From the CEO
As 2016 draws to a close, The PRS Group is closely monitoring developments affecting China’s foreign reserves and conversion policy – two items that form significant components of the political and financial risk methodologies of the ICRG.
January 1st is the day when an annual $50,000 quota to convert the yuan into FX effectively resets. Given the trajectory of FX reserves over the last year or so, the popular bet is that there will be a greater-than-usual move to sell the yuan, made worse by tax payments and demand for cash ahead of the Chinese New Year celebrations, which is also a time when many firms provide cash bonuses to their employees.
Tellingly, China’s 10-year note yield has risen over 20 basis points this month – the largest increase in about three years – and the yuan has fallen over 6% against the greenback this year – the worst year for the currency since 1994.
With the US Federal Reserve signaling a faster pace for rate increases in the US (which is something PRS is not completely convinced will occur in the manner believed by the market consensus) and with China’s central bank making similar moves to defend the yuan and facilitate a lower rate of borrowing, the first half of 2017 may not be that rosy for investors and for political risk generally.
Indeed, movements in trading of the onshore yuan suggest outflows are picking up steam, with the country’s Foreign Exchange and Trade System reporting the highest volume in two years. Moreover, official data shows that China’s FX reserves have fallen to their lowest level in five years, to $3.121 trillion, with a decline of some $45.7 billion in October alone, as the central bank intervened to support the local currency.
Not surprisingly, China has adopted measures to slow the flow of funds out of the country (the authorities did so at the end of November and amount essentially to new and evidently more complex approval process) and shore up its reserve position. Several European firms operating in the country have been unable (or had considerable difficulty) remitting dividends offshore. As ICRG clients will know, both the risk to profits repatriation and the risk of payment delays have been in the ‘high risk’ category since March 2014!
Turning to our ratings for December, the political risk score for Jamaica improved as some local election victories by the ruling Jamaica Labor Party boosted its grip on power and as former prime minister and leader of the People’s National Party, Portia Miller-Simpson, resigned her post. Additionally, Jamaica’s jobless rate edged down in November, now riding at 12.9%.
Similarly, Ghana’s score improved following a peaceful national election, with Nana Addo capturing the top prize with 53.8% of the vote, defeating the incumbent, John Mahama. With the commodity cycle picking up some steam as the outlook for global growth improves, the economy should follow a similar trajectory into 2017, making Ghana one of our favorite bets for asset prices next year.
On the downside, the Philippines’ political risk score suffered a setback, as it were, as President Duerte ousted his vice president from cabinet, and as rumors of a coup continue, although the country’s military appears too fragmented to mount a successful one at this time. Additionally, the risk to ‘civil disorder’ remains elevated given the unpopularity of several of the president’s policy positions.
Looking at the early part of 2017, clients and friends should note that The PRS Group has teamed with Modern Trader magazine (www.moderntrader.com) to offer its top forecasts for the year. Available to PRS clients and through the February issue of the magazine, the forecasts will rely heavily on PRS’ proprietary and independently back-tested methodologies, and provide investors with tradable actions given various political risk events.
As a sneak peak, The PRS Group will offer an advanced look at developments and assets in the US, China, Italy and France, as well as the implications for the euro as the Brexit process continues. We’ll also provide some insight into various emerging markets that we believe will do well (on the equity, bond and currency side), based largely on our risk metrics.
In other media, our analysts recently sat down with Private Funds Management (https://www.privatefundsmanagement.net), a sister publication of UK-based Private Equity International (https://www.privateequityinternational.com) and provided some insight into various political events that could impact private equity investors over the next year or so. The interview will be published in the February issue of the magazine.
One of the books we’re reading at the moment – which is providing considerable fodder for thought – is William N Goetzmann’s, Money Changes Everything: How Finance Made Civilization Possible (Princeton University Press, 2016). The author, a well-known finance historian, takes a refreshing approach to the contribution finance has made over the centuries, arguing that it has made the growth of civilization possible.
Overall, Goetzmann sees finance as a time machine, that has allowed us to move value forward and backward through time, and indeed changed the way we think about and plan for the future. In so doing, the author shows how finance drove the invention of writing in ancient Mesopotamia, and created the civilizations of Greece and Rome to become world powers. He also discusses how finance shaped the rise and fall of imperial China’s dynasties.
There’s much more to the book than this, and Goetzmann spends some time discussing various aspects of risk, including risk management models, the effect of diversification on risk, asset valuation models, and some interesting thoughts on how colonization minimized risk.
As always, the IMF used our political risk index recently, this time to shed some light on the questions: Which countries are most likely to fall into arrears with the IMF? What causes the duration of arrears? Readers should not miss this informative study that identifies the (surprising) main elements. (https://lnkd.in/eNPFzki)
And the predictive power of PRS’ ratings and data has been underscored once again: this time by Dr Cam Harvey, a professor of finance at the Fuqua School of Business, investment advisor to the Man Group, and winner of many Graham and Dodds awards from the CFA Institute. Among other things, Harvey and his co-authors provide new evidence that PRS’ political risk ratings are predictive of future risk realizations using data on political risk claims as well as a novel textual-based database of risk realizations. (https://lnkd.in/dr9najJ)
Finally, clients should note that December’s ICRG has some 55 countries (of the 140 covered) having their political and/or economic and financial risk profiles adjusted, affecting 70 political risk metrics.
Thanks for your continued support, and please contact us if we can be of any assistance.