My awesome groupmates 😀
Today was really an eye-opener for me at the GIC Finance day. For someone like me who’s interested in financial economics and behavioural economics – this was an invaluable opportunity which I was fortunate to come across. Learnt a lot of new concepts, real life trends and met some wonderful peers too! ;D
THEN THEY POSED THE BIG QUESTION.
The main segment was a lecture on financial economics, followed by a group presentation on a question common to all – Suppose you are an experienced investor at the GIC and are given $200000 to invest in a region. Examine what region would you invest in and why, in ensuring returns from investments to the GIC within 2 years.
No problem, we had the ideas pouring in.
Our Objectives.
I think what stood out from the question is, really the small amount of capital given to us as well as the short time period available for investments. Typically, at least $100000 start up capital is required to purchase bonds, and short-term bonds usually have a yield-to-maturity period of 5 years at least. So really, 2 years was too short to achieve a high level of returns from investments. Then, from this, we had our objectives defined clearly in the time periods:
- The short-run objective would be using a top-down approach to analyze macro-trends in markets- Following which, identifying a good entry-point into financial and trading markets and make short run profits on an otherwise volatile and potential economic downturns.
- The long-run objective would be to achieve sound fundamentals and a hit-ratio in the asset/property that we’re investing in to guarantee stable returns on yields for the GIC.
The hit-ratio, to put it in layman terms, essentially encapsulates the number of investments that were profitable, out of the many that we make. Typically, a hit ratio of 0.5 would be considered a good one.
Our choice on developing nations instead of developed nations as a region for investments.
Given that macroeconomics was my AA, I really took the opportunity to enlighten the audience on some of the macro trends that’s currently happening in the world right now, and laid out some future trends and assumptions that we make in shaping our investment strategies.
Basically, let’s turn our attention to developed nations like the Europe. Well, evidently, the economy is not doing so well in general, with Greece’s sovereign debt crisis and Spain’s ultimately high unemployment rates – They will cripple the whole Eurozone and send a wave of pessimism across the region, which is of course, bad for investments. Spain’s short term bonds have seen yields to spike in recent times, and such active intervention from the European Central Bank may mirror a possible Lehman movement that occurred back in the 2008. Well, one assumption we made here is that the amount of debts took on was accumulated on during the 2008 financial crisis, or else this may just be a small blip given that investors have protected themselves well. And there’s this whole load of criticisms towards Greece adopting Austerity measures in return for Bailout funds from the ECB. But what politicians have forgotten that, one person’s spending is another’s income.(And that is why i feel that Politicians cannot be Economists). With high levels of unemployment and fall in wages, the austerity measures adopted could dampen growth and optimism further, whether is it in the goods & services market or the financial markets. Like what Keynes predicted, the government should collect taxes when people are earning money, not when people are losing it. It’s also surprising to note how books and articles written back in the days of the Great Depression in the 1930s describe exactly what is happening right now – that is testament to the existence of Behavioural Economics, and that economies do move in cycles. In the worst case, if the situation doesn’t improve in Europe, what may happen could be a downgrading of forecast by Sovereign ratings such as that of Standard and Poor’s where the ratings would be downgraded from AA to BB or even CC for the worst, which suggest large risks and high volatility in investment prospects. Fundamentals could weaken further and worst come to worst, like what the Mayan Calendar had predicted, the Eurozone could disintegrate and the Euro as a common currency could collapse. This would mean that currently emerging economies like China would not be able to compete with it for exports.
On the US’s side, things are not anywhere better. The reason why the economy is stagnant despite having competent leaders is because of its twin deficits in play, at least for our understanding at H2 level. With Fiscal budget deficits – huge government debts, and trade deficits in the Current Account that’s contractionary in nature, it’s no surprise why demand is falling, and unemployment is obstinately stagnant at ~8.3 %. We predicted that for the next decade or so, US might undertake a different growth strategy all together (But of course, it would be up to Mitt Romney or Barack Obama to pull the trigger). US could adopt a growth strategy like that of Singapore’s – driving demand through exports. US needs to gradually shift towards an export oriented economy in order to correct its deficits. Only then, the government can expect to spend more and pump-prime the economy. Alternatively, US needs to achieve a high level of inflation as a solution. Inflation rates would erode real value of debts, erode real wages and drive down labour costs and correct unemployment. But obviously it’s no heading in that direction at least for now.
BUT ALL IS NOT LOST.
