Tano Singapore Advisors - Macro Manifesto Outlook 2015

2015 Original Market Perceptions for the New Year

Tano Singapore Advisors Pte Ltd Macro Manifesto - Investment Outlook for 2015

ABRIDGED RELEASE FOR PUBLIC DISSEMINATION Unabridged copy for internal distribution available by request

The ‘New Charismatics’, leadership and financial markets - in the post-consensus, post-parliamentarian world

Narendra Modi - Gujarati brand of compassionate conservatism

Xi Jinping - Bigger than Moa, stocks trump ‘SUFFR’

Shinzō Abe - Brave Diet; audentes fortuna Iuvat ... and Abe

Joko Widodo - Clove Revolution ‘A New Hope’, the Luke Skywalker of Asia

Abu Bakr al-Baghdadi - Badder than Bin Laden, ‘Black Crow’ event in the making

Enrique Peña Nieto - PEMEX RIP, Mano e mano with El Jefe, Yo Soy 132 be damned

Hassan Rouhani - The promise of Khatami realised 2015? EM investors refocus on Iran

Vladimir Vladimirovich Putin - VVP’s Russia, the endgame as I see it

Kim Jong-un - Fun Boy Three, no laughing matter

Emerging Markets corporate governance mandates - total return not ideology

Where is the floor? Marginal supply and the economics of unconventional oil production The Dollar Bully World - Captain America still feeling Marvel-lous What’ll it be? Call drinks for in the New Year

Asset allocation - Huntington, Hopkins, Stanford and Crocker

Geographic dispersion - favoured destinations

Industry sector - priority focus

... Independent Global Macro and Emerging Market Investment Analysis

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2015 Original Market Perceptions for the New Year

Opinion

The ‘New Charismatics’ Leadership and financial markets in the post-consensus, post-parliamentarian world Backdrop: the political stage in the first half of the 20th century was dominated by messianic charismatics. From Mustafa Atatürk to Mahatma Ghandi, Mao Zedong to Joseph Stalin, and Winston Churchill to Adolf Hitler; each driven by a cause and seemingly by the force of their own will, they were able to change nations and shape the world.

Mercurial leadership in the first half of the 20

th century, eclipsed by 65 years of intergovernmental compromise

Ego unencumbered and absolute power spawned two World Wars and brought the age of man to the brink of nuclear extinction. Limitless authority seized by a handful of individuals, and systems of governance which rewarded insatiable, unchecked ambition, resulted in 100,000,000 deaths in the People’s Republic of China and the Union of Soviet Socialist Republics. In the aftermath of apocalypse, on a global scale for the first time in history, there was a call for cooperation, consensus building, and the implementation of systemic checks and balances. The death of Hitler ushered in the epoch of Intergovernmental Agencies specifically engineered to restrain the power of the individual and reduce risk. With the exception of the ephemeral, halcyon daze when Margaret Thacher and Ronald Reagan enjoyed a ‘very special relationship,’ the post WWII to 2010 era was a period dominated by parliamentarians, conciliators and faceless envoys. The world watched the creation of cooperative agencies designed to disperse decision making, and dilute individual authority. The United Nations (UN), European Union (EU), North American Treaty Organisation (NATO), World Bank, International Monetary Fund (IMF), World Trade Organization (WTO), World Health Organisation (WHO), Global Environmental Agency (GEA), Association of Southeast Asian Nations (ASEAN), Intergovernmental Panel on Climate Change (IPCC),

International Organization for Migration (IOM), International Energy Agency (IEA), Organisation for Economic Co-operation and Development (OECD), Organisation of Petroleum Exporting Countries (OPEC), International Criminal Police Organization (INTERPOL), the G-7, G-8*, G-20 and G-77; ... Intergovernmental organisations succeeded in reducing risk and the world has thus far avoided a third world war. As a consequence, dispersed command particularly in the developed world, has been less effectual. The scale and velocity of ‘progress’ quantified by rising living standards, life expectancy and scientific invention has slowed dramatically from the first half of the 20th century. But on the flip side, the health of the world measured by an expanding wealth gap, proliferation of nuclear weapons, new strains of virulent disease, ecological blight, depletion of resources, and eradication of species, global warming, and other indisputable statistical measure has accelerated at potentially perilous rates. Space exploration for example, is a preeminent science of technological advance and a defining measure of modernisation. America went from the age of ‘horse and buggy’ to the space age with a man on the moon in 50 short years. In the last 50 years, the US has gone from a man on the moon to explosions on space shuttles Challenger and

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2015 Independent Global Macro and Emerging Market Investment Analysis

John Winsell Davies - Tano Singapore Advisor Pte Ltd

Columbia; the period highlight is perhaps an unmanned space vehicle landing on Mars. Progress per se was more of function of the R.O.W. playing catch-up with Europe and America; the rise of emerging markets, a dynamic which produced significant unintended consequences. In short, hamstrung post WWII leadership has done far less with much more. Governments have been especially hapless in addressing the unchecked threat of population explosion. The population has grown from 1.65 billion in 1900 to 7.2 billion in 2015. This represents an increase of 336% in little more than a century, where perhaps 3 billion people is a sustainable figure at current consumption levels. At the beginning of his first term, the young Barrack Obama was considered by some both a charismatic and a visionary. He enjoyed the support of the nation, but will languish for eight long years as a lame duck president, in a two party system characterised by gridlock.

Washington has been unable to act, paralysed by partisanship, placing ulterior motive and special interest ahead of the common good. ‘Defeatism as a political tool’ has been perfected by the Grand Old Party. Of sickly consequence, it has been rewarded for harming the country, by taking Republican majorities in both the house and the senate in recent elections. The electorate cannot see the dirt through the mud

As a result, the US has underinvested in infrastructure, physical and human capital. Important reforms in entitlements, immigration, energy, corporate taxation, and campaign finance have been orphaned to die. The private sector is adversely impacted and potential growth is not

fully realised. No mistake, the outlook for Captain America remains Marvel-lous (see page 32), but this is a question of leadership and at the moment, the US government is dysfunctional. America rises in spite of, not because of its political elite and congressional approval ratings are near all-time lows of 14%. America is a house divided. Despite a long spell of good weather, a bickering Ma and Pa Kettle’ are increasingly unable thatch the roof, educate the young’uns, care for the gramps and granny, or protect the garden from varmints The power of the lobbyists and political action committees (PACS) pervert the purpose and the process of government. Gerrymandering carves up voting districts into black and white extremes as centrists worry that they cannot be re-elected. Positively nothing is going to happen in a wing-clipped Washington until 2016. Capital Hill waits for elections and the Whitehouse to vacate. But then, who does the GOP have the lead the charge against Hillary? Rand Paul or Paul Ryan - ha! Marco Rubio or Ted Cruz - ha ha! Chris Christie or JEB Bush - ha ha ha! Mike Huckabee, Rick Perry, or Rick Santorum – make it stop. The democrats have a grand total of one (1) potential candidate of consequence: the esteemed and credible, thus far untarnished Elizabeth Warren, but she is savvy enough to take a pass. The European model may be equally hampered. 65 years of tethered parliamentarian leadership from 1945 to 2010, featured 59 Italian governments and 68 in Japan. Europe ruled the world for 400 years but has been in a state of rudderless slow retreat since the conclusion of the Paris Peace Treaties in 1947. The EU is one clown short of a circus; the single currency has been in jeopardy since inception. Functionaries cobble together flimsy governments, crafted of all manner of politically correct cloth, from hippies to nimbys to ninnies. The structure itself provides for extreme minority factions to

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punch well above their fighting weight. Shoddy and weakened, sometimes even the trace elements of fringe parties can derail a coalition.

Like US gridlock, the parliamentary system might be similarly encumbered. It does not elect leaders, the people vote for parties. The parties put forward pulse-takers, dealmakers, and Ed Miliband If the sun were not hot, it would not be able warm the earth. A wolf with no teeth cannot eat. And sovereignty without a sovereign is adrift upon the current of the lowest common denominator.

As Captain James T Kirk discovered in “The Enemy Within,” when stripped of ego, lust, greed, and selfish pursuit; he also lost the so-called "power of decision;” his ability to give orders and command a star ship

The rise of Vladimir Vladimirovich Putin changed the paradigm. Mass appeal for maverick resolve has touched far points on the map. The popularity of dynamic, strong-willed captains, from those under the autocratic boot and in open societies alike, implies a heightened appetite for executive risk. The geopolitical issues of 2015 and thus the investment landscape are being sculpted by powerful individuals not committees.

As the US stagnates in gridlock and the people-pleasing parliamentarian world muddles along, of particular interest are strategic emerging economies. Particularly those which enjoy the fervent backing of important populations; these ‘New Charismatics’ wield increasingly unbridled power. This is a leadership which marshals great force, which can be harnessed for both positive and potentially dangerous utility. I see a new deck and fresh deal from the shoe. Global investors should understand the players sitting at the table and make their bets accordingly.

