Page Further Down the Road - Canaccord Genuity · Further Down the Road Global Investment Review and Outlook Nigel Cuming Chief Investment Officer Whilst equities are our preferred

8.UK Equity Market Review and Outlook

11.Boom Times for Borrowers, Shocking Times for Savers

14.Changes to the RPI

17.Investing in U.S. Equity Funds

First quarter 2013 investment update

Global Investment Review and Outlook

Further Down the Road

4Page

This content is provided for general information purposes only and is not intended to be relied upon in making, or refraining from making, any investment decisions. Collins Stewart Wealth Management (CSWM) cannot accept responsibility for this content and you should carry out your own research before acting on this information.

Prospects is a marketing communication under the FSA rules. It has not been prepared in accordance with the legal requirement designed to promote the independence of Investment Research and we are therefore not subject to any prohibition on dealing ahead of the dissemination of Investment Research. In practice, however, our conflicts management policy prohibits Collins Stewart Wealth Management and its personnel from dealing ahead of recommendations intended for external communication.

Investment involves risk. The investments discussed in this document may not be suitable for all investors. Past performance is not necessarily a guide to future performance. The value of investments and the income from them can go down as well as up and investors may not get back the amount originally invested. The information provided is not to be treated as specific advice. It has no regard for the specific investment objectives, financial situation or needs of any specific person or entity. Investors should make their own investment decisions based upon their own financial objectives and resource and, if in any doubt, should seek specific advice from an investment advisor.

www.collinsstewartwealth.com

ContentsQ1 Views for 2013 Global Investment Review and Outlook 4UK Equity Market Review and Outlook 8 Boom Times for Borrowers, Shocking Times for Savers 11 Changes to the RPI 14 Investing in U.S. Equity Funds 17 An Introduction to the Retail Distribution Review 20Our Latest News 22

Contributors:

Neil Darke

Nigel Cuming

Ryan Harrison

Richard Pemberton

Ed Smith

Mark Piper

First Quarter 2013 Edition Page 1


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award winningin future years

look forwardWe

to deliveringmore

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Page 2 First Quarter 2013 Edition


I am delighted to announce that since the last edition of Prospects we have received another endorsement for our wealth management services. At an awards ceremony at the Houses of Parliament in November, several members of our team were delighted to receive, on behalf of Collins Stewart Wealth Management, the Gold Standard for our Discretionary Portfolio Management Services by Incisive Media.

We have been the recipient of numerous awards over the years, which we believe goes a long way to serving as a testimony to the quality of services that we deliver to investors. In addition to this latest accolade, we have been shortlisted for two other awards: Best Wealth Manager at the Money Marketing Financial Services Awards 2013 and Offshore Investment Company of the Year at the Citywealth International Financial Centre Awards 2013. Please see page 24 for a list of some of our more recent awards.

Much of our success is due to our refusal to rest on our laurels. As a forward thinking wealth manager we believe that as the environment changes so too must the tools we use. You will have read in previous issues of Prospects of our proprietary risk framework that has received third party acclaim for its innovation. Aiming for higher returns with lower volatility and significantly lower drawdowns, this framework puts risk at the heart of our investment process as well as delivering a range of Risk Enhanced Multi Asset Portfolios (REMAP).

Of course, RDR has been a bit of a pre-occupation for the investment industry over the last quarter. I am pleased to confirm that CSWM was compliant by the year end following a client and adviser communication exercise, which we have combined with a re-papering of all our agreements pursuant to the transfer of client assets to a new legal entity, which we believe is an exercise in good housekeeping.

Finally, I would like to take this opportunity to welcome our new clients following the acquisition of Eden Financial in October. We look forward to introducing you and your advisers to our broad range of wealth solutions and delivering more award winning services in future years.

Neil Darke CEO of Wealth Management

Welcome



For most of 2012 we have been positioned to reflect our view that whilst equities are our preferred long term asset class, the world remains a dangerous and volatile place and therefore it is prudent to maintain a modest underweight for the time being. We have therefore sought insurance against market weakness by having some exposure to genuine equity risk diversifiers such as government bonds and we have also maintained some cash on the sidelines awaiting investment at potentially lower levels.

Whilst this latter strategy has cost us some benchmark relative performance, given that risk assets have performed strongly over the course of the year (figures 1 & 2), it seems sensible to us not to position our model portfolios to a single view, but to ensure that performance will remain relatively robust across a variety of market scenarios. As investment managers, we place a great deal of emphasis on capital preservation and often describe ourselves as ‘long only’ managers with an absolute return bias. However, despite our inherent conservatism we have managed to capture a large amount of the benchmark rise this year whilst having much less risk than the benchmark, ensuring that we have again delivered solid risk adjusted returns across our various model portfolios.

We concluded in our last review that we had no inclination to chase markets that were becoming very overbought and that there was every likelihood of a setback in Q4 as post election investors would worry about the resolution of the “fiscal cliff” problems of the United States. It is true to say, therefore, that the quarter unfolded broadly in line with our expectations. October was a positive month with most of the global equity markets responding positively to signs of a pick up in activity in the U.S. and Chinese economies. Offsetting these positive developments was some concern about the corporate earnings season and with most investors waiting to see the outcome of the U.S. Presidential Elections, market conditions were generally quiet. In the U.K., domestic economic news influenced the market in the absence of any significant developments in Europe. Third quarter GDP was better than expected, rising 1% quarter on quarter. The IMF reduced the growth outlook for next year but it is still forecasting 1.1%. Inflation news was good in the month with the Consumer Price Index falling to 2.2%, the lowest level for three years.

Further Down the Road

Global Investment Review and Outlook

Nigel CumingChief Investment Officer

Whilst equities are our preferred long term asset class, it is prudent to maintain a modest underweight.”