This would only mean that a global rebalancing would take place. For the next 2 to 3 decades, the world would be one helmed by developing, fast emerging economies. Like for China, with an currency revaluation in sight and rising wages, China would be a key driver of world growth as a ½ largest importer. It would be safe to invest in such markets now because these market would see large consumer demand generated internally. While recognising that there may be interest rate/exchange rate instabilities, we see this as a small deterrent because like what Keynes predicted, Investments are generally more interest-inelastic because they are predominantly determined by factors such as gut feels, ‘animal instincts’ as well as prospects. It’s like that with rising demand and rising wages, emerging economies would see a wave of optimism spreading across its markets. For financial markets, buyers would now expect bond/stock prices to rise simply because everybody now values it at a higher prices due to potential demand. This, then becomes a self-fulfilling prophecy which will definitely drive prices up.
Entry & Exit strategies.
With that, it’s opportune for us to enter trading markets wile riding on the upward trend of prices of such financial markets.
Type of investments.
There’s primarily 4 different asset classes which we can choose to invest it, namely private equities/ public equities, real estates, bonds and stocks. Given the context of 2 years, which was short-run in nature, it was apparent that we need to diversify for 2 main, fundamental reasons.
Firstly, is to ensure sound fundamentals through lower risk assets, such as government bonds. Such bonds have lower risk of defauts because the issuer, the Government, usually makes a promise to return the base value to the buyer/loaner when the maturity period has passed. Though the yields from lower risk assets are lower, but it guarantees steady yields in the long run. We decided to allocate 50% of our portfolio into government bonds. This was key in establishing GIC as a shareholder over there at the emerging economy.
Secondly, we also need to allocate part of our capital into high-risk assets, such as stocks and private equities because these asset classes generate the highest yields in the short run. We futher diversified 25% into public equities and 13% on private equities. The reason for a smaller capital investment into private equities would be that such financial assets are more illiquid, which means that we would not be able to pull out or convert it to cash on hand within the 2 years readily. This could mean disaster when financial crisis strikes. The last 7% was on real estate investments, such as that of Houses in emerging markets. Well, less on this because of the prediction that the demand for houses would generally remain low at least for now because domestic consumers in developing nations are still not affluent.
Combining these two strategies, it’s evident that we are able to achieve the short-run and long-run objects above-mentioned. (YAY :3)
Conducting Key Performance Reviews.
Well, the important point, which I think is important in financial investments/trading, would be:
1) Do not be greedy
2) Do not let emotions affect your behaviours.
For this segment, it’s not so much towards government bonds because these are more low-risk in nature. What we are trying to mitigate would be the potential losses from higher risk assets such as equities. We decide to conduct 4 semi-annual performance reviews, using financial instruments such as Technical analysis, Sharpe ratio, Forex market analysis, inflation rate monitoring etc.
Technical analysis would be form of analysis of probabilities relied on studies of the direction of prices through the analysis of past market data (primarily price and volume). Usually for starters, upward price trends signal greater prospects on investments because it implies that buyers price the value of such financial assets to be higher. For us, it’s crucial to enter when prices are rising to ride on the wave of optimism, and pull out even before there are changes to the trends. The reason why I said that one cannot be greedy is, there’s no way you can determine definitely which direction the price is heading towards, simply because this is behavioural economics. You might think that with the given information presented to you and the choice of investments is good, but if everybody thinks the same way, the outcome may turn out differently.(Read more: rational irrationality)
Similarly, never grow emotionally attached to any trends. That will only hurt you. So in short, a close monitoring of Technical Analysis data of past trends can allow us to project investments better, and also pull out before trends change. This would guarantee us a conservative rate of returns.
Also, the GIC needs to monitor the Forex market simply because emerging nations could be subject to exchange rate speculations. Given that investments are denominated in the currency of that economy, a weakening of the currency would mean a fall in yields and vice versa. But what’s we’re more interested in is really, how stable the exchange rate is. If it’s volatile with constant spikes and high standard deviations in the Forex, then it would mean more difficulty in projecting investment outcomes within these two years.
IN A NUTSHELL
Well’s that’s that’ at GIC Finance Day today! Narrowed down my career prospects to 2 sectors: Financial Sector/Public Sector. I realized that i do have passion for Economics, finance, trading etc. I mean i know people have been telling me how dull it may seem, or how sleep inducing it is, but i don’t know man. I kinda enjoy it. Like today i was in a discussion with my peers at the Capital Tower. So much ideas poured in, and i could go on and on talking about macro-analysis of data, trends and predictions. And after i was done, my peers would just stare at me mouth-wide and go as if “the shit did i just hear” that kind of stuffs.
Personally, i feel that Finance is a field where you need to foresee actions of other players in the financial market, and act before they do. Like what Warren Buffett resonates: Stay fearful when others are greedy, and be greedy when others are fearful. It’s quite counter intuitive, a lot of Game Theory and Behavioural Economics involved.
Well, and i would seriously consider the GIC Scholarship, other than the PSC one.
Lot’s of things to get it done this fall – Applications to UChicago and also Cambridge, Scholarships, Prelims, A Levels, and of course, Prom Shopping.
Might be coming back here after Prelims.
Rethinking utopian economics. 