Ben Wattam

Morning, as you can see, we’re back in the office, it’s good to be back. Now, I’m going to talk about investing for next kind of 10/15 minutes. And I got inspiration for this presentation a couple of weeks ago, because we asked a French firm called Natixis to provide an independent risk report on our portfolios and they provided us an 82 page report on risk. There was a huge amount of detail but actually, pretty much none of it actually, was how I see risk for clients and for the portfolios. I thought I’d just talk today a little bit about how we see risk, what is risk and this is some of the output we got from that analytics report, which, luckily for you guys, and not really going to talk about at all, I’ll try and make a bit more interesting. When we think about risk, it starts really from a client perspective, because we have to understand how much risk a client can take, as in capacity, how much risk a client wants to take, that’s appetite, and how much client risk is required, how much risk is needed. This is what Tim, Neil and Adrian do and it’s absolutely critical, we get this right. If we don’t get this right, the outcome is going to be wrong. This is what we do, from a starting point of view, understand how much risk we need to take from a client perspective. Once that has been agreed and understood, it then kind of comes over to the investing part, my part. We then effectively become risk managers and understand what risks are out there and what risks we want to take how do we allocate capital effectively, and where are we getting paid to take that risk? Now, Neil did an exam last week on investments which he passed. So congratulations Neil, and bottom left chart was in his textbook, talking about risk and basically, the way that textbook will teach you about risk is saying how probable are things likely to happen and usually, we only concentrate on the most probable risks that are likely to happen. However, if you include about 95% of the data, that’s still about once a year, a risk will happen that’s not included in that data. So risk, when you look at it in this perspective is only as good as the data you’re using, but the important part is to say how probable are these risks? So I’ve put some risks here on the right on the top right, saying 10% inflation? What are we next going to see 10% inflation levels? Is it next year? Is it five years time? Is it 10 years time? Is it going to be not even in our generation? Should we be taking this risk into account into the portfolios? How frequent is a pandemic? I mean, previously, you would have said probably once every 100 years, or once a generation, is it going to become more frequent? This is a really big uncertainty but for every risk we see, we have a 4t approach. So bottom right, you can see we either tolerate the risk, try and treat the risk, we can transfer the risk or terminate the risk. So what the presentation is going to talk about is just some of the risks we see and whether we’re comfortable in taking on some of those risks. Now, a clear risk over the last 20 years is the buildup of household debt but actually, I think this is almost becoming a different sort of risk. This is from the Bank of England’s report in February, I think it was, on the left showing household income, which is the blue line, and household consumption, which is the brown line. Now the gap is household savings. So you can see over the last year, we’ve had a bit of a dip in income, but the consumption gap has fallen dramatically. We’ve now got a huge buildup of savings. The Bank of England estimates about £125 billion of excess savings in the last year and they did a survey, what are people going to do with this excess cash and you can see on the right the majority of people are saying they’re going to hold it in their bank account, which is great from a security point of view. I have a little bit of a doubt as to whether that cash is actually going to stay there over the next year. When we can actually go on holidays again. I can see some money being spent there or doing some building work or spending in the shops when we can have bit more freedom again. There’s actually almost too much cash here. I think there could be a bit of a demand boom later on in the year. So have we actually got too much money? This chart looks at the money supply in the US. It looks at the annual change of US dollars in the system and you can see since the early 90s, the supply of dollars has gone up between probably 5% and 10% a year. Up until the last year, there’s been an explosion in the money supply of US dollars and there’s lots of people now concerned that this is going to be inflationary because as we’ve seen in the past, when you print so much excess money, it generally finds its way into goods and services. However, this is only looking at one part of inflation in my opinion. The really important part is what we do with this money. So as a quick example, if I gave everyone on this call a million pounds today, lucky you, what are you going to do with it, that’s really important for inflation, if you just put it under your mattress, it’s not inflationary, it doesn’t go anywhere doesn’t do anything. If everyone goes and tries to buy a Ferrari, that’s going to push up the price of Ferraris. So it’s really important to understand how quickly that money is being circulated. If you look at what’s happened to the circulation of money, in the last 20 years, it’s collapsed. The velocity i.e. how quickly money is going around the system has been falling consistently. This is why we haven’t had inflation, it’s because generally people have been saving and paying off debt rather than spending. You can see the drop off as well in the last year. Now I don’t know what’s going to happen to the velocity of money over the next couple of years, it will probably increase a bit. So we have to be a little bit aware of inflation coming back. A big problem is not household debt, it’s actually government debt. Now, on the top table, you can see the latest government accounts. Now there’s so many zeros on that it doesn’t mean anything to anyone really. So what I did was just knock off seven zeros, and pretend this is your own household account. So we look at the 2021 