Monthly Archives: November 2015

Trap Queen

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Susanna Gibbons, CFA

A couple of days ago, shoppers at the Westfield Mall in Paramus, NJ got treated to an unexpected shower of cash from Fetty Wap. While out with his daughter, the rapper of the year tossed more than $2,000 in cash over a balcony, and shoppers screamed in delight as they scooped up the bills. How ironic that as Fetty Wap is showering us with cash, Janet Yellen and her Posse are preparing to raise short term interest rates, bringing an end to 7 years of extraordinarily easy monetary policy. A sort of Feddy Wrap, if you will.

The market appears to be well prepared at this point for that first rate hike, and it will probably pass with very little fanfare. But over time, as the Fed slowly turns off the spigot, there will surely be an impact. The problem is, even in the best of times, both the magnitude and timing of the impact from changes in monetary policy are very difficult to predict. We have never had such an extended period of zero interest rates, so assessing how changes in policy will play out seems a like a crap shoot. While we have seen significant recovery in asset prices, growth in the real economy has remained fairly anemic. Seven years of zero interest rates and $3.7 trillion of asset purchases have failed to have a significant impact on growth. The money multiplier has not exactly been boomin’, and Yellen is in real danger of becoming the liquidity trap queen.

Not everyone agrees that we’re in a liquidity trap, of course, but it seems pretty clear that the monetary transmission mechanism is not as effective as it has been in the past, or as we would have liked. We’ve been poised for “lift-off” several times now, and both inflation and growth expectations have continued to surprise on the downside. So when Yellen talks about moving slowly with interest rate hikes, I think we had better take her at her word. This will not be a Greenspan / Bernanke cycle, with regular 25 basis point moves. The minutes from the last FOMC meeting began with the committee’s discussion on equilibrium real interest rates, which likely fell to negative levels during the 2008-9 recession, and are even now close to zero. Equilibrium short-term rates should rise, but only gradually. The falling unemployment rate suggests that what feels like anemic growth probably actually exceeded potential GDP.

That is a heck of a message. Real GDP growth at 2.5% is running ahead of the growth in potential GDP. Equilibrium rates are close to zero. Inflation expectations have declined significantly (as measured by TIPs Breakevens), and this in what looks like the later stages of the expansion – just when we should be worrying about higher inflation. Forget the dot plot, I would focus on the gradual. It feels to me like we aren’t going anywhere, and we better settle in for some liquidity trap luv. Rate hike potential of about 50 basis points over the next year might be all we get, not the 125 or so that futures are pricing in.

There are those who will likely never part with their Fetty Wap cash. There are also some who will save it, and others who went straight to Shake Shack. The choices are always the same. Save it, spend it, hoard it. Whether we realize potential growth may be a function of the latter. And how many hoarders are out there? I wonder….

CFA Society boasts three Top Women in Finance

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On Thursday, November 19th, Finance & Commerce Magazine hosted its 15th annual “Top Women in Finance” awards dinner to recognize the outstanding efforts of women in Minnesota who are making noteworthy contributions to their professions, their communities and society at large. The CFA Society of Minnesota is proud to have had three of its members receive this honor in 2015. They are:

Erica Bergsland, Vice President and Director of Research and Trading at Advantus Capital Management.

Jessica Murray, Intermediate Portfolio Manager at Thrivent Asset Management, and Treasurer of the CFA Society of Minnesota.

Debra Ann Sit, Senior Vice President of Sit Investment Associates, who received the award posthumously. Debbie passed away in June 2015 after battling cancer. Her husband, Peter Berge, accepted the award on her behalf.

To be considered for this award, each candidate was nominated by co-worker or other associate. All nominations were vetted by a panel of expert judges representing business and academic interests across Minnesota. All three women have been outstanding Investors, committed to their profession and to their respective communities, and strong supporters of the CFA Society of Minnesota for many years.

In their remarks to Finance & Commerce Magazine, both Erica and Jessica voiced continued commitment to achieving both excellence and diversity within the Investment community. The different viewpoints and experiences of the Society’s members have been a source of strength that both hope will continue to grow.

All three women exemplify the CFA’s high standards of professionalism and integrity. Please join the entire CFA Society of Minnesota as we congratulate Erica, Jessica, and Debbie.

A Letter from Your Society President – November

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Joshua M. Howard, CFA

Last month I attended two events focused on increasing the number of women in the Investment industry. The first event I attended was a presentation and debate on gender in the industry at the CFA Institute’s Society Leadership Conference in Hong Kong. The second event was a panel at the University of Minnesota, led by four female CFA charterholders, called “Paving the Way for Our Future Industry Leaders”. Both events discussed demand side and supply side issues with getting women in the investment industry and keeping them there once they start families.

It became clear during both discussions that the industry still presents some challenges for women (and men) in its work-life balance, sometimes stressful working conditions and occasional machismo culture. It was generally agreed, however, that great strides have been made at most firms in the last twenty years to improve the image of the industry and to achieve more acceptable working conditions for both men and women. Also, it seems that most employers strongly desire diversity on their teams – in gender, race, socio-economic background and approach to problems. Study after study has shown that diverse teams produce better results than homogenous ones, and are better as assessing possible risks. While even very talented women may have had a very hard time entering the industry in the 1980s, now they are strongly desired at many firms.