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Fig 1: FTSE100 2012 YTD Fig 2: S&P500 2012 YTD

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Source: DataStream, Bloomberg, Collins Stewart Wealth Management



The U.S. market lost ground over the course of the month due largely to a poor earnings season with the technology sector being the hardest hit. However, with Q3 GDP showing a significant improvement over the second quarter and with the U.S. housing market continuing to improve, sentiment was picking up until the arrival of Hurricane Sandy which caused severe disruption and a tragic loss of life. It also forced the first two day shut down of the U.S. Stock Exchange since the 1880s.

November was very much a month of two halves with pronounced weakness across most equity markets in the first half on concerns over the Greek debt crisis and the “Fiscal Cliff” resolution. The re-election of President Obama and the continuation of a Republican majority in the House of Representatives meant that investors became very worried that a deal might not be reached before year end to prevent the imposition of automatic spending cuts and tax hikes. However, sentiment improved mid-month on news that the EU and the IMF had reached agreement on a Greek debt deal. Sentiment was also helped by an upward revision to the U.S. third quarter GDP which came in at 2.7% annualised, up from an earlier estimate of 2.0% although some economists fear this higher rate may not be sustainable as the improvement was due to an increase in government spending and business inventories. Elsewhere, economic data out of China pointed to a gradual improvement in the economy, which is clearly stabilising. At present we have no direct Chinese equity exposure although we do participate to an extent due to our general Asian fund holdings. We are watching the situation closely because the recovery in the Chinese economy this time, whilst slower, may prove more durable than previous ones as it will be driven by domestic demand and not exports. This more positive tone has already resulted in a significant rally in the Chinese ‘H shares’ and it would appear that the ‘A

shares’ will now start to catch up. Should we decide to increase our equity exposure in Q1 2013, some direct investment in China would be a distinct possibility. The election of Xi Jinping in early November is of significance as he is expected to be pro reform and pro growth. It is likely that the emphasis will be on large infrastructure spending coupled with key reforms in the financial sector.

Another market which we are monitoring closely is Japan where we have little or no exposure across our various model portfolios. Following the re-election of Mr Shinzo Abe’s LDP party, there is now hope that there is going to be a significant break from the deflationary environment of the last 20 years. Mr Abe has argued that the Bank of Japan must adopt an inflation target of 2-3% and commit to unlimited quantitative easing in the manner that the Fed has already promised. It will be very interesting to see if such a policy is politically deliverable although it would seem that many investors believe it is, as evidenced by the sharp rally in Japanese equities and a concomitant decline in the Yen prior to the election (figures 3 & 4). Whilst we think it premature to address our present underweight, we are keeping an open mind on the outlook for Japan and we would not rule out a return to investing there at some stage in 2013.

One of our most consistent views over the last few years has been that central banks were not to be trusted concerning their pronouncements about the need to keep inflation at low levels. We felt, and indeed continue to feel, that given the high levels of government and personal debt in the Western world, the authorities have a vested interest in eroding away it’s real value and developments during the quarter under review have convinced us that we are right to be very nervous of the medium term outlook for inflation in Western economies.


Fig 3: Nikkei 225 2012 YTD Fig 4: USD vs JPY 2012 YTD

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We feel that the most significant news over the quarter was the announcement by the Federal Open Market Committee that it “currently anticipates that the exceptionally low range for the Federal Funds rate will be appropriate for as long as the unemployment rate remains above 6.5%”. This is the first time that a central bank has linked its interest rate setting to a specific target. The Fed stated that it would continue to set low interest rates as long as inflation expectations did not rise above 2.5%. It also stated that 6.5% was not to be considered its long term unemployment target, which could be interpreted as saying that it may not decide to normalise its interest rate policy as soon as the rate reaches 6.5%. The Fed also took the opportunity to increase its latest round of quantitative easing to $85bn a month (i.e. buying both treasuries and mortgage backed securities) until unemployment was significantly lower. Whilst the Fed has stated that it expects core inflation to remain between a range of 1.6% and 1.9% (which is well below its key 2.5% threshold rate) there are clear risks to the new policy as it is possible that inflation will start to rise before the 6.5% unemployment target is reached.

The Fed, up until now has been far more proactive than the Bank of England although this may change in 2013. The selection by Chancellor George Osborne of Mark Carney as the new governor of the Bank of England (effective 1st July 2013) may eventually be seen as a masterstroke. Not only is Mr Carney regarded as one of the world’s best central bankers as his track record in Canada shows, his initial comments following his appointment suggested that he is very likely to be far more aggressive in his measures than Sir Mervyn King. Mr Carney has stated that in “exceptional times” such as the present, there are three measures which central bankers can take. In addition to keeping interest rates at virtually zero for an extended period of time, they could be linked to the unemployment rate in exactly the same manner as the U.S. is adopting now. If this doesn’t work, a nominal gross domestic product target could be adopted instead of an inflation target, however this does appear something of a risky strategy because if the problems in the U.K. were due more to the supply side rather than a lack of demand, a sharp rise in inflation could be triggered.

2012 has been as good year for investors and we are pleased to say that despite our slightly cautious positioning, with a modest underweight to equities, we have caught a significant amount of the rally in risk assets across our various models and mandates. As the year closed it was interesting to see that more and more market commentators were turning bullish. There seemed to be a growing realisation that the global authorities were increasing the range of measures they were prepared to take to prevent the global economy sliding back into recession. In addition to the measures taken in the U.S., where we have now been promised quantitative easing that is effectively of unlimited size and duration, even in Japan there is talk of a potentially massive political change, as discussed earlier.

We are keeping an open mind on the outlook for Japan.”

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There has been a significant improvement in the European outlook which has already been reflected by the size of the rally across European bourses so far this year. Talk of a Greek exit from the Euro has diminished and in early December, Euro zone finance ministers agreed to further loans to Greece and arranged a €32billion bond buy back, which halved the amount of outstanding Greek bonds. Spreads on the bonds of the weaker nations have accordingly declined substantially (figures 5 & 6) and the ECB’s OMT programme has also reduced the chances of a European meltdown. The risks in relation to sovereign and bank solvency and the risk to the survival of the EMU have subsequently diminished quite significantly. There is still much work to be done, although the EU’s agreement in early December on the formation of a new single bank supervisor is highly important as it paves the way, for the first time since the start of the crisis, for the pooling of debts and fiscal transfers. There is now scope for the genuine transfer of sovereignty as the ECB will take direct responsibility for supervising the largest European banks and will be able to override national regulators. It is another useful step down the road to an eventual resolution of the European crisis.

