjusted price earnings ratio (CAPE), also known as Shiller’s P/E, continues to fascinate stock market watchers. The ratio, developed by the Nobel laureate Professor Robert Shiller of Yale University, and further popularised by market commentators such as John Authers, Andrew Smithers and Russell Napier, quantifies the relationship between the price of the stock market and its average 10 year real earnings. The CAPE has become widely used to gauge how over or undervalued a market is relative to its own history. It is often cited as a more useful metric than the conventional P/E ratio, based on a single year’s earnings, as the longer data essentially smooth out the volatilities over one business cycle. Exhibit 1 Source: Dr Robert Shiller, Yale University According to data published by Dr Shiller[1], current CAPE at 26.5x is 61%, or 1.5 standard deviations, above its long-term mean of 16.6x, which does appear overvalued [...]

By | December 4th, 2014|

India: Topping up the Modi Mojo

The election-inspired excitement of Narendra Modi’s landslide victory in May has subsided and investors are beginning to question whether the Modi government can actually deliver on their promised reforms. The macro story in India is very powerful, with inflation falling, interest rates dropping and the currency strengthening. All this at time of weakening commodity prices, especially oil, improving India’s external position and further helping to bring inflation down. We view India as one of the better top down investment opportunities globally; while the market has performed well over the last year, the longer term opportunities are considerable. While the Prime Minister has been busy on the international stage in Japan, China and the U.S. securing major investments into the country, there has also been significant progress to change the way that business is conducted by the bureaucrats within the government. Corruption is one of the key areas under attack. The [...]

By | November 27th, 2014|

The Elephant Stands on its Head – What the CAPE ratio can tell us about future US equity returns

We live in a world where a teenager can discount future cash flows with the aid of a financial calculator. A little screen tells him the price/value of a financial instrument to as many decimal places as takes his fancy.  This great leap forward for mankind has, however, not made the valuation of financial instruments materially easier. Indeed, the increase in the speed and ease with which man can extrapolate may have made valuing financial instruments considerably more difficult. Small tweaks in inputs have always had major impacts on present values but perhaps those tweaks were made less frequently when they were tortuous, boring, time consuming and hence expensive. Indeed, it is now possible to dispense entirely with the human element and the collapse in the cost of computing power means that intra-second, present value calculations are both possible and cheap. The rapid oscillation in price/value resulting from the interminable [...]

By | November 18th, 2014|

The curious tale of Factor based investment (a cynical take on Smart Beta)

Typing “Smart Beta” into Google yields sixty-four million hits. Close to the top of the list is the headline “Smart Beta – The Investing Buzzword that Won’t – and Needn’t – Die”. For every advocate there is a cynic such as GMO’s James Montier who coined the equation “Smart Beta = Dumb Beta + Smart Marketing”. Montier observes that many of these ETFs seek to capture a premium attributed to one of two factors; Value and Size. So, let’s be clear, most strategies labelled as Smart Beta, are in truth portfolios designed to capture the returns from a particular factor of which Value, Size, Momentum and Quality are the most well-known. Investment strategies targeting one or more of these factors are not new. Wells Fargo’s investment business became a leader in passive equity investment between 1975 and 1990 when it merged with Nikko Investment Advisors and developed factor tilt portfolios [...]

By | November 13th, 2014|

JPX Nikkei 400 Index – a new way to do Japan

After decades of subdued growth, Japanese equity markets rallied in 2013 following Abe’s election and announcement of his triumvirate of measures. The three arrows, as his policy approach is called, consist of monetary measures, fiscal measures as well as growth oriented structural measures. The first two of these have been implemented early on and were well received by investors. Japan outperformed other developed markets returning +55% in 2013 compared to +34% for the US and +21% for Europe. However, Japanese equity returns this year have been held back by scepticism over the potential success of Abe’s third arrow. The TOPIX index is flat on the year at the time of writing, compared to +8.6% and +5.5% for the US and Europe indices respectively. Structural measures envisioned as part of the third arrow aim to improve companies’ capital efficiency to promote economic growth. The main provisions of this program are to [...]

By | October 8th, 2014|

Life after Bill

Friday, September 26th 2014 will be etched into the memory of followers of investment management companies and fixed income investors alike. Shortly after lunchtime, when London based manager researchers and consultants were probably settling down to an afternoon of email inbox and desk tidying, Janus Capital announced the recruitment of William “Bill” H Gross. Indeed, many will have missed this given the high likelihood of an email from Janus being ignored or deleted (Janus has struggled to reinvent itself after riding the tech bubble up and down and then becoming embroiled in the 2003 market timing scandal). Within minutes the newswires were alive with the news that PIMCO – Bill Gross’ home for the last 43 years - eventually confirmed in a statement which confirmed the general observation that relationships within PIMCOs Investment Committee and with the business heads had become increasingly challenging. This is the “big one” which will [...]