to the end of March figures on the right, the government had income effectively of £72,000, it spent £103,000, so overspent by £31,000 and decided to put that on the credit card, so the credit card is now £214,000 based on an income of £72,000. Now, there’s three main ways you get out of this. The best way is to grow your income, it’s difficult, it’s really, really difficult to grow your income but it’s the best way to do it. The next way is to cut spending, that’s probably even more difficult. We tried austerity, it didn’t really work after the financial crash. So the easiest way to do it is a combination of getting inflation into the system and keeping interest rates low. If you look at what’s happening with that this is a US chart. The orange line is the cost of US dollars, over 10 years. So it’s the 10 year interest rate, how it’s moved over the last year and the blue line is the 10 year expectation for inflation. Now to erode debt, what you really want is inflation to be higher than interest rates. So every year it erodes the value of the debt, which is effectively the grey line. This is what the authorities are going to try and do over the next 10 years, at least keep inflation higher than interest rates and erode the value of the debt. Now, this is not good for savers because every year, as Neil said earlier, you’re going to eat away at the value of your money. It’s really important for interest rates to stay low as well on the chart, you can see the debt interest to revenue of UK government debt and as you can see, the overall cost of debt has been falling for the last few years and it’s staying low but we need interest rates to stay at these low levels. The Bank of England aren’t going to do anything anytime soon. The chart on the right looks at what the Bank of England expect inflation to do over the next few years. To be honest, they haven’t got a clue. Look at that chart, they think it might be either minus 1% or 5%. They just don’t know, but what they think is that it’s going to be around 2% and if there’s going to be around 2%, they’re not going to move interest rates, because inflation is on target. This chart always anchors back to 2%. Interest rates aren’t moving anytime soon. Now, there’s other risks as well out there that we get questioned about quite a lot. One of them is about the style of equity markets. What we do in our portfolios, we split assets between growth assets and value assets. Growth assets is where we think as it says on the tin, there’s going to be strong growth generally in earnings. Think of things like technology and healthcare that had been really, really positive in the last few years. With value areas, at minute things like leisure, entertainment, tourism, those really hard hit areas, commercial property. And look what’s happened over the last year the grey line is growth assets. Look what’s happened in the last few months, value assets have actually done really, really well and growth assets have struggled. So we get questioned a lot should we actually be changing the style of moving to value, in our opinion, you have got to be really careful with value at the minute, there’s a lot of traps out there and growth, whilst it’s had a bit of a tough time, we still think growth has got huge potential.
Often, it’s not just about financial risks. Now, in the last few weeks, you’ve seen the European Super League that’s been proposed by the biggest football clubs in Europe and they proposed it because they had a financial problem. You see on the left the amount of financial debt they’ve got, and they could see the solution with this European Super League to meet the financial problem to generate more income. What they completely ignored, was what we said at the top ESG which stands for environmental, social and governance risks. What these football clubs completely ignored was the social and governance risks of what they were doing. You’ve seen the reaction from UEFA, i.e. the governance response, saying to these football clubs it’s not going to happen. But also you’ve seen the social response. You’ve seen the football fans over this last weekend as well fight back against what they were doing and you can’t just look at financial risks anymore. You’ve got to be aware of social and governance risks as well. Now, Neil spoke a little bit about cryptocurrencies. Why do we believe in pound sterling? Why do we accept pound sterling? And there’s two main reasons, one is that we believe in the value of it, but also, it’s a form of exchange. You can go down to Tesco or Sainsbury’s, and exchange your £10 note for a value of goods. What is Bitcoin? Personally, I don’t think it’s a currency. Interestingly, the FCA have called it crypto assets, I think their assets, they’re not currencies, they’re too volatile to be classed as a medium of exchange. The underlying technology is really interesting called blockchain, what these crypto assets, cryptocurrencies are traded on. Last week, we saw the European Investment Bank, one of the big sovereign banks in Europe issue of bonds on blockchain. The Bank of England have also issued a paper on digital currencies, really interesting, have a look at it, it could completely change the way that we use banking facilities in the UK. I’d recommend if you’re interested in that sort of stuff, have a look at what the Bank of England is saying about digital currencies. Now, lastly, when you don’t know things, and when there’s uncertainty about risk, often people google it. I thought about what happened last year with Google Trends. So what people are saying what is, and on the left hand side? You see, actually, there is quite a few risks in there. What was Googled last year in the UK? So there’s a lot, Coronavirus, I Googled a few of them as well, what does work mean? I now understand that because I Googled it, but also when? So Google Trends are actually a good way to look at what actually is concerning people from a risk perspective. Now, to wrap up, all of the portfolios we run, are managed with risk parameters in place but also the return objectives are generally based on risk, which we see as inflation risk. The big risk, we think is not meeting client objectives. If we don’t meet client objectives, clients aren’t going to stay.