We will continue with our present strategy into early 2013. We are mindful that the global authorities will continue to provide unlimited support to the markets, encouraging the presently sceptical investors on the sidelines to capitulate on the grounds that “you can’t fight

the Fed”. There is the prospect of a January rally and risk assets will continue to be underpinned by the thirst for yield especially as there is absolutely no chance of policy normalisation for the foreseeable future. We will be living in a zero interest rate world for a considerable period of time and there is the risk that assets that provide a decent yield could become overpriced over the next year or two. In this environment, some clients have questioned why we are not running an aggressive overweight to equities. There are numerous answers to that question. Whilst policy makers in Washington are likely to eventually find a compromise solution to the fiscal cliff debate (especially as the Republicans run the risk of being seen as the ‘bad guys’ if they don’t) it may take more pressure from the market to get the deal agreed, so there are some potential short term market risks. The effects of any deal are likely to cause growth to slow in the first half and it is likely that the picture in Europe and the UK will be similar. According to a recent statement by HM Treasury: “because of the ongoing impact of the financial crisis, the Euro crisis and the effect of inflation on income and business costs the OBR (Office for Budget Responsibility) is predicting a more subdued and uneven recovery than expected, with growth weaker and inflation higher than forecast”. In this environment, our mindset remains not to chase rising markets but to look to increase exposure to equities on any significant market correction.

Fig 5: Spanish Portuguese 10year Govt Debt 2012 YTD Fig 6: Greek 10year Govt Debt 2012 YTD

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Following the trepidation post the summer, regarding the outcome of the US Election, President Barack Obama finally secured a second term in the White House. On this occasion, however, he does not enjoy the same degree of political power as first time round and the big question for markets will be how he deals with the much publicised US fiscal cliff, a series of tax increases and spending cuts that will amount to approximately $600 billion, a huge figure for the Market to absorb.

That said, with the Election uncertainty behind us and continued financial stimulus in both the United States and fears of a Eurozone breakup abating, the UK market has technically managed to emerge from recession. Equity markets have in fact proved surprisingly resilient this year, with the FTSE 100 Index in positive territory by some 6% at the time of writing. This is certainly a credible performance against an economic backdrop that saw the Bank of England’s Monetary Policy Committee retain the base rate at 0.5% throughout the year. As with the US and Europe, further quantitative easing was forthcoming in the UK, both in February and in July, amounting to £100 billion which was taken as positive for equity markets.

Although we are somewhat cautious in the short term, on a historic basis, current PE ratios of 11x suggest that investors should expect further growth from equity markets going forward. There are of course fears over the future direction of inflation. Indeed, the level of quantitative easing in the UK Market would suggest that inflation will rise and, the Bank of England will not have the usual option of raising interest rates to combat this, for fear of upsetting a fragile economic recovery. That said, it is likely that the authorities will want to see inflation running at a higher level as clearly this will assist in eroding debt on the national balance sheet. An environment in which inflation is seen rising would make equities a safe harbour for investors again and, at a time when good quality bonds are both expensive and providing a negative real yield, the compounding effect of equity dividends continues to look attractive to an increasing number of investors, including many of those who have traditionally relied on Bonds to provide an income stream.

UK Equity Market Review

Ryan Harrison Chairman of Stock

Selection Committee



Equity markets have in fact proved surprisingly resilient this year.

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We did explore this theme in the last edition of Prospects and it remains a priority for us to identify stocks with strong balance sheets and attractive, well covered dividends where there is a history and an outlook of further dividend growth. To this end, we have been able to use QuestTM, our proprietary share evaluation tool in helping successfully identify such targets. In addition we remain focused on UK businesses that have strong overseas earnings which will provide insulation from the weaker domestic market outlook.

In our portfolios we continue to see a strong performance from the Financials, which, although rewarding for new investors in the short term, longer term holders are still carrying losses although it is encouraging that the sector is now well off its lows. We do, however, continue to remain underweight to the Banking sector as a result of fears that further negative news might yet emerge from this sector. Our preferred financial exposure remains in the Insurance sector.

The Mining sector remained under pressure over the quarter under review. Sentiment is still weak as concerns linger regarding Chinese demand and supply overhang but we are monitoring the situation closely and we may renew our interest here, having taken profits from more defensive sectors following the strong run over the late summer months.

In the Oil and Gas sector, concerns regarding global growth and an excess in supply have kept prices under pressure. Pharmaceuticals with good balance sheets, strong cash flows and decent dividend yields continue to look attractive. Increasing demand from Emerging Markets will however ultimately provide new support for the industry leaders.

Whilst we had swayed towards a more defensive stock selection for the third quarter, many of the defensive sectors are now beginning to look expensive when compared with cyclical stocks. While defensives will continue to be attractive, if for nothing else on a yield basis, we took the opportunity to take profits from a number of holdings over the quarter under review, whilst retaining a reasonable exposure. Some of these monies were put to use in cyclical stocks but, we have also held some cash positions for clients and will look to increase our cyclical equities given the right opportunity as we enter 2013.



We remain focused on UK businesses that have strong overseas earnings which will provide insulation from the weaker domestic market outlook.

Many of the defensive sectors are now beginning to look expensive when compared with cyclical stocks.