By | October 1st, 2014|

Normalisation should not be delayed further – Cerno Capital

This aritcle was written by Will Grahame-Clarke and first appeared in thewealthnet on 29th September 2014 Cerno Capital’s James Spence believes interest rate normalisation should start in the US sooner than markets expect. Mr Spence, lead manager of the Cerno Capital’s flagship multi asset portfolio TM Cerno Select, argues the progress of returning to normal inflation rates has been delayed for too long and the actual policy itself has not reached the parts it was intended to reach. He is currently most bullish on Japan which he says is finally emerging from its bear run dating back to the 1980s. Mr Spence, like fellow Cerno Capital founder Nicholas Hornby, is well acquainted with Asian equities. Between 1991 and 2004 he worked as an equity analyst, head of research, and then as equity strategist at various firms based in Hong Kong, Singapore and Jakarta. Asia is an area which has more [...]

By | September 29th, 2014|

Lifting the kimono on a misunderstood Japan

“It is not unnatural that, perhaps, in this matter of being misunderstood, Japan has more reason to complain than any other nation in modern times”. These words were written in 1900 in a book titled Misunderstood Japan. After stellar returns for investors last year, the Japanese stock market has been much less exciting this year. The numbers on the external accounts have been poor and this has prompted questions about the Japanese recovery. We have retained our allocation to Japanese equities which remains our largest single country allocation. We believe that the deflationary pall has lifted and that improved capital efficiency of companies will deliver higher profits and so significant returns to shareholders. The move out of deflation and to higher profits is only just beginning, meaning that the rerating of valuations in the market is at a relatively early stage. Figure 1. Share buyback Programs Source: Goldman Sachs. As [...]

By | September 23rd, 2014|

The morphing Apple

As ever, Apple’s product launches are greatly anticipated and 9th September was no exception. At that launch the iPhone 6, iPhone 6 Plus, Apple Watch, and an intriguing new payment platform, Apple Pay were revealed to the world. Thanks to its tightly integrated iOS ecosystem, Apple’s hardware tends to feel less commodity-like compared to its peers and, as a consequence of Apple’s integration in users’ lives, the explicit and implicit costs of switching mount. Its iPhones, iPads, iMacs, and the newest addition to the family, the Apple Watch, complement each other well by synchronising everything from apps to media (music, films and TV shows) to personal data (contacts, calendars, photos, etc.) through its iCloud and iTunes platforms. Apple’s ever growing application universe is a clear money-spinner. Given the typically short product replacement cycle of 2-4 years for personal electronics, building a loyal customer base is thereby essential to the success [...]

By | September 17th, 2014|

Value in Oil and Gas

Global Oil and Gas stocks have been rerated to levels not seen since 2000. Exhibit 1 (below) maps their relative decline in Price to Book Value (PBV) terms. In this respect, they are experiencing the mirror image phenomenon to that of Tech and Internet stocks, whose valuations have been rising. Energy companies are also asset heavy whereas Tech and Internet is often asset light. Source: Cerno Capital, Bloomberg Within the sector, Integrated Oil & Gas majors appear particularly cheap, trading on 1.2x book value on average (as recently as 2008, they were trading at multiples of 2-2.5x) a circa 40-50% discount to their peak valuations due to a combination of stagnant commodity prices and rising costs that have squeezed margins. Relative to the western groups, emerging National Oil Companies have fallen out of favour even more despite having greater access to resources and government support as investors are wary of [...]

By | April 29th, 2014|

The onward march of the asset-light business

Of great interest to us are the internal workings of markets. These are often very good indicators of where we are in the ebb and flow of valuation cycles. Valuations work, provided you are patient. They especially work if the constructed relationship is mean reverting and also non-mainstream. Recently, we have been looking at equity valuation dispersions: that is, the gap between highly valued equities at one end and lowly valued equities at the other. It is unproductive to guess at where the natural relationship lies: it can be plotted and therefore a mean or average level can be observed, but does the average mean anything in this instance? Of greater interest is when the range relationship becomes distorted due to the radical re-pricing of one group, or a thematically linked group of stocks.     A glance at the above chart indicates that, in recent financial times, this happened [...]