Narendra Modi - नरेंद्र मोदी Prime Minister, India Leader of the Bharatiya Janata Party (BJP)

A Hindu nationalist with deep roots in the paramilitary Rashtriya Swayamsevak Sangh (RSS), Modi is the most powerful Indian politician since Indira Ghandi. He is a disciple of Vinayak Damodar Savarkar and a proponent of hindutva, or Hindu-ness. As chief minister of the state of Gujarat, Modi was believed responsible for aiding and abetting sectarian violence during a 2002 massacre in which 790 Muslims and 254 Hindus were killed. He was boycotted by the UK, EU and denied a US entry visa starting in 2005. Leader of the Hindu Bharatiya Janata Party (BJP), Modi swept to power riding a wave of zealous support. On 26 May 2014,

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the BJP defeated the Indian National Congress (INP), after more than 40 years of rule under the Gandhi dynasty. As the democratically elected prime minister of the world’s most populous nation, the UK, EU, and US have all reversed public posture and reverted to diplomatic norms. On the sub-continent Modi is seen as a clean, even virtuous candidate. His reformist, pro-business, free market, and anti-corruption platform is wildly popular. The ‘Gujarat Experiment’ targets economic rejuvenation by attacking bureaucratic impediments to laissez-faire growth coupled and massive reconstruction projects. The BJP has implemented policy initiatives to develop impoverished rural areas in the country. The premier is aggressively promoted FDI by immediately easing restrictions on foreign investment in property projects. In the infrastructure side, the gargantuan overhaul of the Indian railroad system has already begun. Modi is the first perceived ‘capitalist’ prime minister in the country’s history since independence.

Modi’s pro-business reforms and anti-corruption, anti-bureaucratic policy initiatives drove economic growth Gujarat RED greater than 10%. The ‘Gujarat Experiment’ is now the national model since his taking

office in 2014. India to surpass China GDP % p.a. in 2016

Concrete steps. From an ambitious and comprehensive reform list, included are the following 13 items: 1) GST (goods and sales tax) reforms will be enacted in 2015, potentially adding 1-2% to GDP 2) sell stakes in public companies and increase limits of foreign ownership 3) Jan Dhan Yojana, Modi plan to include millions of citizens in the banking system, more than 75 million accounts opened, scheme foresees one banking account per household 4) Shrink the role of the notary publics (good plan for ROW especially EM – seemingly a notary on every block in Kiev) 5) Tough on crime, Juvenile Justice Act that will treat minors above 16 years as adults for heinous crimes 6) Sanitary infrastructure, more Indians have access to mobile phone than a toilet - Modi building 111 million toilets in the next five years, one per second to end public defecation 7) Cut fat, fewer ministers, ban first class and five star travel, slash waste and padded expenses 8) Eliminate Soviet-era planning commission and the last Five Year Plan 9) diplomatic outreach to both Japan and China 10) Bring broadband to villages 11) Swachh Bharat Abhiyan - nationwide campaign to clean the country of rubbish 12) Cut red tape for factories, ships, and small business, put applications, train tickets, ballots online 13) Privatise corrupt inspectors to eliminate institutional bribery

Not meaningless programmes, Modi reforms lift economic growth from suffocating bureaucracy. Financial markets have rallied his initiatives. The SENSEX WHITE rose +29.26% CY 2014 (I include CY here, not post-inauguration only, as markets ran up in advance of his anticipated election) vs. MSCI All Country World (MXWD) GREEN +2.96% and MSCI EM (MXEF) GOLD which declined (4.72%)

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Modi enjoys the support of India’s tech-savvy, affluent and well educated middle class, the second largest consumer population in the world. These 250MM are his most important constituent and the demographic is expected to double in size over the next ten years. Unlike any global peer of similar scale, Modi’s middle class has low relative penetration rate of goods and services. A recent survey noted only 11 passenger cars per 1,000 Indians; vs. 34 in China, 179 in Brazil, 233 in Russia, and 440 in the U.S, indicated longer-term upside.

In a rising dollar world, the Indian Rupee (INR) GREY has been surprisingly buoyant. The currency was down (2.32%) vs. the USD in CY 2014, our fourth favourite Fx in world after ($), Thai Baht (THB) RED (0.50%), and Philippine Peso (PHP) BLUE (0.80%). Short side of the x-rate? JPY (11.86%), EUR (11.54%) CHF (9.71%) ... I also see buoyancy related to FDI acceleration in Indonesian Rupiah (IDR) (1.94%) ORANGE for the year

Perhaps surprisingly, the condition of India’s decrepit infrastructure may bode well for GDP expansion prospects and asset price appreciation. During his 13 year tenure in Gujarat, he transformed the state into the nation’s industrial leader. Manufacturing is a 28% co-efficient of state GDP vs. 13% for the country. In order to increase Indian competitiveness vs. China where +/- 30% of GDP is derived from the manufacturing sector, Modi’s pet redevelopment and construction projects face little resistance. China has driven economic development with fixed investment, infrastructure spend and real-estate appreciation. These are live rounds that Delhi has yet to fire. India was essentially a closed economy until 1991. The first 20 years of privatisation and economic reform were met with fitful progress well below

potential. There is much work to be done but therein lies catalyst for longer-term urbanisation and industrialisation trends already advantaged in rival economies. I estimate that India handily beats consensus 2015 GDP of 5.6% with a 6.6% result and passes China’s growth rate by 2016. A rising bond market (10Y yield 7.86% down from 9.10% 2014 peak), moderating CPI (7.82% down from 9.48% YoY) ... ‘global deflation peril Madame Lagarde? - mais non’, 2015 world inflation estimate 3.4%), the outlook remains constructive for Indian listed securities. Like others of the New Charismatics, Narendra Modi appears driven by conviction and supreme confidence. He is a leader with a cause whose followers are fervent. Power plus passion, met with initial success sometimes combine to serve a heady cocktail.

Xi Jinping - 习近平 President, People’s Republic of China Chairman of the Central Military Commission General Secretary Communist Party of China

Parallels to Narendra Modi are significant. Xi is a nationalist and China’s most powerful leader since Mao Zedong. Appointed by the NPC (National People’s Congress) to replace outgoing President Hu Jintao on 14 March 2013, he pledged to reign in

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party waste and excesses. He is seen an anti-corruption reformer whose pro-stock market, pro-industry, pro-prosperity platform enjoys broad-based, enthusiastic support. Like Modi, he is a hero of the investment community and seen as a clean leader in an otherwise tainted elite. Undisputed master of the world’s largest economy on the PPP basis, financial markets have welcomed Xi policy initiates, ‘law and order’ swagger, and perhaps even heavy-handed autocracy. Verbal assurance to rebalancing growth from fixed investment in infrastructure, construction, real-estate and public spending; to domestic consumption will not be enough. To combat slowing GDP, the PBOC diverted 795 B RMB (CNY) to five state banks in 2014 and surprised the markets by cutting interest rates for the first time in more than two years in response to signs of weakening growth. Xi’s government is anticipated to spend up to 10 Trillion RMB (CNY) ($1.5 T USD) on perhaps 300-400 development projects to lift the economy by 2017.

Even after recent rally the Shanghai Composite WHITE is trading below 2009 highs and the would require an additional 92.5% advance GOLD to reach 2007 pre-crisis levels GREEN

His ‘330 Reform Package’ (results due 2020) include an ambitious transformation of property rights, interest rates, Fx liberalisation, and market-oriented energy pricing. Xi has ‘talked’ the market higher and the regulators have taken measures to drive more people into stocks. Beijing hoping that rising equity markets offset deflating property values; has forced brokers to cut fees on retail and institutional accounts. Xi’s privatisation policy,

reform measures, and most importantly, stimulation of equity markets have rallied investors, particularly the local Chinese retail market. Failing reform, Xi’s China Dream coined slogan remains obscured by inefficient state enterprise, characterised by a 4.5% return on assets vs. 10.2% for private companies. In apparent contradiction, this unattractive dynamic bodes well for future growth. Why? State industry has historically enjoyed privileged access to finance, resulting in misallocation of resources and capital to unproductive ventures. As Xi policy gains traction, the private sector will benefit, fuelling the next engine of economic advance while slowing the spread of unprofitable business activity.

The managed exchange rate Chinese RMB (CNY) GOLD has appreciated 33.5% vs. USD from the time I lived to Beijing; juxtaposed to the Russian Rouble (RUB) WHITE which depreciated near 90% since I moved to the CIS, ...Pound Sterling (GBP) GREEN stable from 1998 (5.54%)

The Shanghai (SHCOMP) composite has appreciated a remarkable +52.86% in 2014 vs. a decline of (4.81%) for the MSCI EM (MXEF) for the year, and the managed currency exchange rate continues to long-term advance. As long as Xi keeps his foot on the gas, moderating yet still powerful GDP of 7.3% and industrial production at 7.2% do not imply material slowdown in the short-term. Interest rates remain low (3.6% 10Y), inflation is in the sweet spot (2.1% CPI), the country is running a 2.4% current-account surplus, and China is becoming the world’s bank (see VVP).