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Boom Times for Borrowers,

Shocking Times for Savers

Richard PembertonSenior Investment Manager

Whilst base rates have remained constant at 0.5% since March 2009, people have been surprised in the drop in interest rates available. One of the major drivers of this move has been the UK Government’s Funding for Lending Scheme (FLS) that was announced in June and launched in mid-July of this year. In consideration of the Sterling LIBOR curve below (figure 7), the precipitous fall in rates over the last six months can be seen. Whilst the intention was to provide a mechanism to promote lending into the economy, a side-effect has been that it ‘guarantees’ to offer funding at or around the base rate to those institutions in the scheme. Given bank borrowing rates would conceivably be up to 150 basis points (1.5%) above base, it may not come as much of a surprise to hear that the scheme has attracted the vast majority of UK financial institutions. This has subsequently lowered deposit

rates across the board with 12-month LIBOR dropping by more than 80 basis points in the interim and even three month LIBOR approaching a 50 basis points fall.

Stateside, deposits at US Banks now exceed loans by an unprecedented $2 trillion as the threat of a slowing economy has apparently tightened institutions’ appetite for lending. Less buoyant lending clearly implies a lower requirement for institutions to seek deposits, hence rates have also fallen across the water.

The spectre of negative Euro rates has arisen over the last few months on the back of effective ECB rates trending towards zero, as witnessed by 3-month Euro LIBOR at 0.12%. Clearly finding yield from this base is quite a challenge, even where you have a choice of 13 institutions as we do via the in-house Treasury Service.

Fig 7: Sterling LIBOR Curve

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Source: Bloomberg

One of the more significant market moves of 2012 was perhaps the least headline-making; banks no longer sought deposits with any great conviction and rates fell off a cliff. Amongst the double-digit gains of stock markets and high yield bonds, the barely single-digit falls in fixed deposit rates understandably failed to compete for front page news. But the implications for all markets has been more pronounced as headline rates of top-rated P1 institutions such as Nationwide reduced their Sterling 1-year fixed deposit rate from a peak of 3.5% in March to only 1.6% at current levels. Where there were several options via Collins Stewart’s Treasury Service at around the 3.0% level, there is now only one P1-rated institution offering 1-year deposits above the 2% level (Santander).



The tepid growth in bank lending contrasts markedly with the exceptional pace of borrowing in the corporate bond market where investors are accepting both record-low rates and generally poorer covenants against a backdrop of record supply. Borrowing costs have fallen across the board with USD investment grade borrowing down from an average spread of +133 basis points to +127 basis points (1.27% over the equivalent US Treasury yield). The difference is far more pronounced at the higher risk end with USD high yield borrowing costs falling from an average of around +700 basis points to +537 basis points, and USD emerging market bonds now averaging at a spread of +305 basis points, which is down from +500 basis points at the start of the year.

With bank deposits offering even lower rates than they did previously, inevitably savers/investors have sought returns from elsewhere and this has benefited most asset classes. The hunt for yield drove demand in the largest domestic funds to unprecedented levels to the extent that M&G actually asked their investors not to give them anymore money on the bond side! In all seriousness there have to be significant concerns when a firm such as this actively seeks to curb demand for their products, but on the flipside, it underlines the benefits of being a smaller and more nimble bond investor and this has benefitted many other institutions such as ours.

At the next rung up on the risk ladder from fixed deposits, our low risk Fixed Interest Models have provided steady incremental gains through 2012 with all 3 strategies seeing only a month or two with a negative return. This compares favourably to the government benchmarks that have seen up to five negative months through the year to date. The level of diversification away from the domestic benchmarks has a lot to do with the outperformance, currently invested across a range of 15 to 17 countries, 5 to 7 bond markets and 5 to 8 currencies, and this diversification helps us to deliver consistent, positive returns. We have tended to maintain a very high quality backbone with up to 65% invested in AAA/AA rated bonds, whilst still maintaining a short duration of around 4-5 years, so it is particularly satisfying to have produced above-average returns without taking much risk.

2012 Model Performance to date is as follows:GBP Fixed Interest Model: +7.92%USD Fixed Interest Model: +6.01%EUR Fixed Interest Model: +6.57%

Outlook for 2013Perhaps the biggest surprise of 2012 was the low level of volatility in markets. The actions of the US and European Central Banks in the third quarter provided timely support for risk markets, just when it looked like we could be entering a more troubling period with growth anticipated to fall. Broadly speaking, risk assets such as equities and high yield bonds outperformed despite a general fall in growth in some of the world’s major economies.

Meanwhile, despite the relative buoyancy of higher risk assets, government bond markets have remained range-bound with central banks at pains to remain dedicated to an accommodative stance, which, roughly translated means that base rates will be kept at their lows for as long as possible and the prospect for further monetary easing is always there if necessary. Nervousness remains as to the potential stamina of the current ‘risk on’ rally, which also helps to maintain a bid for the low risk, low yielding and low value domestic government bonds. Having counterbalance in portfolios to protect on the downside remains a worthy pursuit in such uncertain times.

Whilst we believe that most bond assets offer limited capital upside potential at current valuations, there is no sidestepping the ongoing demand for yield and a near-to-zero interest rate environment that looks like remaining the status quo for the foreseeable future. Despite a more benign backdrop in Europe than for some time and a positive US growth story, confidence is still so fragile that it is hard to imagine why any central bank of the developed nations would be likely to raise interest rates in 2013. This especially applies to predominantly exporting nations looking to maintain a weaker currency to remain competitive. This backdrop should continue to support income generative assets such as bonds and equities for the foreseeable future.





Ed SmithGlobal Strategist

The contentionThe Office for National Statistics has announced a consultation on changes to the calculation of the RPI measure of inflation. To our mind the most likely outcome is a change to the statistical method with which 55% of prices in the RPI basket of goods and services are computed, that will result in the RPI rate moving closer to the CPI – almost always recording a lower rate of inflation. The change is contentious: state pension payments tend to be linked to the RPI, as are inflation-linked government bonds, thereby lowering government disbursements to the disadvantage of UK pensioners and bondholders. The incumbent statistical method in question here is the Carli method: although undeniably disadvantageous to many UK citizens, particularly the elderly, the methodological status quo is quite indefensible from a coldly econometric point of view, and there is therefore a strong case for change.