By | March 28th, 2014|

Emerging market debt – returns to fair value

It has long been observed by eminent practitioners that the market really represents nothing more than a pendulum that swings back and forth through the median line of rationality spending little time at the point of rationality and most of the time on one side or the other. In August last year we wrote that emerging market debt and currencies appeared overvalued and had further downside in aggregate. We identified vulnerable countries as those having both a poor external funding position along with low reserves. Market prices have adjusted downwards in emerging market debt and currencies over the last few quarters making this a sensible time to examine current conditions. An historic darling of EM, Brazil illustrates the weakness: the Real has fallen by about 10 percent versus the USD since last summer and the 10 year bond has fallen by about 20 percent in price terms. We prefer a [...]

By | March 4th, 2014|

Cliff's 10 peeves

Clifford Asness is the founding principal of AQR Capital Management. AQR is a US based, SEC registered investment advisor with approximately US$98bn under management in asset allocation and stock selection strategies which are mostly quantitatively implemented. Asness is a regular contributor to the Financial Analysts Journal and a deep thinking investor. In the latest copy of the FAJ he has a bit of fun by articulating a list of peeves. The full article is available by clicking here. He observes a number of statements which are all too familiar and infuriating to hear; Commentators observe “bubbles” far too regularly, we agree, US Treasury Bills offers an exceptionally low return, but a return which can be justified by a reasonable argument nonetheless. Baltimore Technologies, in December 1999 certainly did not. “Arbitrage” is too often used to describe “a trade we like” rather than its true definition; “a riskless profit”. We've encountered [...]

By | February 19th, 2014|

Event driven and merger arbitrage strategies

A variety of factors have held back returns from event driven strategies since the 2008 financial crisis. We believe that the underlying forces which determine corporate merger and arbitrage (M&A) activity are beginning to align very well and the consequences of a return of enthusiasm will boost the performance of such strategies. Cerno Capital is allocating 8% of portfolio assets to global specialists who invest around announced corporate events and acquisitions. Event driven investing encompasses a variety of strategies that all have one theme in common: organisational change. This can be in form of special situations, such as spin-offs, breakups and industry consolidations; arbitrage, evoked by mergers, exchange and tender offers to name some examples; and distressed situations such as bankruptcies, liquidations and restructurings. An event driven manager considers the fundamentals of businesses and industries to anticipate, provoke and take advantage of such situations by investing across the whole capital [...]

By | February 9th, 2014|

Dynamic versus static allocation

Before addressing the particular merits of dynamic asset allocation it is worthwhile examining the attributes of its notional alternative: static asset allocation. Termed in this manner, we might not immediately recognise static asset allocation. To a marketer’s attuned ears, it lacks intuitive appeal: stasis being less comment worthy than dynamism. Dynamism, after all, is an appealing personal attribute. Being called static is not often a compliment. It suggests a degree of unresponsiveness and lack of sensitivity to environment. The practical application of what we have mischievously called static asset allocation is most commonly found in balanced strategies and mandates. A little bell of recognition is now heard. Balance has much greater intuitive appeal and practical application. The balanced mandate, an exemplar being a constantly held mix of equities and bonds (say, 60/40 in relative proportions), owes its existence to the following four phenomenon: - equity and debt are the two [...]

By | January 29th, 2014|

Event driven strategies and small cap outperformance

Recent analysis conducted at Cerno Capital reveals a positive correlation between the event driven hedge fund universe and the excess returns of smaller companies over larger companies. At the time of writing, we have observed meaningful outperformance of smaller capitalisation shares globally and some suggestions of an uplift in the fundamentals for event driven managers. Event driven strategies exploit the informational inefficiencies resulting from corporate transactions. The term ‘event driven’ comprises a variety of strategies including merger arbitrage, special situations, restructurings and distressed events. As some managers seek to invest in a market neutral manner, in order for returns to be driven by corporate events rather than general market beta, it is said that event driven strategies exhibit a low correlation to equity and bond markets. We have questioned this assumption. The environment most suitable to this strategy is that of economic stability and healthy corporate balance sheets, which inevitably [...]

By | January 29th, 2014|

Gold – We remain negative

We remain of the view that investment returns from gold will disappoint. It is a widely held belief that gold is an inflation hedge. We challenged this view in a recent piece entitled Inflation protection is a noble aim, but not a reliable strategy (see What normalisation means for investors elsewhere on this website The “Golden Constant,” was coined by Roy Jastram (1978) in which he observed that historically gold has been a poor hedge of inflation in the short run but a good hedge of inflation in the long run. The real price of gold maintained its purchasing power over long periods of time and gold’s long-run average real return is zero.  If we assume this long term relationship to be true, then plotting the gold price against CPI would reveal if current gold prices are above or below CPI. Historical data from 1875 shows that the gold [...]