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The recent market advance of share indices does not prejudice the relative attractiveness of China. Even after the current run up, the Shanghai Composite is still trading 47% below 2007 levels, while some of R.O.W. has been making new highs. For the trailing five years moving out of the Great Recession, Chinese equity markets are almost flat (1.3%), significantly underperforming MSCI All Country World (MXWD) +40% and the S&P 500 (SPX) +86%. At 12.23x 2015 estimated earnings, the ‘A share market trades at a 19% and 27% discount to these same markets. Admittedly China is valued at a rational premium to the MSCI EM (MXEF) largely skewed by significant and justifiable discounts in Russia and Brazil. Adjusted for aggressive earnings growth estimates of 19.2% 2Y estimate, stocks are not expensive.

Even after 52% CY2014 advance, the Shanghai Composite (SHCOMP) WHITE has significantly underperformed global indices as measured by MSCI All Country World (MXWD) GREEN and the S&P 500 (SPX) GOLD for five years, currently trading at a 19% and 27% respective discount to earnings (12.23x vs. 15.16x and 16.69x), with higher YoY corporate EPS momentum @ 19.2% 2Y estimate

The material risk to the longer-term Chinese investment case is the inked here: Chinese ‘SUFFR’ (Systemic Unquantified Financial Failure Risk), unregulated wealth management products, property market and credit bubbles. Fixed investment was 30-37% of regional GDP at pre-Asian financial crisis 1997 peak. Fixed

investment in China was up to 42% by 2008 global financial crisis. In the six years since, it has grown to 50%, and another $1.5T is right behind it. From 2009 to 2014 private domestic debt ballooned from $9T to $24T spawning rise in NPLs, a deterioration of asset quality, bad investments, too much industrial capacity – large output gaps. That means half economy, major surge of state and private spending (debt financed) on real-estate, infrastructure and public works. Credit growth of > 2x faster than GDP is unsustainable and will ultimately have to be curbed by the PBOC or the market or both. I am more concerned about the statistics that we do not see in SUFFR. Opaque and unquantifiable WMP’s, potentially explosive regional and municipal budget shortfalls, endemic theft which has yet to be unearthed in the anti-corruption purge, and a raft of daunting unknowns give pause for caution. A hard landing scenario perhaps two years on the horizon is increasingly more plausible based on less buoyant fundamental data. But investors should factor in Xi’s ability to kick the can down the road on these issues for perhaps years to come. Today is not likely the day of reckoning and financial markets move in real-time. Also of significance to the longer-term investment climate is the question of a collegial integration of a strong China with the US and its allies. History provides few examples of a global superpower being peaceably deposed, but this is our shared future.

A revival of the 1950 Sino-Soviet ‘Treaty of Friendship, Alliance and Mutual Assistance’ alliance would more than level the field

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Beijing is flexing its muscles in the South China Sea with territorial disputes involving both Japan and Vietnam. President Xi is attempting to create a “zone of exceptionalism” in which international law would be supplanted by a regional acceptance that China’s interests and authority trump the rights of smaller nations ... not unlike the US Monroe Doctrine related to Latin America. And what do Hong Kong protestors mean to Xi in the grand scheme of the China story? Financial markets suggest not very much. A fan of Frank Coppola’s Godfather movies, Xi Jinping permeates an aura of respect (see Ling Jihua, Zhou Yongkang and Bo Xilai), and as others of the New Charismatics, the 61 year old Chinese leader is hugely popular at home. According to a Bloomberg study which polled 30 countries in December, Xi is the world’s most popular president. He was rated higher by the people of China than any other leader in the survey with 94.8% support. No surprise, the second most popular world leader was Russian President Vladimir Putin, with #3 Indian Prime Minister Narendra Modi rounding out the triumvirate.

Shinzō Abe - 安倍晋三 Prime Minister Japan President of the Liberal Democratic Party (LDP)

Following the emperor’s August 1945 Gyokuon-hōsō radio address, fully 27 prime ministers have

ruled the constitutional monarchy, but few will be remembered much beyond the history books. Ineffectual, oft-corrupt bureaucrats; the stewards

of the Diet were known as ‘keepers’ 管理人.

Not promise keepers or keepers of the faith. Rather they were known for keeping big business happy, keeping secrets, and keeping the seat warm for their replacement; before slipping out to the Taiheiyo Club Gotemba Course on a meaty pension. One should credit the awakening to Junichirō Koizumi in 2001, but Shinzō Abe broke the mould of the Japanese conciliatory party man who masseurs-away a year or two in the post, planning his retirement. Upon being elected prime minister for the second time in 2012, that Abe took daring, demonstrative steps to pull Japan out of economic stagnation. Importantly, he did this with the ardent support of the Japanese people. Collective policy measures known as Abenomics are a war on deflation designed to shock Japan’s moribund economy out of a 30+ year malaise. At >2x debt-to-GDP ratio, Abenomics is quantitative easing on steroids. It is a no limit gambit to stimulate growth and raise CPI.

Abenomics: Step I; weaken the ¥ Yen and lift inflation. Money printing via massive purchases of Japanese long dated government bonds (QE), and sharply increased public sector spending (fiscal stimulus). The purpose of which is to improve manufacturing cost competitiveness, revitalise domestic industry, and fuel export growth Step II; flood the economy with near zero-rate financing such that corporate Japan will channel liquidity into hiring and capital investment Step III; reflate the stock market; central bank and general investment fund purchases. Export revenues in foreign currency, converted back into deflated ¥ Yen increase earnings. Expensive imports benefit Japanese domestic producers and expand the trade surplus Step IV; stimulate the Japanese consumer via wealth effect and excess liquidity to drive GDP

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Step V; sector reform in energy (chuckle), agriculture (smirk), and healthcare (wink); headlines for votes and diversion

Gross domestic product, vs. global peers, Japan is ‘all in

Russia 7.9% China 22.4% USA 71.8% UK 88.4% Greece 174.9% Japan 226.1%

To Abe’s great credit, the Nikkei 225 (NKY) has appreciated +103.9% 2Y to yearend 2014 vs. +38.9% MSCI All Country World (MCWD) and +23.1% MSCI Asia ex Japan (MXASJ).

Corporate profits are booming on export growth and foreign currency revenues are worth more when converted to ¥ Yen (JPY) PURPLE down (36%). Japanese stocks Nikkei 225 (NKY) WHITE have doubled +103% 2Y, as the Bank of Japan (BOJ) and government investment fund (GPIF) are aggressively buying domestic shares

The ¥ Yen has fallen by (35.7%) over the same period and the economy has moved from deflation

to positive 2.4% CPI. And on 26 December 2014, the Japanese savings rate turned negative for the first time on record. A country of savers since 1945, the savings rate peaked at 23.1% in 1975. Japan's population is now drawing down savings, calculated as savings divided by disposable income plus pension payments = negative (1.3%). But despite these headlines, Abenomics have not achieved the desired result and all is not well in Ōyashima - Great Country of Eight Islands. The savings rate did not fall because the consumer is invigorated. Rather the savings rate is negative for the first time because Japanese Worker Household Disposable Income (JHHSDINY) has declined from a positive 4.2% in pre-Abenomics 2012 to a negative (3.9%) at yearend December 2014. Real wages have fallen 2.9% YoY and declining purchasing power (imports in depreciating ¥ Yen terms), has forced middle-income Japanese to dip into savings. Labour laws make it hard to fire obsolete workers or even modify their compensation. Young workers trapped in low paying jobs with little disposable income cannot spend. The economic impact is especially detrimental to the working class, increasingly unable to maintain standard of living rates. Japanese society is no longer egalitarian but

2015 Independent Global Macro and EM Investment Analysis

John Winsell Davies - Tano Capital Singapore

increasingly one of haves and have nots, not unlike the R.O.W.

Household Disposable Income (JHHSDINY) fell (3.9%) at yearend December 2014, from pre-Abenomics +4.2% March 2012. Japanese savings rate negative for first time ever as households offset a decline on real wages and shrinking purchasing power accentuated by rising dollar cost imports

Instead of stimulating economic activity and lifting GDP, Abe’s ill-advised consumption tax hike to 8%, paired with ¥ Yen devaluation, have squeezed the consumer. The economy unexpectedly entered a fourth recession since 2008 with a negative (1.6%) contraction in Q3 after a decline in Q2. Auto and retail sales are falling.