The problem with the current methodologyIn an economic approach, an inflation measure should strive to approximate a genuine cost of living index. It should therefore reflect that when individual prices change, consumers may substitute goods accordingly in order to derive the same level of satisfaction: if the price of apples goes up relative to pears, consumers will likely buy more pears. As collecting both price and quantity data is too herculean a monthly task for any national statistics office to bear, they need a statistical method that doesn’t implicitly keep the quantities of goods fixed and thereby preclude the notion of substitution. The Carli method fails this test and so cannot be deemed a good method for measuring a cost of living index.

The Carli method also fails some important intuitive tests. In the numerical example tabled below (figure 8), we assume a price index of fruit is calculated from just four items; we then calculate an index using the Carli method in question and the preferred Jevons method. We calculate both the usual chain index (linking together the month on month changes) and a direct index in which each month inflation is expressed relative to a base period (here January). Firstly, the Carli index has an erroneous upward bias. In February and March, the average price of the basket remained the same despite changes in the constituent items: for the consumer there is effectively no inflation, but the Carli methodology would have recorded a price rise. Secondly, in April the items’ prices reverted to those recorded in

Changes to the RPI

Fig 8: Calculation methods compared

Price Jan Feb Mar Apr MayFruit A 6.00 7.00 6.00 7.00 6.00Fruit B 7.00 6.00 7.00 6.00 7.20Fruit C 2.50 4.00 5.00 4.00 3.50Fruit D 5.00 5.00 4.00 5.00 5.00

Carli Jan Feb Mar Apr Maym/m chained index 100.0 115.6 117.7 119.9 117.9Direct Index Vs Jan 100.0 115.6 120.0 115.6 110.7

Jevonsm/m chained index 100.0 112.5 112.5 112.5 109.5Direct Index Vs Jan 100.0 112.5 112.5 112.5 109.5

Source: Collins Stewart Wealth Management



February, but the Carli approach records quite significant inflation between February and April. In this sense it fails the ‘time reversal test’.

Finally, the Carli approach is not ‘transitive’, by which we mean that the chained monthly indices should be identical to the corresponding direct index. The EU legally mandates the use of the chained index, for valid reasons to do with sampling (they also effectively prohibit the Carli method). In May, the basket of fruit was 10.7% higher relative to January using the Carli method, but the chain index records an inflation rate almost double that – 17.9%. Clearly that is intuitively perverse.

The impact to inflation-linked government bondsThe so-called ‘formula effect’ – the difference between the RPI and CPI due to statistical method – has averaged at 0.5% over the last 10 years, but has been closer to 1% more recently. After the likely changes to the RPI are made, we could assume therefore that the nominal interest payments of index-linked debt will decrease by between 0.5%-1%. If the purpose of inflation-linked debt is to achieve a constant real yield and protect the purchasing power of income streams, it’s difficult to argue that changing the methodology to one that better reflects economic reality is doing wrong by existing bond holders. As such, we do not believe that a change should cast the UK government in the mould of ‘bad debtor’ – many developed countries have made similar changes in the past, including Switzerland and Canada.

However, the capital value of the bond will also be affected, as the redemption amount is also inflation-linked. The market implied inflation rate on the ten year bond is currently 2.5%. If this changed immediately to between 1.5% and 2% to reflect the change in formulae, we calculate that today’s price would likely fall by between 4.5% and 9.5% for the on-the-run ten year bond. Of course, we still believe that the income return on UK government inflation-linked debt will protect investors from inflation, while continuing to provide portfolio diversification (negative correlation with equities) in all but the most acute periods of market stress. Yet clearly there is some price uncertainty ahead: since the announcement of the consultation period, the price of inflation-linked bonds has hardly moved.

Fig 9: Gilt Prices

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Source: Datastream, Bloomberg, Collins Stewart Wealth Management





Mark PiperInvestment Director

The U.S. equity market is not a market that can be easily ignored when building a globally diversified portfolio. U.S. companies continue to dominate the global economy despite the emergence of large and growing competitors in Asia and Latin America. However, whilst opportunities abound, the U.S. stock market has proven to be one of the hardest equity markets for active managers to consistently beat over the years. This raises the question of how best to gain exposure to U.S. stocks within a multi-manager portfolio.

The problems for active managers are manyfold. The efficiency of the U.S. market due to the sheer number and size of participants invariably limits the opportunities to gain an informational advantage through stock research.

Another contributing factor is that the U.S. stock market is far more diverse than many of its global peers. Unlike the UK where, for example, three industry groups make up over 40% of the stock market (Integrated Oil & Gas, Banks and Basic Resources), the U.S. is not dominated by a small number of sub-sectors. As a consequence, there is more to outperforming the U.S. stock market than calling one or two sectors correctly.

In addition, the vast number of companies from which managers can select, whilst providing opportunities, also adds to the problem of consistency. In a portfolio of 40-100 stocks there will always be areas of the market left untouched that can and invariably will drive the market’s return.

There has also been a historic preference for U.S. managers to focus purely on company specific factors, often disregarding the bigger picture ‘macro’ issues. I can remember a well known U.S. fund manager once telling me that if he spent five minutes on macro issues a day, it was five minutes too much. Investing is all about what the company is doing as that outweighs all other factors. Of course that was before the 2008 financial crisis and his fund is now somewhat smaller and his reputation not quite as strong as it once was!

A challenging but ultimately

rewarding pursuit

Investing in U.S. Equity Funds



The U.S. market is also dominated by style buckets (figure 10) where investment managers are pigeonholed, either willingly or unwillingly, into various style driven peer groups. Whilst there are exceptions to this, the majority of U.S. fund managers are therefore first and foremost trying to outperform the funds that sit in their respective style group rather than the market itself. To some extent the market is a secondary consideration, as asset gathering can more easily be achieved by the former, less challenging goal. The problem with focused style buckets however, is that investment styles go in and out of favour and stocks that might not sit naturally in a manager’s style universe can often drive the market’s return for extended periods of time. This creates what we describe as “lumpy” return streams i.e. a fund’s long-term return is driven by short-term bursts in performance rather than a steady and consistent level of outperformance.

