International Capital Flows: Strategic Investment for Sustainable Growth

Session Context & Market Backdrop (Feb 8, 2018, Abu Dhabi)

• Global capital markets in 2007 experienced spread compression and surging stocks, prompting the US Federal Reserve and other central banks to consider rate hikes.
• Investors remain split on the near-term outlook due to high potential risks juxtaposed against previously stable market levels.
• The session focus centers on whether capital access can drive job creation, fund new industries, and facilitate strategic growth.

Standard Chartered's Geographic Strategy (Simon Cooper)

• The bank is headquartered in London but derives the majority of its physical business from Asia, Africa, and the Middle East.
• Approximately 60% of global growth originates within the bank's operating footprint.
• Standard Chartered maintains a presence in nearly every African country, positioning it as the only major foreign bank with comprehensive coverage across the continent.
• The bank plays a critical role in connecting capital flows both inbound (investors entering the footprint) and outbound (facilitating trade within the region).
• Belt and Road Initiative (BRI):
  • There is an 75-80% correlation between Standard Chartered's network and the geographic scope of China's BRI (68 countries, 65% of global population).
  • Chinese investment is shifting from government-to-government deals toward private sector partnerships and physical infrastructure projects.
  • The bank aims to facilitate bankable investment structures for infrastructure, power, and water projects in developing markets.

CQS & Geopolitical Risk Analysis (Michael)

• Knowledge has become commoditized; the competitive advantage lies in converting data into insight through imagination and context.
• Disruption Risks: A major, underappreciated risk involves physical disruption of information flows (e.g., railroads being torn up), distinct from cyber risks.
• Belt and Road Capital Allocation:
  • The initiative is projected to mobilize $10 trillion, a figure exceeding the $8 trillion associated with QE1.
  • Major recipients of this capital flow include Africa and the Middle East.
  • Significant funds are directed toward natural resources (benefiting markets like Australia) and local economies (e.g., Egypt's bond and equity markets).
• Returns in 2016 for investors following these capital flows into commodities exceeded 30%.

GoldenTree & Market Dislocations (Stephen)

• Equity vs. Debt Divergence: The traditional market dynamic where debt acts as a leading indicator of equity deterioration has inverted; equity markets now often price in long-term survival risks while debt markets remain complacent regarding solvency.
• Case Studies of Divergence:
  • AMC: Stock down 60% due to industry disruption (streaming), while bonds remained flat or positive.
  • Retail (J.C. Penney, Macy's): Stocks fell significantly while debt remained relatively flat.
  • Energy (Whiting): Stock down 50%, but bonds remained positive.
  • Altice: CEO maximized equity value by dividend-ing out unencumbered North American assets, potentially to the detriment of bondholders holding exposure to struggling European assets.
  • Frontier (Telecom): Stock down 80%, with debt now catching up to the equity price decline.
• Market Structure Risks:
  • Banks are holding significantly smaller positions post-Basel III/IV, reducing their ability to buffer market shocks.
  • Passive and momentum-driven funds, rather than fundamental long-only funds, are now the primary market movers.
  • Volatility has become an asset class in itself; the "buy the dip" playbook is failing as technical unwinds accelerate.

Barron's & Alternative Investments Strategy (Tom)

• Real Assets Focus: The firm targets assets with stable cash flows and longer durations (5-7% current coupon) including transportation trailers, telecom towers, and music copyrights.
• Build-Decore Strategy: Instead of traditional private equity acquisitions, the firm prefers building asset portfolios from fragmented components to aggregate cash flows.
• Target Returns: The strategy targets 10-15% total returns over the long term via cash flow and asset appreciation.
• Direct Lending:
  • Growth has occurred in direct lending across the US, Europe, and Asia (specifically Sydney and Hong Kong teams).
  • Direct lending offers better covenant structures and control compared to syndicated loans with light covenants.
  • Private lending trades at a premium of 50-150 basis points over public market spreads.

Volatility & Trading Dynamics

• Bank Balance Sheets: Reduced leverage and capital buffers due to regulatory changes have made markets more susceptible to sharp, algorithm-driven moves.
• Liquidity Fragmentation: Investment managers act as primary market makers, with investment banks increasingly functioning as riskless intermediaries.
• Buying Opportunities:
  • Michael (CQS) notes increased volatility allows for more effective trading and hedging; they purchased during the recent downturn.
  • Tom (Barron's) observed no significant outflows from client pipelines despite market volatility, maintaining constructive views on credit and emerging market equities.
  • Stephen (GoldenTree) anticipates increased market dispersion and a "force rank" of opportunities as rates rise, suggesting a "buy the dip" strategy may be premature given upward rate bias.

Sustainability & Economic Development

• Agriculture Financing: Standard Chartered collaborates with agencies (e.g., Land Bank in South Africa) to mobilize development capital for agricultural projects, leveraging 60% of the world's cultivatable land in Africa.
• Impact: Financing these sectors is projected to create jobs, raise income, and reduce poverty.
• Sustainable Investing: Barron's emphasizes moving beyond UNPRI adherence to defining specific investment boundaries regarding sustainability and the long-term use of capital by investors (pensions, insurers).
• Add-on Investments: GoldenTree views active management of existing assets (e.g., Travelodge refurbishments) as high-return investments that simultaneously create jobs.