Japanese corporates used 2012 to yearend 2014 Abenomics dividend to shore up balance sheets rather than allocate to increasing headcount or fixed investment in Japan - (JNBPICDB) above

Concurrently, Japanese corporates have not deployed currency-driven cash flows and excess liquidity to increase head count or raise domestic

fixed investment. Instead, Japanese corporates have used currency gains to reduce leverage, fatten margins and drive EPS. They have committed capital to overseas ventures rather than Japanese operations. Vibrant, expanding South East Asian economies with attractive demographics, pro-business labour laws and tax schemes have been the beneficiary. The local market on a long march, 25 year decline, is increasingly uncompetitive and unattractive, with no easy fix. Compounding the problem, the strong dollar bully has increased the costs of raw materials required for manufacturers. Not sticking to script, the current-account surplus actually decreased, posting negative numbers for the first time in decades as the price of $ dollar-denominated imports grew faster than ¥ Yen-denominated exports. Bankruptcies have risen 140% since pre-Abenomics 2012, hitting the SMIDS, small and medium sized industries critical to future growth. The wealth effect from higher share prices has also been somewhat neutralised by strong USD. Rather than the intended consequence of increasing consumption, the rising stock market has strengthened the balance sheets of the affluent and the elderly, whose savings patterns do little to accelerate the economy. But shoulder deep in economic morass, Abe still enjoys popular support at home. After the country re-entered recession and his sales tax hike backfired, the prime minister called for a snap election to secure a new mandate. In December 2014, his LDP coalition won a two-thirds majority, commanding 325 of 475 parliamentary seats in the Diet. The vote was seen as a referendum on his economic policy and Abe was given four more years in to prove it. Victory over deflation is far from secure but strong leaders take daring chances and I expect Japan to post provisionally positive GDP expansion in 2015 of perhaps 1%. Dire circumstance and a 25 year bear market on everything from the stock market, to quality of life, to Japan’s status in the aristocracy of great nations, requires bold action. Even after the recent two year rally, the yearend close of the market was still 11% lower than the last time I was



working in Tokyo at the Nomura conference, way back in March of 2000, almost 15 years ago. Understanding that the Nikkei would need legendary gain of +155% from yearend closing 15,307 to return to 1989 market high of 38,915, the country has been underwater for an entire generation. The expression goes, “if nothing changes, nothing changes.” Abe is making bold moves to reverse that but such radical initiatives are not without risk. Should Abenomics fail, burgeoning Japanese public debt coupled with a weak ¥ Yen, could invoke that apparition of a credit crisis some years from now. But for financial markets in the short term, this is one brave Diet; audentes fortuna Iuvat ... and Abe.

Joko Widodo President, Indonesia Head of the Indonesian Democratic Party – Struggle (PDI-P)

Indonesian politics have been characterised by duplicity and cronyism since the Dutch lifted anchor in 1949. As with Modi and Xi, Joko Widodo is seen by his people as clean leader with a ‘fresh face.’ Previously governor of Jakarta and mayor of Surakarta (Solo), the new president was sworn into office July 2014 as leader of South East Asia’s

largest economy and the 4th largest population in the world (257 million). Although of smaller scope than Mexico’s Nieto or Modi in India, Widodo is initiating real structural reform and going after previously untouchable sacred cows. He has fulfilled a campaign promise to cut billions from the nation’s budget and current account deficit. Jokowi increased the price of subsidised fuel by more than 30%. He initiated a series of interest rate hikes, to support the currency further narrowing the budget deficit. The president has lifted the real-estate ban of foreign ownership of residential apartments which is expected to attract billions into Indonesian property market, currently selling at 4-7x discounts to region comps in Singapore or Australia. Widodo made for better transparency in government, requiring salary disclosure and business holdings of government officials. He had prohibited the bidding of family and related parties for government contracts.

Credible leadership and structural reforms are significant foreign investment. Indonesian corporates have deleveraged 66% since 1997 Asian Financial Crisis as profits have grown. JCI significantly outperformed world and EM since Widodo took office

An altruist in his time as mayor and governor, Widodo’s tenures were marked by public spend on healthcare and transportation. A man of the people, he was known for meeting constituents face-to-face at street level. His governments preserved park lands, constructed pedestrian walkways, and even enacted some half-hearted



measures to prevent the felling of trees on public roads (unique in a country where deforestation is the national pastime). While certainly not an environmentalist by any common understanding of the word, in the annals of Indonesian leadership, he is thus far the least rapacious. Editors Note: the investment community should not be content until all those who burned Borneo, Sumatra and a thousand other islands are behind bars. It is just bad business, in this life and the next. 72% of Indonesia’s old growth forests have been lost forever in just the past 40 years, the most rapid such ecological catastrophe of any place on earth including the Amazon. The scale of destruction is so large that it is now having significant impacts on the global climate and blackens skies across the region. Indonesia is now the world’s third largest emitter of greenhouse gasses after China and the US, with 85% of its emissions generated not from automobiles and industry, but rather rainforest and peat land destruction.

Widodo’s grandparents came from a small village in Boyolali and his family faced financial difficulties during his childhood. He is the first Indonesian president not from the political elite or of a military background. A neighbour of the people, he attends heavy metal rock festivals and by his own account is a fan of Metallica and Led Zeppelin. After his election victory, he told the New York Times, “now, it's quite similar to America, yeah? There is the American dream, and here we have the Indonesian dream.” The Obama of Asia, he appeared on the cover of Time magazine ‘A New Hope’ a la Luke Skywalker in Star Wars IV. Early days indeed for the architect of the coined here “Clove Revolution,” his policy moves have been well received by financial markets. Borrowing costs declined 15% last year as the yield on the Indonesian 10 year dropped from 9.17% to 7.67%. In currency markets the Indonesian (IDR) was the third best performing major currency down just (1.69%) in 2014. In equity markets the Jakarta Composite Index (JCI) was of the top performing indices in the world, advancing 22.29% in the calendar year, vs. a modest gain of 2.96% MSCI All Country World (MXWD), and loss of (4.73%) for MSCI Emerging Markets (MXEF). With 5% estimated GDP expansion, 8.3% industrial production, manageable budget deficit of 2.3%, rising FDI, falling interest rates and a stable currency, the investment climate is benign. Widodo’s presidency is a strong positive for financial markets.

Abu Bakr al-Baghdadi - و كر أب غدادي ب ب الCaliph of the Islamic State of Iraq and the Levant (ISIL) or ISIS

The former head of Al-Qaeda in Iraq (AQI), Abu Bakr is both a charismatic commander and an impassioned, fanatical tyrant. His inclusion on this list of dynamic global leaders may be terminated at any moment, courtesy of a Langley-piloted drone attack. But the same could have been said about his former boss, Al-Qaeda chief Ayman al-Zawahiri, who has been wanted by US intelligence since 1998.

Editor’s note: After the Charlie Hebdo terrorist attack in Paris just hours ago at the time of this writing, the following inclusion with caricature may seem insensitive. We do so in solidarity and candour, not in humour

Too easy to disregard the caliph chief as just another extremist; my perception is that the rise of Abu Bakr is a ‘Black Crow’ event in the making. Unlike Nassim Taleb’s Black Swan event (one invisible to investors as a result of "collective blindness"), the world is fully aware of ISIS. But ‘psychological distance’ and unpredictable political outcomes make for a wide range of potential effects on the global economy.



His threat to the investment landscape is perhaps understated. While history may prove his impact on financial markets to be negligible, the reverse is equally possible (see global listed securities post 9/11). More will yet be revealed.

ISIS controlled territory yearend 2014

Abu Bakr leads the most powerful jihadist military in the world, commanding an army of an estimated 200,000 fighters* seemingly ready to die at his command. ISIS controls significant territory in Syria, Iraq and Libya. It has operations, fighters and recruiting platforms in Pakistan, Philippines, Indonesia, Egyptian Sinai Peninsula, and additional pockets of influence in North Africa and the Middle East. In June 2014, Abu Bakr told the world that he would conquer Rome and Spain (figuratively meaning the West – Parisian executions only hours ago). He proclaimed that he had established a global Islamic state, known as “Caliph Ibrahim,” and he commanded Muslims across the planet to swear allegiance to the him.

Khalifah proclaimed June 2014

As the United States pulled out of Iraq and Afghanistan, Al-Qaeda in Iraq (AQI) was positioned to fill the void. America has neither the political will nor the support of the American people, to redeploy combat troops on the ground. Other than air support, money, weapons and advisors, further US military intervention in the region is likely limited. Al-Bakr understands that the only material threat to further advance comes from other Islamist organisations. Indeed when AQI expanded from Iraq into Syria to become ISIS, he ignored a direct order from Bin Laden successor al-Zawahiri. In defiance of Al-Qaeda, his forces attacked the Syrian Civil War faction and took control over the al-Nusra Front. ISIS is now the de facto leader of the global jihadist movement. The Islamic State of Iraq and the Levant is considered a terrorist group by the United Nations Security Council, the European Union, and 11 other nations. Mass executions of civilian populations, beheading of hostages, child soldiers, sexual enslavement, suicide bombing, religious persecution, ethnic cleansing, torture and organ harvesting, round out a long list of crimes against humanity inflicted by Abu Bakr. In addition to the government of Bashar Assad in Syria and the US-backed Fuad Masum regime in Iraq, more than 50 nations worldwide including the US, EU, all 27 members of NATO, Russia, and the Arab States of the Gulf Cooperation Council (GCC), are directly or indirectly at war with ISIS and Abu Bakr. Disk drives found in Iraq indicate he controls a war chest of approximately $1.5B USD in cash, but joint military expenses to contain him cost an estimated $1.5B a day. He finances operations from a wide range of activities from black market crude oil from captured fields in Syria and Iraq, to the sale of stolen antiquities plundered from museums, universities and archaeological digs in occupied areas, to sophisticated money laundering activities which target Al-Qaeda’s wealthy patrons on the Gulf, especially in Saudi Arabia. A modern man, Abu Bakr met his wives online. Suddenly there came a tapping, as if someone gently rapping, Black Crow rapping at my chamber door. Quoth the raven, ‘nevermore.”