By | December 9th, 2013|

Why we remain in Japan

Japan has been the stand out equity market of 2013, rising 50% in Yen terms during 2013. We explain the reasons for our continued interest in this equity market despite these gains having already been recorded. • Valuations on the Japanese market remain attractive. Although the market is up approximately 50% YTD, earnings per share have increased by 36%, so in price earnings terms the market is not much more expensive than at the beginning of the year. The PE ratio has actually declined from 18.0x to 16.8x. When looking at asset values the price to book ratio in Japan is 1.27, which has risen from 0.9x a year ago. This compares very favourably to the US equity market that trades at 2.6x price to book. • As the world continues to heal after the stresses of 2008, we can expect a normalisation of US interest rates to equate to [...]

By | December 2nd, 2013|

Paul Woolley improves on the Efficient Market Hypothesis

If it takes a theory to beat a theory, then there may finally be an alternative to the Efficient Market Hypothesis (EMH) first proposed by Eugene Fama in the 1960s. Paul Woolley, formerly of GMO and the founder of The Paul Woolley Centre for the Study of Capital Market Dysfunctionality at the LSE has offered a model for financial markets which seems to fit better with the real world. The two fundamental tenets of the EMH, in its hard form, are: (1) Public information gets reflected in asset prices without delay (2) In an efficient market, no arbitrage opportunities exist If markets are efficient, then logically it follows that there are no bargains. Investors who believe in the EMH do not pay fund managers a fee to pick good stocks, because they do not think fund managers can find value. Criticism of the EMH has been predominantly based on the [...]

By | November 15th, 2013|

Core government bonds will prove a poor investment

Returns from government bonds have matched that of equities in the past thirty years. Their risk adjusted returns are therefore superior. Bonds have been the stand out asset class during the Age of Disinflation that lasted from 1982 to 2012. We do not know whether we are arriving at an age of inflation but the ante-room to the next era is a period of normalisation. Part of the hallmark of that period will be a rise in bond yields. We believe that core government bonds are overvalued at current yields. What measurements should an investor use that give a) a clear result b) are intuitively appealing and c) simple to grasp and use? As we do not believe in the Fed Model which posits that there is some statistical or valuation linkage between bond yields and equity values, we need a way to think about absolute valuations. We have two [...]

By | October 28th, 2013|

Danger remains in emerging markets

Emerging equity markets enjoyed a decade of relative outperformance over developed equity markets up to 2010. Since then, emerging equity markets have underperformed. Headline valuations suggest emerging value in emerging equity markets. However we doubt whether the time is propitious and we remain cautious. Furthermore, the emerging equity universe should not be treated as a homogenous block. A top-down  allocation model driven by country of listing is no longer sufficient given the increasing level of exposure to the emerging markets of developed market listed businesses. We question the extent to which institutional investors fully understand their emerging market equity exposure. Turning to the debt of the class, emerging market debt (EM debt) returns can be attributed to a number of factors including credit spread, carry and the risk free rate. We believe that the risk free rate will be subject to upward pressure over the coming quarters and this will [...]

By | October 23rd, 2013|

Inflation protection is a noble aim, but not reliable

The wish to protect against inflation is a base emotion within investor psychology: one that lies deep within.  Failure to offset inflation results in a decrease in real spending power. Over half a generation, the effects of this are meaningful; over multiple generations, families fall, countries fail and the formerly rich become only averagely endowed. No sane investor would object to inflation protection: it would be akin to refusing indoor plumbing. However does the impetus to seek inflation protection entail investing differently from simply seeking to beat the rate of inflation, in the long run? The question is: to what extent does the impetus to seek returns that are better than inflation result in a wish-fulfilment exercise? In this guise, certain assets are accorded inflation protecting powers and these attributes are then routinely overstated. Our investigations suggest that several notable asset classes are flawed in this respect: Commodities: historical returns [...]

By | October 8th, 2013|

Falling correlations increases the opportunity set for micro investors

Cross asset correlations have been rising for a number of years as the commodification of finance proceeds apace. In tandem with this, cross regional international equity market correlations have risen with the penetration of emerging markets’ consumer markets and the infiltration of emerging markets in the global production chain. Apple sells as much stuff in Asia as it does in Europe these days. These factors alone have been challenging the Yale Model of endowment management where an investor seeks to avail himself of diversification benefits. The 2008 financial crisis blew these correlations up to levels never before seen. Our view is that these effects are now dissipating, a process hastened by normalisation. Correlation analysis, as practiced by financial firms, is riddled with mischievous thinking and scurrilous salesmanship. When correlations are deployed to make a point, or sell a security, beware! The Fed Model, which suggests that there is some relationship [...]