Figure 11 highlights the relative fortunes of the peer group when compared to the market, as measured by the S&P 500, over 2009 to 2011. As you can see, the significant outperformance of US managers in 2009 was subsequently lost as market correlations rose and stock picking opportunities fell. This volatility of relative returns is the main reason why we are more willing to use index tracking investments, such as exchange traded funds, within our recommend blend of U.S. investments than in other markets.

Fig 10: Morningstar Style BoxTM

A style box is a graphical representation of a fund’s characteristics. The financial services research provider, Morningstar Inc. popularised this tool by placing it alongside its well known mutual fund ratings system, which ranks mutual funds by assigning them between one and five stars. As a result, multitudes of mutual fund investors have become familiar with the style box and its use as a tool for evaluating U.S. mutual funds.

Large

Medium

Small

Value Blend Growth

Moringstar Style Box™

Fig 11: U.S. peer group* performance

-5

0

5

10

15

20

2011 2010 2009

Perc

enta

ge re

turn

US peer group

S&P 500

*A blend of the following Morningstar sectors: US Large Cap Blend Equity, US Large Cap Growth Equity, US Large Cap Value Equity and US Flex-Cap Equity.

Source: MPI Stylus / Morningstar



However, while this paints a fairly bleak picture, these are not reasons to give up on active U.S. equity managers, in our opinion. There will of course be managers that are exceptions to the rule and we endeavour to find them, but more importantly, while the majority of U.S. fund managers struggle to consistently outperform U.S. stock market indices, a meaningful number do outperform the market over the medium to long-term. This is because they produce significant outperformance when their respective styles are in favour and work hard to minimise their underperformance when they are not. Identifying these best in class managers is far easier than finding the rare breed of managers that are capable of achieving five or more years of consistent market outperformance – identifying them after the event is easy of course, but investing with them after such a period is rarely as beneficial, as few are able to repeat the achievement.

Having identified these best in class managers you have two choices. Either you try to anticipate the investment style that will dominate the performance of the stock market over the coming months and/or years and bias your investments to managers whose style is best suited to take advantage of this, with the aim of producing significant outperformance. Or, you blend managers with differing styles together, with the aim of producing a smaller level of outperformance but with far less risk, particularly as you may not always get your market call right. Although you should remember that past performance is not a reliable indicator of future performance.

Over the years we have done both and remain open minded as to which is the best approach to take at any point in time. For example, at the start of the last decade, during the bursting of the technology bubble, it was best to bias your holdings towards “value” managers at the expense of all others. However, in more recent years the rapid shifts in market sentiment have meant that having a bias to one investment style invariably results in periods of significant underperformance and a greater volatility in your returns. This is why we currently recommend a blend of managers with different investment approaches when allocating to the U.S. stock market, as it lessens this volatility whilst still providing the potential to enhance returns.

As the performance of our currently favoured funds show (figure 12), producing consistent year on year outperformance of the U.S. stock market might be a more challenging goal than in many other markets, but it does ultimately remain a rewarding pursuit.

Fig 12: CSWM approved U.S funds

80

100

120

140

160

180

200

220

Dec-08 Jun-09 Dec-09 Jun-10 Dec-10 Jun-11

Inde

xed

retu

rn

S&P 500 TR

Threadneedle American Extended Alpha

Wells Fargo US All Cap Growth

Findlay Park American

Source: MPI Stylus / Morningstar



Many of our clients will have read in both the financial press and our own in-house publication, News & Views, about the changes that are taking place within the financial services industry. Here we explain the changes and provide some colour as to how these might affect you and your clients with regards to the service you receive from Collins Stewart Wealth Management.

What is the Retail Distribution Review?

The Retail Distribution Review (RDR) is a series of new regulations from the Financial Services Authority (FSA) which came into practice on the 31st December 2012. Designed to improve the general quality of advice for investors across the UK, it is aimed at Independent Financial Advisers, Wealth Managers, Private Banks and any other individual or corporate who is currently authorised to provide advice on a range of products and services. Generally considered to be one of the largest wholesale changes to affect the industry, it has three core areas which the FSA are targeting to insure the level of advice consumers receive is of suitable quality:

• Improvedprofessionalstandards

As investment products get increasingly complicated, so the need for raising standards across the advice industry becomes more important; accordingly, the FSA have instituted a minimum level of qualification that all advisers across the industry must meet.

• Knowingwhatyouarepayingfor

Under RDR, advisers will have to make it clear which services they advise on, be it across the whole market, including insurance, mortgages etc. or within one specialist area such as investments. The differences will be highlighted in the labelling of the services offered, making it clear whether the advice is “restricted” or “independent”.

• Thecostofadvice

Financial Advisers have typically been paid for advice given by the product provider, in the form of commission, rather than by the consumer. The FSA is banning the payment of commission and requires going forward that advisers clearly set out to their clients what advisory service they are providing and what the cost of that service is. The idea being that consumers will be better informed as to the real cost of the advice they are getting.

An Introduction to the Retail Distribution Review



How will these changes affect Intermediaries and their clients?

The move to increase professional standards is laudable. At Collins Stewart Wealth Management, we have always looked to encourage our investment professionals to be qualified over and above the minimum standards and as such all of our investment personnel met the new requirements by the deadline.

For clients of the Portfolio Management Services we are, as of the beginning of 2013, only be able to offer “restricted” advice; this is because we do not advise on life policies or pension related products.

In practice, this has no change on our services but we amended our terms and conditions to reflect this fact. We will of course continue to select the underlying securities for your clients’ portfolio with complete impartiality and will continue not to be tied to any one product manager.

Furthermore, the adviser charging aspect of RDR will affect clients in a different manner, depending on the specific service. Ending commission payments will not affect the majority of our clients as our policy has long been to purchase institutional (i.e. non commission paying) share classes whenever possible.

Although the majority of our clients are fee paying, rather than commission paying clients, due to new reporting requirements, we issued new fee schedules explaining, where relevant, how we separate the cost of advice from the transactional costs. As advisers will know, we were required to restate our terms and conditions to reflect any changes that clients may be required to adopt as a consequence of RDR and in the event that we have agreed to facilitate the payment of your adviser charges, we require your client’s express consent to carry this out.