*estimates from regional forces including US backed Kurdish President Massoud Barzani, fighting ISIS in Ramadi and Jalawlas. The CIA is publically dismissive of ISIS and estimates a force of only 20,000 to 31,500 fighters

Enrique Pena Nieto President, Mexico

Popularity is a core requisite to inclusion in the ‘New Charismatics, with only one exception. Enrique Peña Nieto was elected President of Mexico December 2012, with only a 38% share in a three party race. Only in a system that does not allow for runoffs, would Nieto be given the keys. His victory marked a return of the establishment (PRI) Institutional Revolutionary Party, one associated with corruption and 71 years of uninterrupted rule until 2000. Cloaked in allegations of electoral fraud, thousands of protestors fought with police in the capital on inauguration day, resulting in 90 arrests. Some political observers considered him not much more than a well-groomed, face man of the business elite. Perhaps a handsome speech reader, coupled with the appeal of a young Vicente Foxx. Unlike other leaders who have made our cut, the Mexican president is not well liked at home. His historically low approval ratings of 39%, are even

lower than his northern neighbour in president Barrack Obama at 48%. Not unblemished by serious incident, Nieto’s political career has been tailed by the San Salvador Atenco scandal since 2006 and he has been the target of criticism from the anti-corruption, anti-PRI, social student group ‘Yo Soy 132’ since 2012. In September of 2014, the bodies of 43 murdered students who were marching in Iguala, Guerrero were found in mass graves, prompting calls for his resignation. I do not have any privileged insights here, but our well-placed Mexican neighbours in St Johns Wood (he works for Citi in Canary Wharf), believe that there is blood on his hands. So what’s to like, what are Nieto’s credentials? During his first two years in office, he has proven to be a surprising leader of substance and moxie. A self-styled compassionate conservative (a young Modi of Latin American politics?), Nieto has initiated bold structural reforms and bravely confronted systemic problems previously thought unreachable. This is not a moral assessment. Simply the conclusion that courage met with concrete actions in the absence of a popular mandate, have radically improved the investment climate of the country. His presidency will likely be of great benefit to Mexican financial markets and investors in listed securities.

Death of PEMEX

Nieto ended a near 80-year state monopoly on oil exploration and production. Not many EM sovereigns are willing to loosen the grip on hydrocarbon extraction and open the gates to global competition. Both fixed investment and



upstream production are anticipated to surge. An estimated $50 billion will be spent in the next four years by foreign firms alone, tacking on about 1 percent of GDP per year. Domestic stakeholders and industry participants will likely respond to maintain market share and the 10 year decline in crude output is expected to reverse.

‘Mano e mano’ with El Jefe

Nieto broke up América Móvil (AMXL MM) and opened the Mexican telecommunications market to global players. In doing so the president needed to square off with the most powerful man in the country and the richest man in the world, Señor Carlos Slim. Competition in fixed line and wireless markets will put as much as $25B per annum back in the pockets of Mexican consumers, priming the M2, lifting consumer confidence, raising retail spending and the economy. Nieto’s pro-business, anti-red tape public policy has revitalised the automotive industry. Nieto has signed off on green field plant construction with Kia $1B, Audi $1.3B, and BMW $1.1B. Mercedes-Benz and Nissan are already building a joint $1.4 billion auto assembly. Foreign competition has raised total fixed investment in the sector to $10B. His reforms have also improved efficiencies and increased competition in the financial services industry, leading to lower borrowing costs for consumers. He has even commenced in earnest with the task of modernising Mexico’s lagging public school system, no mean feat. Nieto’s reforms will usher in a decade of significant FDI and add perhaps as much as an aggregate 3 pts per annum GDP for the medium term.

And despite the falling oil price, the macro for Nieto’s economy is favourable. Unlike LATAM rival Brazil which is a leveraged play on Chinese commodity demand, Mexico is a leveraged play on a strong American economy and rising US consumer demand. 80% of Mexican exports go to the US. Sharing a porous border with the world’s largest economy, one growing at a lights out 5% in the last quarter, represents a huge logistical advantage. Mexico is in a cyclical upswing with exports at an all-time high, rising infrastructure and construction spend, low 5.25% unemployment, low interest rates 5.87% 10Y, modest CPI 3.9%, and higher consumer spending. Low wage inflation has restored manufacturing and operational advantages to Mexican industry. Factory labour costs are now slightly less than comparables in China. With the opening of a new pipeline to deliver cheap US shale gas to Mexico in late 2015, energy costs for Mexican industry are set to decline with the fall in electricity rates. Competitive labour rates and falling energy costs will benefit the manufacturing sector which is approximately 1/3 of the Mexican economy. And Mexico is still a net energy importer so a falling oil price comes with dividends elsewhere in the economy.

The Mexican Bolsa (MEXBOL) is flat 2Y (1.29%) vs. +22.77% MSCI All Country (MXWD). The market has done better than MSCI Emerging Markets (MXEF) but negative EM index performance has been taken down by explainable and warranted underperformance in Brazil and Russia



Lastly Mexican markets have not yet moved in response to positive policy initiatives and presidential leadership. Investors have not assigned any value to Nieto’s material structural reforms which I expect will be of substantive and long-term benefit to the country. Viva Quique - Viva Bombón - Viva Mexico!

Hassan Rouhani - سن ی ح روحانPresident Islamic State of Iran

The promise of Mohammad Khatami, buried by Mahmoud Ahmadinejad, may be fulfilled in 2015; and emerging market investors refocus on Iran. After 36 years of Western isolation, one man has a chance to lead the Islamic Republic back into the mainstream. As the pendulum of popular opinion reversed from the posturing of a hard-line Ahmadinejad government, Iran elected a moderate president, Hassan Rouhani in 2013. I remember the morality police busting into our offices on the corner of Baharan and 23rd street, in the late 90’s. They were checking to see if my analysts Lisa Rutherford and Leila Danesh were wearing full hijab in the workplace. We were trying to calculate private market valuations for publicly

traded companies on the TSE. Shares like Darou Pakhsh, Siman Fars & Khuzestan, Iran Vanet (Bahman Group), Sanati Behshahr, Iran Khodro Company and Shahdirau were valued between 1.5x and 3.2x primary earnings, and often priced at less than book value.

The Iranian Rial (IRR) was trading at 3,015 IRR/$1 official rate when we closed shop in 1999. It is trading today down (93.55%) at 27,073 IRR/$1 at yearend 2014. I wonder what kind of value we might find on the Tehran Stock Exchange today if it was open to foreigners. If Hassan Rouhani succeeds, we may soon find out

Unlike Khatami and his protégé, Mohammad Reza Aref who ran against Mr Rouhani in the 2013 election, the president is not a true reformer. Neither is he a charismatic in the traditional sense. Rather he is a pragmatic leader in a position to drive meaningful change in his country, of both great economic and geopolitical importance to the world. Rouhani has surrounded himself with technocrats and distanced public policy from dogmatic nationalists. According to Oliver August of the Economist, his cabinet contains more doctorates from American universities than Barack Obama’s. Rouhani’s position on this list of New Charismatics has more to do with his ability to help Iran realise its massive investment potential, than the standalone dynamism of the leader himself. His political objectives include ending the sanctions, making a nuclear deal with the West, and enacting structural reforms designed to open Iran’s markets,



culture and people to the R.O.W., for the first since the 1979 Revolution. Rouhani’s motivation has nothing to do with religion or ideology. No liberal, he is not a friend to foreign governments. The president wants the international sanctions lifted in order to grow GDP per capita of just $4,769, 98th place according to the World Bank 2013 estimates.

The public is weary of the revolutionary discourse and is interested in higher living standards, ease of travel, access to goods and services at global prices

Iran is the last big ‘green field’ prize for emerging market investors. With GDP of $368.9B, Iran is 30x larger than another closed market in the spotlight, the aforementioned Democratic People’s Republic of Korea (DPRK), with GDP of only $12.38B. The Iranian economy is 7x larger than Myanmar (Burma) which opened in 2013, and 6x larger than Cuba which had sanctions loosened by president Obama last month, after 50 years of US economic embargo. The Saudi Tadawul stock exchange opens the doors to foreign investors this year. There are no other closed markets remaining of comparable investment scope and scale. The world’s 18th largest economy with the 17th largest population (77.45MM), the World Bank classifies Iran as an upper-middle income country. It has a young demographic (average age 27.1 years), characterised by pent-up consumer demand. It is situated on some of the most valuable hydrocarbon deposits in the world, including the second largest natural gas reserves and the fourth largest oil reserves. Iran is the last table to flip and the best game in town; the investment potential for financial markets is massive.

Modern Iran. Asghar Farhadi’s 2011 film “A Separation” won Iran’s first Academy Award, taking the Oscar for best foreign language film ی ادر جدای ین از ن یم س

All bets hinge on job one: signing a nuclear accord. The deal met a setback in November 2014, as negotiators failed to reach a ‘next step’ agreement, which would have lifted most sanctions in exchange for a cap on Iran’s nuclear activities. It is unclear if the accord can be signed by the new deadline June 2015. But indications remain that there is willingness and a drive in Rouhani, capable of realising this ambition. It also appears that he has the political power to stand with Iran’s Supreme leader Ali Khamenei, the Republican Guard, and other hard liners at home, who had previously refused to make any compromise at all on the nuclear programme. The president’s counter-part in Washington will have similar internal conflicts, especially now with a republican controlled congress, so this is far from a certainty.