Despite all the change in industry culture and the increase in demand by employers for more women in their companies, we still have a supply problem. Approximately 20-25% of CFA charterholders in the U.S. are women, a range that has held steady for many years. Women make up the same percentage of candidates as well, so the overall ratio will not change anytime soon, at least in North America. More and more women are entering formerly male-dominated and demanding fields like engineering, medicine and law, but for some reason our industry has remained unattractive for most women who would otherwise be highly qualified to manage money, provide financial guidance to clients, trade bonds or manage equity risk. This is not true globally, as female CFA candidates in East Asia, especially China, are taking the CFA exams at the same rate as men.

What is it about our industry that fails to attract women and millennials? While there are obviously numerous explanations, I believe two reasons are very important.

The first is that we as an industry do a poor job of educating the public and the next generation about what it is we do all day long. “Finance” can mean many different things, many of which are very opaque to the average individual. We have not put in the time and effort to mentor and guide future leaders on the difference between a trader, an investment banker, a portfolio manager, a financial advisor or a risk manager. There are many different fields in our industry, but most people outside our industry are only acquainted with one or two of them (either from watching the movie “Wall Street” or from watching their cousin day-trading in his parent’s basement, wearing his pajamas all day long.)

The second reason is the way the industry is portrayed in the media. Most often when finance is in the news it is because of a rogue trader losing billions of dollars or a Libor-manipulator lying to his firm and regulators. Our industry is seen by many as unethical, full of money-loving jerks who like private gains but socialized losses. We do not do a good enough job of making sure everyone understands the benefits of a well-developed, well-regulated financial system, one that takes excess savings and deploys the money to its most productive use elsewhere, such as in infrastructure, car loans or startup companies. Our Industry allows individuals to smooth their consumption over their lifetime, and to store up savings for bad times. It allows for the purchase of a home well before most people would have the resources to buy one, and gives capital to entrepreneurs who attempt to create the next great device, software or medicine.

Most of us who work in their industry love our work and can’t comprehend why so many people, including women, fail to see the benefits of working in a fast paced, competitive, ever-changing industry, alongside smart, talented colleagues. We need to do a better job of educating the next generation about the variety of opportunities available in finance, and most importantly, we must maintain our high ethical standards, raising the profile of the industry for our future coworkers and clients.

Joshua M. Howard, CFA
President of the Board of Directors
CFA Society Minnesota

Liquidity Risk – What Investors Need to Know Now

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Presented by Michael Bird, CFA, Senior Fund Manager, Money Funds, Wells Capital Management and Steven R. Malin, Ph.D., Director, Investment Strategist, US Capital Markets Research & Strategy, Allianz Global Investors

– Lucas Baker, CFA, Wells Fargo

Michael Bird, a senior fund manager for Wells Capital Management’s money market fund strategy and Steven Malin, formerly with the Federal Reserve Bank of New York and currently a director and investment strategist with Allianz Global Investors, discussed liquidity risks in the market, client concerns, regulatory and market factors affecting liquidity and potential sources of liquidity issues in the future. During the interactive discussion moderated by Tyler Carrington also of Allianz, Mr. Bird discussed some of the challenges of managing money funds in a post-2008 world. Alternatively Mr. Malin, leveraging his central bank experience, presented a macro tilt to the issue of liquidity risk and provided attendees with a glimpse into the Fed’s perspective.

Clients have exhibited increasing concern over liquidity risk and have taken a more direct interest in their portfolios questioning the composition of their portfolios to determine if they should diversify into alternative products such as an ultra-short bond fund instead of MMF.

With investors increasingly moving towards investment grade corporates instead of Treasuries, Mr. Malin questioned if the structure of the market had changed and described a seemingly barbell view on liquidity. He said liquidity issues have become more focused on Treasuries on one hand due to programmatic trading and one-way bets, and HY on the other hand due to a smaller universe of investors and higher inherent volatility. In the middle, high grade corporates have exhibited greater liquidity given the large size of deals and significant number of natural buyers.

When asked if and how they were being compensated for liquidity risk, both presenters said that liquidity was addressed during the security selection process. Mr. Bird added that he is currently seeing wider bid-ask spreads and more bid-wanteds driven in large part by the disintermediation of banks.

The discussion turned to regulations and their impact on liquidity. While Mr. Malin, citing his Fed background bias, noted that the financial system was unequivocally safer now than in 2007, Mr. Bird questioned the effectiveness of the SEC’s most recent amendments to prevent runs on money market funds. One unintended consequence has been the significant decline in the repo market due to the disintermediation of banks. Currently, the repo market is half the size it was prior to the financial crisis, requiring money funds to expand the universe of counterparties that funds repo with.

One of the more important discussion points centered on the evolution of trading and its impact on liquidity. Mr. Malin noted that the trading universe is much broader and dominated now by algorithms that move in the same direction, exacerbating price swings during times of increased volatility. Investors attempting to limit risk by “avoiding it” with a passive strategy such as an ETF or “outrun it” with a momentum strategy can find themselves in negative feedback loop as correlations increase along with volatility forcing portfolio managers to sell winners to raise cash and holding onto losers. To manage that risk, Mr. Bird’s company stress tests its portfolios for redemption shocks in addition to the other stress tests it conducts.

Going forward, Mr. Malin sees the continued evolution of trading – i.e. an expanding trading universe with more traders and faster execution – as a potential source of liquidity risk particularly in light of a heterogeneous market vis-à-vis companies, countries and currencies.

Finally, when the Fed finally decides to liftoff, the primary polity tool it will use to raise interest rates will be reverse repo, which could be problematic given current limits to that program. Mr. Bird expects the Fed to remove the current cap on the program to effectuate its policy.