In summary, most clients of Collins Stewart Wealth Management are required to sign new terms and conditions reflecting the changes referred, in accordance with the new regulation.

Are there any other changes?

When we amended our client terms and conditions, we reviewed our corporate structure and have identified areas where we can make improvements – as such clients of CSWM have received new terms and conditions with changes relating to a new corporate structure.

Finally, you may well have read that our regulatory body, the Financial Services Authority (FSA) is splitting into two and consequently rebranding. As such, from April 2013 you will note on all communication from us that we will be authorised and regulated by the Financial Conduct Authority (FCA).



Robert Jukes (right), Global Strategist at CSWM, collects the Gold Standard award from Cardiff North MP, Jonathan Evans.

Our Latest News

CSWM had many reasons to celebrate last

year – at least six reasons in fact, as we

received six industry awards to add to our

awards shelf in 2012 alone. Recently, we

received a Gold Standard by Incisive Media

for our Discretionary Portfolio Management

Service, and were named Deal Maker of the

Year by Finance Monthly for our acquisition

of Eden Financial Ltd in October 2012.

It is our hope that 2013 will prove to be

an equally fruitful year, and we are off to a

promising start. We are delighted to have

been shortlisted for two more prestigious

awards: Offshore Investment Company of

the Year at the Citywealth International

Financial Centre Awards 2013 and Best

Wealth Manager at the Money Marketing

Financial Service Awards 2013.

CSWM Collects Another Award

As we went to press with this issue of Prospects, CSWM launched three new unitised versions of their Risk Enhanced Multi Asset Portfolios (REMAP), following strong IFA demand for this risk-capped wealth management service. Designed for intermediaries, the REMAP portfolios look to improve upon the flaws in modern portfolio management by offering a framework that will adapt to the current market state and stay true to the portfolio’s risk profile.

The three portfolio’s launched, for clients with over £100,000 of investable assets, are REMAP #4, 4(i) and 5.

STOP PRESS: CSWM launches unitised REMAP portfolios



Our Latest News

It seems most wealth managers have been commenting on Black Swans for an age - now our CEO has gone a step further and dressed up as one. “if you can’t beat them, join them” said Neil Darke, who donned a tutu and joined six of his colleagues to represent Seven Swans a Swimming, in Starlight’s Twelve Days of Christmas Charity Run - part of their Christmas of Happiness campaign. “Its not often I wear a tutu, especially during the week “claimed Darke. “This is such a worthy cause, I couldn’t resist and besides, I think I make a better Swan than a Dancing Lady” he said, of Starlight’s search for a team to represent Nine Ladies Dancing for the run that took place around Canary Wharf on 12/12/12.

The number of children in hospitals and hospices in the UK was expected to exceed 100,000 this Christmas and the Twelve Days of Christmas Charity Run helped Starlight to raise over £18,000 of which £5,000 can be attributed to CSWM’s fundraising efforts. These proceeds went directly towards the organisation of children’s parties and pantomimes on a local hospital wards over the festive season.

Spotted - CEO of CSWM running around Canary Wharf in a tutu!

On Tuesday, 26th February 2013, independent financial research and software company, Defaqto, are hosting the first-ever Discretionary Fund Management (DFM) Conference at the Business Design Centre in London and CSWM is delighted to be a key sponsor. This event will focus on how outsourcing to a DFM can help financial advisers to maximise value post-RDR.

By attending, advisers will have the opportunity to benefit from valuable insight from leading industry figures on the following key themes:

• Building a successful DFM-adviser relationship

• Delivering client value through outsourcing to a DFM

• Regulatory considerations and post-RDR opportunities

The conference will also give financial advisers an unrivalled opportunity to network and engage with key discretionary management firms and will be a good opportunity for CSWM to showcase its DFM services which are 5-Star rated by Defaqto.

CSWM sponsors Defaqto DFM Conference

Neil Darke, CEO of CSWM (left), and his colleagues donned swan costumes for the Starlight Children’s Foundation Charity Run.



About Collins Stewart Wealth ManagementCollins Stewart Wealth Management is an award winning investment manager, stockbroker and wealth planner committed to providing our clients with a broad array of wealth management services.

Drawing upon our established values, our services are based around a dedication to traditional client service, impartial advice and the latest portfolio management and wealth planning techniques. We look to deliver upon clients’ investment goals via a rigorous investment process with an integrated risk framework at its heart, combined with appropriate advice where required. Our forward thinking approach and global perspectives ensure are services are tailored to suit the individual needs of Intermediaries and their clients.

With assets of over £9 billion* under management and administration, on behalf of over 12,500 clients, we manage portfolios from our offices in London, Jersey, Guernsey, Isle of Man and Geneva.

Our range of services include:

• Portfolio Management - Specifically tailored portfolios providing solutions across the risk spectrum.

• Stockbroking - Responsive trading, dealing and advice with a focus on excellent service.

• Investment Funds - Providing you access to our disciplined investment process via a range of unitised investment funds.

• Charity Services - We offer a range of services specifically designed to meet charity needs, including two Common Investment Funds.

*As at 1st October 2012.