But there is hope, real hope for the first time since the Revolution, that Tehran will be soon be open for investment. Like the Bodhizafa waiting for the 50 year storm at Bells Beach Australia, I wouldn’t miss it

Machlin-Oracle Ltd. Cavendish Court 4th

Floor, 11-15 Wigmore Street, London, W1U 1PF, United Kingdom Authority170 2015

Independent Global Macro and Emerging Market Investment Analysis John Winsell Davies - Tano Singapore Advisors Pte Ltd

Vladimir Vladimirovich Putin - Владимир Владимирович Путин

President, Russian Federation 2000 to 2008, 2012 to present Prime Minister, Russian Federation 1999 to 2000, 2008 to 2012 Director of the Federal Security Service (FSB) 1998 to 1999 Leader of the United Russia Party 2008 to 2012 Lieutenant Colonel, KGB 1975 to 1991

If the New Charismatics have a Zeus, his name is Volodya, primus inter pares. In the hierarchy of the geopolitical animal farm, VVP is the ‘most equal of equals’. He is the world’s most powerful man and depending on who is counting, the wealthiest. As with Modi, Xi and others, the Russian President enjoys tremendous popular support at home. Russians have never been more supportive of Putin. His approval rating in the most recent Levada Centre survey was an astounding 88%. While no leader is universally loved, Putin has a cult of personality greater than Kim Jung-un dimension. Despite reports to the contrary, has been venerated for more than a decade, by large swaths of the population from youth groups to pensioners. But that is where the similarities with the Indian premier and the Chinese president stop. Related to capital markets, Putin’s rule can only be described as value destructive. Far from pro-business, his modus operandi is patently state-control of industry (strategic and otherwise, resources to media ... even the Orthodox Church). Russia has reverted to a command central economy with free-market trappings. While this

macro manifesto 2015 outlook in clearly not an academic dissertation, the investment case for Russia is layered in history and singularity which some EM investors find fascinating.

Consider that in Western Europe, the Dark Ages gave way to the Renaissance in 1342, but Russian feudal society lasted more than another five centuries. Neither did Russia experience the Protestant Reformation, the Age of Enlightenment, and the Industrial Revolution. The emancipation of the serfs did not take place until 1861, the year before Schramsberg was founded. Tsarist Rule lasted another 56 years until 1917 and then 75 years Soviet Socialist oppression ... 650 years of insular cultural evolution

9 January 2015 Independent Global Macro and Emerging Market Investment Analysis

John Winsell Davies - Tano Singapore Advisors Pte Ltd

The collapse of the USSR essentially freed a nation of oppressed peoples, an unequalled corridor of the world’s landmass unlocked for the first time in history. It was like all the jails were emptied at the same moment without any rules. The people had been figuratively “imprisoned” for the millennia, and did not know what it was like to live without bars. The strongest would surely rule and in less than 10 years, a succulent tenderloin of world’s resources which had ostensibly belonged “to the people,” belonged to the few. After the chaotic decade of the 90’s, there was a backlash against lawlessness. There was a movement to restore order with strong hands of authority consistent with history. The Russian siloviki under Putin reclaimed “for Russia,” the power, prestige, and the wealth misappropriated by the oligarchs during privatisation. Then there followed a decade of consolidation, from 2004 to 2014.

Putin’s Russia is run like a private club; an ice-blue ‘treasure island’ with much of its great beauty hidden from view. It is a fortress guarding unrivalled wealth and promise, managed by a closed society of pirates. Under an undisputed Black Beard, each hook-arm, glass-eye, and peg-leg is trying to ferry as much booty off the island as possible, to safer shores without being caught. Wives, children and high-value collectibles are included in the exodus

You read it here first: Capital controls are a near certainty; but the next one that I am watching for is implementation of exit visas. Not a misprint. The reader should consider that ordinary Russian people may soon need approval to depart the island. I anticipate a process requiring the documentation of where one will be going, whom one will be visiting, when one will be returning, and importantly, what one will be taking with him. The rationale of which will be framed against the ruse of national security. It is already difficult for Russian citizens to travel freely, to all but a handful of countries without visas. My wife for example is a law-abiding citizen and lawyer formerly employed by a subsidiary of Muenchener Rueckversicherungs - Gesellschaft AG MunichRe (MUV2 GR). She has been denied a travel visa to enter the United States by the US Department of Homeland Security, four times starting in 2012. She has yet to see America or meet family and friends, even as a tourist. But one may now understand that the difficulty in the future; maybe be obtaining permission from Russia to leave in the first instance. No reformer, some political observers have characterised Putin as a throwback to autocratic rule in the style of Iosif ‘Stalin’ Dzhugashvili. Not an anti-corruption champion, according to Transparency International, the world’s leading NGO watchdog on the subject, Putin’s Russia is tied with Nigeria for 136th most corrupt country in the world. Casual observers may be under the misimpression that weakness in Russian financial markets began with the annexation of Crimea. Contrary to what one may have read elsewhere, the disconnect between Putin’s popularity and capital markets is not a recent event. The Russian Rouble for example, has been in a 16 year bear market - nothing new. Only the trajectory of the fall has steepened. As was most recently detailed in this publication in the November 2013 and March 2014 issues, the Rouble was trading 6.11RR/$1 when I arrived in the late 90’s. Following the 1998 Russian Financial Crisis, it traded to 31.95RR/$1 by December 2002. After the 2008 Financial Crisis, it fell further still to 36.37/$1 by February 2009. The Rouble made an all-time low of 67.91/$1 last month, down 90% from 1998 levels.

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Russian currency collapse not a war discount, rather a prolongation of 16 year bear market. Rouble RUB down (90%) RED from 1998, Ukrainian Hryvnia UAH (75%) GOLD, Kazakh Tenge KZT (58%) ORANGE, Azeri Manat AZN flat PURPLE, and Georgia Lari GEL GREEN actually appreciated +14% for the period

The same is true for stock markets. This is not new information and only a calculation of magnitude. Russia is currently valued at a (65.3%) discount to Emerging Markets MSCI EM (MXEF), a (71.5%) discount to China Shanghai Composite (SHCOMP), (74.8%) discount to Brazil (IBOV), (75.6%) discount to South Africa (JSE Top 40), (75.9%) discount to Developed Markets MSCI World (MXWO), and a (77.6%) discount to India (SENSEX). But even during the 2001 to 2007 boom times for the MICEX, Russia always traded at a significant, fundamentally warranted discount to BRICS, EM peers and ROW, between 30% and 50% depending on the market During the 2000’s glory years for Russian equities, the stock market advanced in spite of, not because of the activities of Putin and his administration. It was lifted on the back of the only of four major publicly traded asset classes, that government officials and bureaucratic mismanagement could not undermine. That is the commodity class. This is because commodities are priced in USD and trade in a global market place. An ounce of gold or a barrel of Brent is worth the same in Geneva as it is in Hong Kong. The commodities super-cycle of the 2000’s drove the Russian indices, most leveraged to natural resources of any investible market in the world (but

still at a big discount). The wall of money lifted all other sectors from real-estate to consumer. Russian shares were a leveraged proxy of the underlying commodity with unfavourably high correlation coefficient. So what about bonds? No different. Moscow defaulted on its own Rouble denominated GKO debt in 1998, and the Russian bond holders were left with nothing. Credit markets in Putin’s Russia 2015 are the asset class in perhaps the most perilous position. The country has $500B-$600B in debt to roll over (refinance) in the next two years. Most of this debt is denominated in USD, some in Euros now +/- 2x a greater repayment principle in rouble terms, and at a much higher coupon rate in interest rate terms (future maturing paper to be rolled). Rating agencies are far behind the curve. Alfa Bank 7.75% 2021 price 0.71 offer, good luck finding a bid and still S&P rated BB+? Extrapolate this incongruity across the whole asset class! Capital markets are closed and sanctions are indefinite. Where is the money going to come from - the $450B in Forex reserves? No, that will be needed to defend the currency. To support the Rouble, Putin has only two legitimate levers. He can only raise rates or burn reserves. But the Russian Central Bank has already raised rates on 16 December 2014 from 10.5% to 17%. There is no dry powder and no new trixx in Felix’s bag. So what will happen when the reserves dry up? Forex reserves cannot be replenished at $57/bbl oil. Then what? … capital flight >$100B per annum, 8.9% inflation, recession, neg (4.5%) anticipated 2015 GDP, rouble wouble down 44% TTM, oil down 45% TTM … how is this math going to work? It won’t.

