October 16 – October 22, 2015 – the janus observer

Sovereign Wealth Funds being tapped, Questionable Private Equity Valuations, and What Fixed Income?

This week three articles that stood out were 1) Bloomberg Businessweek’s “Petro States Shake Their Piggy Banks” discussing the impact petrodollars have had on the investment market and pointing out that they are being withdrawn to cover government budgets, 2) as a follow up to Michael Moritz’s article in The Financial Times about private companies that don’t look to be worth what investors are paying for them was The Wall Street Journal’s Tech Startups Feel an IPO Chill, and 3) Bond-Market Blues: Where Did My Income Go? in The Wall Street Journal illustrating how fixed income investments have shed the income characteristic.

*Note: bold emphasis is mine.

“Petro States Shake Their Piggy Banks” – Stefania Bianchi and Matthew Martin

According to the Sovereign Wealth Fund Institute, sovereign wealth funds investments total $7.3tn globally. While TheCity UK, a lobby group, expects sovereign-fund assets to increase by 4% in 2015, to $7.4tn, that pace is well below the 12% average annual growth over the previous 5-years.

On Oct. 7, Norway said it expects to tap its $820 billion fund next year for the first time in its 19-year existence to balance the government’s budget.

“If the wealth funds of Norway and the Gulf countries begin to slowly pull out, it will have an impact on financial markets.” – Michael Maduell, President of the Sovereign Wealth Fund Institute.

To have a sense of the scale:

The amount of petrodollar investment in the five years through 2014 was on a similar scale to the amount of the Federal Reserve’s quantitative easing program spent on U.S. government bonds, according to analysts at Barclays.

“As the wealth funds switch to selling, the world has lost about $400bn in annual demand for financial assets” – Barclays

After falling for seven straight months, Saudi Arabia’s foreign holdings in August were $654.5bn down from a peak of $737bn in the summer of 2014. Worse,

Russia expects to spend as much as 4.7tn rubles ($75bn) of the Reserve Fund, one of its two oil funds, this year and next to weather its first recession in six years. The funds, which are invested in mainly U.S. and European government bonds, held the equivalent of $144bn on Oct. 1, according to the Finance Ministry.

$75bn of $144bn, that’s more than half… But not all this is bad news for investment managers. For countries that are drawing down reserves to cover shortfalls, they are also 1) looking to cut government expenditures – where they can politically – and 2) are and will look to chase higher returns in the market.

“Tech Startups Feel an IPO Chill” 10/19 – Rolfe Winkler, Douglas MacMillan, Telis Demos and Monica Langley

Several tech companies are seeing their valuations decline after public listings and in some cases private companies are lowering their valuations in subsequent funding rounds. BlackRock Inc., which led the $350M deal that more than doubled Dropbox’s valuation to $10bn from $4bn, has cut its estimate of the company’s per-share value by 24%.

Many U.S. based companies that went public this year have seen their stock prices suffer, posting a median return of zero compared with their IPO price. Investors who bought shares after the IPOs began trading, often the first chance many individual investors get, are down by a median of 13%.

“We’re seeing financing rounds where founders are coming back and lowering the price over and over again” – Bill Gurley, partner at VC firm Benchmark

Among the 9 US listed IPOs since 2014 by venture-backed technology companies that were valued at $1bn in private fundraising rounds and have since reported annual results, only 3 have met or exceeded analysts’ consensus profit forecast for that year, according to FactSet.

“Bond-Market Blues: Where Did My Income Go?” 10/18 – Richard Barley

One of the drawbacks of declining interest rates, particularly zero-interest rate policy (ZIRP), is that yield is hard to come by. Fortunately, for investors in yield assets over this time period, they’ve been more compensated with capital appreciation.

If there is one area where low interest rates have propelled growth, it has been in the fixed-income market. But increasingly, income is the one thing that is hard to find. Fixed income investments are now more an investment in capital gains rather than in steady income.

The Barclays Global Aggregate, a broad investment-grade bond index, now contains over 16,900 securities with a face value of $39.8tn, up from $25.3tn at the end of 2007 (an increase of 57.31%). In December 2007 the Global Treasury index of government bonds contained $11.9tn of securities and generated $447bn in coupons in that year for an approx. 3.8% yield. By September 2015, the index is up to $21tn (increase of 76.47%), but coupon payments over the prior 12 months only totaled $535bn (increase of 19.69%) for an approx. 2.5% yield.

The problem now is how long ultraloose monetary policy has persisted: more and more low-coupon, long-dated debt has been and is being issued. If interest rates are permanently lower, that will change investor behavior.

HSBC forecasts 10-year US treasury yields at 1.5% at the end of 2016 and 10-year bund yields of 0.2%

With a lack of yield in safe assets, investors are likely to continue to move up the risk curve (despite its flattening trend).

Other Interesting Articles

Bloomberg Businessweek

The Economist

Bisnow: The 11 Largest EB-5 Projects in America 10/22

FT: The subprime ‘unicorns’ that do not look a billion dollars 10/16

FT: China-Brazil link is top threat to global economy 10/19

FT: Apple’s Tim Cook sees ‘massive’ tech-led upheaval in car industry 10/20

FT: Chinese bonds offer rare chance for capital gain 10/20

FT: Co-working becomes co-living 10/20

FT: Marriott checks in at the movies with a kiss and a heist 10/21