Award winning servicesCollins Stewart Wealth Management has, once again, received recognition for the quality of our investment services by being voted, by our clients and industry peers for the following awards:

Discretionary Portfolio Management - 2012 - Incisive Media Gold Standard

Best Discretionary Adviser 2012 - Money Marketing Financial Services Awards

Best Advisory Service 2012 - City of London Wealth Management Awards

UK Offshore Investment Manager of the year 2012 - Citywealth Offshore Awards

Asset Manager of the Year 2011 - Spears Wealth Management Awards

Best Advisory Stockbroker 2011 - Shares Magazine Awards

Best Stockbroker for Bonds 2011 - Financial Times / Investors Chronicle Investment Awards

For details of other awards that we have won over recent years, please visit www.collinsstewartwealth.com/awards

W E A L T H M A N A G E M E N T A W A R D S

W I N N E R 2 0 1 1

Adviser AwardsShortlistedBest Wealth Manager

AboutPage 24 First Quarter 2013 Edition

Contact Collins Stewart Wealth Management

London88 Wood StreetLondon EC2V 7QR

T: +44 (0) 20 7523 4600F: +44 (0) 20 7523 4599

Jersey37 The EsplanadeSt HelierJersey JE4 0XQ

T: +44 (0) 1534 708090F: +44 (0) 1534 708050

GuernseyPO Box 45Collins Stewart HouseThe GrangeSt Peter PortGuernsey GY1 4AX

T: +44 (0) 1481 712889F: +44 (0) 1481 713460

Isle of ManAnglo International House, Bank HillDouglasIsle of ManIM1 4LN

T: +44 (0) 1624 690100F: +44 (0) 1624 690101

Geneva7, Avenue Pictet-de-Rochemont1207 Genève Switzerland

T: +41 (0) 22 707 0080F: +41 (0) 22 707 0088

Investment involves risk. The investments discussed in this document may not be suitable for all investors. Past performance is not necessarily a guide to future performance. The value of investments and the income from them can go down as well as up and investors may not get back the amount originally invested. The information provided is not to be treated as specific advice. It has no regard for the specific investment objectives, financial situation or needs of any specific person or entity. Investors should make their own investment decisions based upon their own financial objectives and resource and, if in any doubt, should seek specific advice from an investment advisor. Tax treatment depends on the individual circumstances of each client and may be subject to change in the future.

Prospects is a marketing communication under the FSA rules. It has not been prepared in accordance with the legal requirement designed to promote the independence of Investment Research and we are therefore not subject to any prohibition on dealing ahead of the dissemination of Investment Research. In practice, however, our conflicts management policy prohibits Collins Stewart Wealth Management and its personnel from dealing ahead of recommendations intended for external communication.

This document has been produced for information purposes only and is not to be construed as a solicitation or an offer to purchase or sell investments or related financial instruments. The information contained herein is based on materials and sources that we believe to be reliable, however, Collins Stewart Wealth Management makes no representation or warranty, either express or implied, in relation to the accuracy, completeness or reliability of the information contained herein. All opinions and estimates included in this document are subject to change without notice and Collins Stewart Wealth Management is under no obligation to update the information contained herein. None of Collins Stewart Wealth Management, its affiliates or employees shall have any liability whatsoever for any indirect or consequential loss or damage arising from any use of this document.

Collins Stewart Wealth Management and/or connected persons may, from time to time, have positions in, make a market in and/or effect transactions in any investment or related investment mentioned herein and may provide financial services to the issuers of such investments.

Collins Stewart Wealth Management does not make any warranties, express or implied, that the products, securities or services mentioned are available in your jurisdiction. Accordingly, if it is prohibited to advertise or make the products, securities or services available in your jurisdiction, or to you (by reason of nationality, residence or otherwise) such products, securities or services are not directed at you.

Collins Stewart Wealth Management is a trading name of Canaccord Genuity Limited (“CGL”), Collins Stewart Wealth Management Limited (“CSWML”), Collins Stewart Investment Management Limited (“CSIML”), Collins Stewart 360 Limited (“CS360”) and Collins Stewart (CI) Limited (“CSCI”). CGL, CSWML, CSIML & CS360 are authorised and regulated by the Financial Services Authority. CSCI is licensed and regulated by the Guernsey Financial Services Commission, the Isle of Man Financial Supervision Commission and the Jersey Financial Services Commission. CSCI is registered in Guernsey. The Geneva office is a representative office of CSCI. Collins Stewart Wealth Management (Suisse) SA is member no. 554 of the Organisme D’Autorégulation des Gérants de Patrimoine, Gèneve.

Contact First Quarter 2013 Edition Page 25

www.collinsstewartwealth.comwww.collinsstewartwealth.com

For Guernsey, Isle of Man and Jersey and Geneva: this document is issued by Collins Stewart Wealth Management which is a trading name of Canaccord Genuity Limited (“CGL”) and Collins Stewart (CI) Limited (“CSCI”). CSCI is registered in Guernsey and is licensed and regulated by the Guernsey Financial Services Commission, the Isle of Man Financial Supervision Commission and the Jersey Financial Services Commission and is a member of the London Stock Exchange and the Channel Islands Stock Exchange. CSCI operates a representative office in Geneva. Collins Stewart Wealth Management is also a trading name of Collins Stewart Wealth Management (Suisse) SA which is member no. 554 of the Organisme D’Autorégulation des Gérants de Patrimoine, Gèneve. For the UK: this document is issued by Canaccord Genuity Limited (“CGL”) and Collins Stewart Wealth Management Limited (“CSWML”) which are authorised and regulated by the Financial Services Authority. Registered Office: 9th Floor, 88 Wood Street, London, EC2V 7QR.

Investment involves risk. The investments discussed in this advert may not be suitable for all investors. Investors should make their own investment decisions based upon their own financial objectives and financial resources and, if in any doubt, should seek advice from an investment advisor. Past performance is not necessarily a guide to future performance. The value of investments and the income from them can go down as well as up and investors may not get back the amount originally invested. Where investment is made in currencies other than the investor’s base currency, the value of those investments, and any income from them, will be affected by movements in exchange rates. This effect may be unfavourable as well as favourable. Levels and bases for taxation may change.

Wealth management,

turned on its head!At Collins Stewart Wealth Management, we place risk management at the heart of our investment process through the use of an innovative, market leading tool to enhance our management of client portfolios in line with their risk tolerances. Using this proprietary tool we are better able to avoid roller coaster rides when it comes to market downturns.

With impartial thinking and advanced portfolio management techniques, we take an intelligent approach to meeting investors’ needs.

For a smoother ride visit www.collinsstewartwealth.com/risk

GS4939l CSWM Risk ad N&V/Prospects.indd 1 03/01/2013 16:04

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