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Either:

a) Putin must allow the rouble to collapse or b) Putin must allow for defaults of the semi-sovereigns corporate paper (state controlled, state affiliated

companies), which then means spill-over contagion into rest of economy and banking system failure risk

c) Or both, hence my view on capital controls and exit visas d) I guess the deus ex machina option is that China, banker of last resort, bails out Russia in exchange of a

long-term supply of whatever Beijing wants most at below market prices

VVP’s Russia, the endgame as I see it; real long-term suffering and no easy way out The administration has taken a path that it will not likely retreat from. Putin has boxed himself in and difficult to envisage him backing down unless removed from office. The probability of swanning off into a warm, wobbly Yeltsin-style retirement is de minimus; lines are too deep, too much to lose and too many enemies. Internal pressures will only harden his stance. Agents of change will be repressed (at least initially). The leadership may become increasingly insular; then grandiose and perhaps paranoid. Strategists should be concerned that as economic pain increases and inevitable resistance becomes more vocal; the presidential grip will not slip. No, I would expect it to tighten.

Public perception. There is a commonality between large populations in both Russia and the West who feel that media coverage of Putin is unfairly biased. Many believe that foreign governments pressure the media to characterise the Russian president as a dictator for political purposes. Some reasonably doubt that one man “could really be as bad as all that.” The ‘Axis of Evil,’ and satanic characterisations of the Saddam Hussein by Bush and Blair, have left educated populations sceptical of bogeymen theorists. People in the west are less gullible after following Cheney, Wolfowitz, Rumsfeld, and Fox News on the ‘snipe hunt’ for the weapons of mass destruction (WMD) that killed 654,965 Iraqis and 4,491 US servicemen

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Having lived and worked in the Russia and the CIS countries from 1998, I can only agree to the extent that media coverage is inaccurate. But this is not because the Russian president is treated unfairly in the press; rather that the western media understates the reality on the ground. It does not appreciate scope and scale of the challenges facing the Russian people, in no small part exacerbated by 16 years to Putin’s first appointment as prime minister 1999. The financial crisis (part III) is not simply because the Russia flag flies over Sevastopol. I think that many honest politicians, informed emerging Europe investors, Ukraine watchers, and academics, could conclude that this reunification of historically Russian territory in many ways understandable. A strong case can be made that Moscow’s position is indeed justified. So this is not simply a Crimean discount, a reach from Donetsk to Odessa, or memories of cold nights and hot flames on Maidan Square. Rather it is the culmination of a legacy of the inexplicable and incomprehensible, a chronicle of power, avarice, and brutality. Russia and therefore the region, is now in the middle of the third and (perhaps) final act of a tragedy which has evoked equal parts joy and sorrow, with convoluted plot that featured:

The Citizens of Norway vs “Farimex” Vimplecom (VIP US) Anna Politkovskaya and 165 murdered journalists since 1991, the phantom Baikal Finance Group and Yuganskneftegaz, Mycotoxin T-2, Thallium, TCDD dioxin, and Polonium 210, Sakhalin I, II PSA’s Exxon Mobile (XOM US), Royal Dutch Shell (RDSA LN), Mitsui (8031 JP) and Mitsubishi Heavy Industries (7011 JP), Sergey Magnitsky, the Hermitage Fund and Bill Browder, Sidanco and Svyazinvest, the attempted assassination of President Viktor Yuschenko and the successful assassination of Alexander Litvinenko, Kovykta Gas Field and BP Plc (BP LN), Kirill I (Vladimir Gundyayev), the FSB, Pussy Riot, cigarette smuggling, and the £20,000 Bregue, TNK Preferreds (TNBPP RU), Transneft Preferreds (TRNFP RU) and Surgutneftegas Preferreds (SNGSP RU), Georgy Gongadze and Viktor Yanukovich, Pechatniki and Kashirskoye neighbourhood ‘explosions’, Sibneft (SIBN RU) to Gazpromneft and Roman Abramovich, Sochi Olympics and the missing $40B, the 26 secret palaces, Yukos (YUKO RU) to Rosneft (ROSN LI) and Mikhail Khodorkovsky, Nord-Ost and Beslan Total Fina Elf (TOT FP) and Northern Lights, RIP Galina Starovoitova opposition Duma Deputy, Sergei Yushenkov co-chairman of the Liberal Russia political party, Yuri Shchekochikhin member of the Kovalev Commission, Nikolai Girenko a prominent human rights defender and professor of ethnology, Paul Klebnikov editor of the Russian edition Forbes, Andrei Kozlov First Deputy Chairman of Russia’s Central Bank, Daniel McGrory, The Times of London, Stanslav Markelov human rights attorney ... and a thousand more that most have never heard of Over the years some have advised me to stick to the financials. “Don’t worry about the politics, its just business – right.” But they continue to be proven wrong. Consistent with the following opinion piece in this macro manifesto: ‘EM corporate governance mandates - total return not ideology,’ my point remains that these investment considerations are positively fundamental.

Particularly in emerging markets, such country peculiar elements are principle drivers of asset valuation. Others have taken the position that one should invest in Russia or any domicile with only a view of enterprise-specific investment in question. Forget the macro; let’s project future cash flows in a vacuum. That is the same as saying that one should make buy-sell recommendations of for

http://www.google.co.uk/url?sa=i&rct=j&q=&esrc=s&source=images&cd=&cad=rja&uact=8&ved=0CAcQjRw&url=http://old.novayagazeta.ru/data/2013/096/16.html&ei=kEuyVMKqKcHC7AaG8IGIBg&bvm=bv.83339334,d.ZGU&psig=AFQjCNGjWGu87-J6AblIxEjPkajj4AM2ew&ust=1421057285622430

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example, integrated E&P companies, in the absence of any opinion or any understanding as to

the direction of the oil price. These are high beta markets which demand a detailed knowledge of risk. A bank teller with an HP 12/c can model valuations if given the data inputs. The required requisite is the ability to correctly detail a rationale for the current basis and more importantly, to accurately forecast to what degree and under what measurable circumstance, the basis will change in the future. The country is inward looking, the mood is generally patriotic, and much of the population is highly supportive of the president. Some of my colleagues in Russia have candidly explained that while they do not relish the prospect of a military conflict with America, they are proud that Putin is preparing the country to defend itself for when that day happens. After all it was NATO who constructed the Missile Defence System (Shield) in Eastern Europe. Sensationalism you may wonder. No, there is a pervasive feeling that war in inevitable. And a significant percentage of the people would welcome this escalation. Russian military spending has grown from $20.1B in 1998 to an estimated $97.5B in 2014, representing a 10.4% YOY increase for 16 years. Russian military expenditures are third largest in the world after the US and China, but 2x larger than China, as a co-efficient of the economy (4.2% vs. 2.1% of GDP). I do not share the view that military conflict is eminent. But as the saying goes: “war is never inevitable, though the belief that it is can become one of its causes.” So where might the hottest flashpoints of potential conflict exist today?

European Union members Estonia, Latvia, and Lithuania share an eastern a border with Russia, and are flanked on the west with Kaliningrad (Russia). NATO members since in 2004, all three Baltic nations have sizable Russian minorities. More than 1,000,000 “Russians” in total that Moscow has long claimed are being persecuted. 14% of the Lithuanian capital of Vilnius, 27% of the Latvian capital of Riga, and 38% of the Estonian capital of Tallinn are ethnically Russian, with an even higher percentage of people who speak Russian as a native tongue When Putin tests the West for weakness, he may find it here in the EU. On might envisage a scenario which requires Russian intervention for peace-keeping purposes, to protect the lives, property and rights of Russians across the border. NATO is essentially a mutual security pact where neighbours have agreed to defend all the houses in the village. The NATO charter explicitly states that an attack on one is an attack on all. But where is the West’s resolve? NATO had also guaranteed Ukraine its territorial integrity in exchange for giving up its nuclear arsenal in 1998. Then NATO and the US turned tail on Kiev, at the first hint of violence in Simferopol. How about a probe at Estonia, my most likely candidate? Russia routinely violates its territorial waters and airspace with its navy, submarines and fighter aero planes. In December 2014 NATO reported it conducted approximately 70 intercepts in Baltic airspace in 2014. It further stated that Russian jets violating Estonian air space posed a threat to aviation safety. In addition having to the

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highest Russian population, there is a long history of ethnic Russian-related conflict in Tallinn. With cyber attacks between the two nations, diplomatic spats, and political threats, tension have been elevated for years. And anti-Russian discrimination in one form or another most certainly does exist. 72% of Russian-speakers polled in Estonia believed that ‘ethnic background is hindering to workplace advancement.’ But the memories are older and the history more complex. Dating back to the Great War, Russia still accuses the Baltic peoples of siding with Nazi Germany. Historians concur that the majority of Estonians did in fact, initially see the German army as a liberator from the oppression of the Soviet Union, when the country was invaded in June 1941. Estonian collaborators murdered tens of thousands of people including Estonian Russians and Soviet prisoners. Does NATO have the will to deploy forces to defend Estonia? It seems highly unlikely. Putin would then be further emboldened and majority of Russian people will respect him for it. Nationalist zeal could crest and the music group Lyube would be performing live renditions of Kombat, Davay Za and Soldat at the Crocus City Mall. Russia may then look to protect its “compatriots,” Russian diaspora and Russian-speakers residing elsewhere in the former Soviet Republics. Not limited to the Baltic’s, Crimea, Eastern and Southern Ukraine including Odessa, there are Russian-speaking populations in Moldova’s Transnistria, Georgia’s South Ossetia and Abkhazia. But far bigger prizes rest in Central Asia. The highest value target is “European Kazakhstan” west of the Ural River. The land lied east of a line from Uralsk in the north to Atyrau in the south, where the river meets the Caspian Sea. They are geographically part of the European continental landmass. Valuable territory which has historically been part of Russia, these ‘rare earths’ are precisely the chunk of soil on the North East Caspian which controls the largest hydrocarbon deposits in the basin. The giant Caspian Pipeline Consortium (CPC) pipeline which terminates in the Russian Black Sea port of Novorossiysk, is filled with Kazakh crude rom Tengiz.