By | October 1st, 2013|

Infrastructure is an attractive asset class

Infrastructure can be defined as the essential services, facilities and structures which societies and economies depend upon. A rising middle class throughout the world and the shift towards urban living has made infrastructure spending a priority for many emerging and developed market economies. For investors it offers the opportunity for long term, inflation protected cash flows and attractive yields. Infrastructure assets are typically characterised by a number of features -  their long asset life, the ability to protect against inflation through concession agreements or other long term contractual arrangements, low correlation to other asset classes, their monopolistic nature, stable cash flows and inelasticity of demand and therefore resistance to economic cycles. The two broad categories of infrastructure investment are distinguished by the stage at which market participants enter the space; greenfield investments are made in the riskier, early stages of development and brownfield refers to investments made in already operational [...]

By | September 24th, 2013|

Implication of industry structure on corporate profitability

Industry profitability, as measured by a firm’s return on capital employed (ROCE), is determined by how successfully a firm can capture the value it creates for its buyers, which can differ depending on the structure of the industry.  When the structure is favourable, companies are typically able to retain a decent proportion of the value (e.g. medical supplies). Conversely, in an unfavourable environment, much of this value would be competed away to others (e.g. autos), be it customers (driving down prices), suppliers (inflating costs), substitute products (reducing differentiation) or potential or existing rivals (eroding market share). It is also important to distinguish between cyclical factors that affect short-term profitability, such as the weather or a particular business cycle, from the structural fundamentals that shape long-term profitability. This is manifested through the collective strength of the five key competitive forces (defined by the consultant, Michael E. Porter) that governs price, cost, [...]

By | September 5th, 2013|

Privatisations and Mergers – it’s beginning to feel so 1980s

The UK government is to sell the 500-year-old Royal Mail. Veteran dealmaker James Leigh-Pemberton is to take on the helm of UK Financial Investments with its holding in Lloyds in his sights. Will the sale of Royal Mail come with a “Busby” or “Tell Sid” campaign familiar to those who lived through the BT and British Gas privatisations of 1984 and 1986 respectively? Both events took place during a well-entrenched equity bull market. The Royal Mail sale comes four years into a bull market which began in early 2009 and has made progress ever since, notwithstanding repetitive summer-time blues. The MSCI World Index has delivered a total return of +16% per annum in sterling terms in the period from March 2009 to August 2013. We have postulated that the stop-start nature of recovery since 2008 has held animal spirits in the corporate world at bay. Certainly, data from Mergermarket shows [...]

By | August 29th, 2013|

Not everything has a binary outcome

In the past five years since the onset of the 2008 financial crisis, it has been tempting to view the key investment choices through either end of a long scope with one view depicting inflation and the other deflation. Seeing the world in polar opposite terms, or binary terms, leads to quite distinctly  different asset allocations. In a deflationary environment, cash and government bonds (both nominal and linked) are the assets of choice whereas, should inflation reign, equities should be preferred over bonds or cash and other putative real assets such as commodities and properties become legitimate alternatives. Some asset managers, Ruffer springs to mind, have defined themselves by an historically referenced projection of hyperinflation and have made sympathetic allocations. For a while, we were swayed by this line of reasoning.  In the early part of the crisis period, key global economies veered toward deflation at an alarming rate, and [...]

By | August 23rd, 2013|

Round 2: Emerging Markets remain vulnerable

When investors fail to secure sufficient compensation for bearing illiquidity, they almost always come to regret it. The summer reaction of certain asset classes to the Fed’s suggestion that it was considering reducing the pace of its bond purchases exposed vulnerabilities for the future. list of domains . The US-centred bond market sell-off in June caused notable stress in emerging markets. This stress was most visible in ETFs that invest in emerging market debt where some banks and intermediaries were unable to meet immediate redemptions from their clients. Emerging Market Local Currency debt is a good illustration of  just how tight pricing has become. Local currency bonds typically offer a positive spread over developed markets and this spread is a function of a number of factors including credit risk and illiquidity premium. Market participants often underestimate the illiquidity premium component in earning their yields. The traditional appeal of Local Currency [...]

By | August 10th, 2013|