Most importantly the region includes the Kashagan reserve, the world’s largest oil well discovery in 44 years. Kashagan has been designated as the primary supply of crude for the Kazakhstan-China oil pipeline and commercial production commenced in September 2013. Development of the project cost an estimated $120B, making it the most expensive energy project in the world

Of interest, China’s Xi Jinping signed a deal to buy a minority stake in Kashagan 2013. And in September 2014, Putin inked a deal with Beijing to start work on the RF-China gas pipeline, planet's largest construction project. The result of a 10 year negotiation, the pipeline will supply China with $400B of natural gas over 30 years

Better to supply the Chinese with both oil and gas? China might be happy to finance Russia’s territorial

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aspirations at the expense of the West. Beijing may help Moscow in exchange for long-term, below market deliveries of energy and raw materials. Russia may need China as its banker of last resort, after being cut off from access to global finance. A win - win all around except for the Kazakhs. But it would be a formidable challenge for a population of only 18MM trying to defend the largest landlocked country in the world, encircled by Russia and China. The commercial capital of Almaty more than 2,700 away from Kashagan might willingly ‘return’ these historically Russian lands in exchange for sovereignty. The West would not likely intervene and a tsunami of hero worship would crescendo for VVP. Putin the Great, the one who restored Russia to its rightful place in the pantheon of imperial nations... A policy of appeasement and accommodation will not likely end well. We have seen the closing credits of this film before. A close friend of mine who is a partner in an NYSE publicly traded asset management company, with $91B in AUM, called me from Los Angeles back in November 2013. He knew that I sold all Ukraine and Kazakh holdings in Q3-Q4 2007, and the last of my Russia positions in May of 2011. A value guy at heart, he asked me if it was time to get back into Russia. I asked him why and he said: “because crisis creates opportunity, and there is blood in the streets of Moscow.” I said, “There isn’t yet.”

Kim Jong-un 김정은 Supreme Leader, Democratic People’s Republic of Korea (DPRK) Supreme Commander of the Korean People's Army First Secretary of the Workers’ Party of Korea

A third generation military dictator, Kim Jong-un is the grandson of Kim Il-sung, and youngest son of Kim Jong-il. Admittedly, both the financial community and likely the reader, are bored beyond interest with the North Korean narrative; a legacy of head fakes and brinksmanship, endless loop of bravado and bluff. But his is not a boy who cried wolf story. To the contrary, from cyber attacks to nukes, Kim is the second most dangerous man on the planet. According to a December 2014 report by the US Senate Armed Services Committee, he is the biggest security threat in Asia, where 60% of US military assets will need to be redeployed by 2020. Like Abu-Bakr, the young Korean represents an evolving ‘Black Crow’ event. But unlike his fellow charismatic in Levant, Kim commands the fifth largest standing army in the world with 690,000 soldiers, 10,000,000 reserve personnel, 1,061 naval ships, 943 military aircraft, 6,600 tanks and 78 submarines (albeit antiquated, the largest fleet on planet).

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Of greater concern than its conventional armaments, North Korea is fully fledged nuclear power. Kim has an estimated 15-27 nuclear weapon equivalents in his arsenal. His rule poses particular event risk to financial markets of Japan and Korea.

Repel the American invader to save us from misery and pain (translation DPRK billboards)

The DPRK already possesses the capability of launching a ballistic missile capable of reaching Seoul or Tokyo. The Hwasong-13 has a maximum range of 5,500 kilometres, bringing Alaska within Kim’s scope. Military analysts in South Korea and elsewhere believe that Pyongyang’s arm is longer and can already reach the US Pacific Coast. According to Bloomberg September 2014, Kim’s regime is building a road-mobile, intercontinental ballistic missile that could threaten the continental United States with a range of up to 10,000 kilometres. Road mobile missile systems pose an enhanced threat to global security, because the ICBM can be fired from anywhere in the DPRK and are difficult to pre-empt. Kim Jong-un promised to ‘wipe out’ Baengnyeong Island located near the 1953 Northern Limit Line. The island was a recent point of combat where the ROK naval vessel Cheonan was torpedoed by the DPRK, on 26 March 2010 killing half the crew. Pyongyang has repeatedly threatened the United States with a "pre-emptive nuclear attack,” and Kim’s administration has detailed plans for conducting nuclear strikes on U.S. cities, including Los Angeles.

The enemy who has spilled the blood of our people. Century-long nemesis. Death to the Americans!

The United Nations published a recent 372 page report which catalogued state-sanctioned abductions, rape, enslavement, executions and Gulag-fashioned concentration camps. It specifically named Kim Jong-un and accused him of committing ‘Crimes Against Humanity.’ The chronicle detailed his ordering of mass killings, utilising starvation as a tool against opposition members, and systematic torture. “The gravity, scale and nature of these violations reveal a state that does not have any parallel in the contemporary world,” the report said. There can be little doubt about Kim’s willingness to commit acts of heinous atrocity. In a purge of party loyalists of his father’s regime, he sentenced his uncle Jang Song-Thaek (previously the second most powerful man in the country) and five of his closest advisors, to ‘quan jue” or execution by dogs. The supreme leader and 300 senior officials reportedly observed as the dissidents were thrown into a cage, where some 120 starved hounds ate the men over the course of an hour. Relatives of Song-Thaek including children in multi-families, were subsequently put to death. Kim attempted to assassinate his own half-brother, now in Singaporean exile guarded by the Chinese. The young despot has executed hundreds by firing squad including an ex lover, a pop band, journalists accused of making pornography, ex DPRK ambassadors, and proponents of reunification of Korea.

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When provoking a war of aggression, we will hit back, beginning with the U.S.

Not all stick and no carrot, like others of the New Charismatics, Kim Jong-un wildly popular at home. The supreme leader inspires the passionate adoration and hero worship of the great majority of his people. Described as both the son of a god and the ‘Sun of the Nation,’ Kim has expanded on what was already the second most powerful cult of personality in the world from 1948. Importantly and unlike any other global threat, Kim enjoys the tacit backing of the People’s Republic of China. This is not to suggest that Beijing supports Pyongyang’s nuclear ambitions. No, the ancient relationship once “as close as teeth and lips” has been stretched to the gum. It simply means that Kim Jong-un can do was he wishes without fear of attack from the West. Military intervention in North Korea would be treated as an invasion of China’s sphere of influence. Their bi-lateral defence treaty stipulates military assistance if the DPRK comes under ‘armed attack from any state.’ As such, China is a AAA-rated insurance policy and guarantor of Kim Jung-un’s personal security from external forces. He cannot be captured or assassinated like Saddam Hussein, Muammar Gaddafi, Osama bin Laden or ... Abu Bakr al-Baghdadi. But at China’s sole discretion, he might be replaced with perhaps even his Beijing-protected half brother Kim Jong Nam or his European-educated nephew Kim Han Sol. Both are

kept alive such that China has face cards to play if it decides that Kim Jung-un must be retired.

Ruthless Punishment to U.S. Imperialism

While the Kim Jung-un narrative may ring as tedious and uninspired as a lowbrow Seth Rogan movie, the reality is one which requires careful monitoring and some foresight. North Asian markets in particular, have a high correlation coefficient to Pyongyang news flow. Pig Boy - Fatty the Third, as he is disparagingly referred to by Chinese bloggers, is a ‘Black Crow’ event of potential concern. One to watch ...

Alexey Navalny Opposition Leader, Russia

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Emerging Markets corporate governance mandates, total return - not ideology When I first traced my steps through the mystical dusts of the Absheron Peninsula on the Caspian Sea, emerging market fund managers saw themselves as no more than impartial observers. Starring out across the thousands of once nodding oil-donkeys, they wondered ‘what if.’ But none found their way to the Former Soviet Union by following a moral compass or ever pretended to. In the shadows of the Ateşgah Fire Temple at Surakhani, there could be found a frontier breed of global opportunist. Pioneer investors seeking to find the highest possible risk-adjusted rate of return, wherever maximum inefficiencies in the markets presented themselves.

Baku Atashgāh گاه ش Zoroastrian temple of Hindu ,آتarchitecture. Built in the late 1600’s, it was a philosophical centre of fire worshipers who made the pilgrimage from Multan (modern day Pakistan)

They came to see the dinosaur pump jacks, now moribund in beautiful but tainted turquoise pools. They dreamt of bringing them all back to life via privatisation, like the amber DNA in a wildcatter’s Jurassic park. But Brent crude would drop to $9.64/bbl by the end 1998. Thus with a $15.00/bbl F&D lifting cost, coupled with the Russian default of GKO, it was not meant to be. Not for us, not on that day.

The Azeri economy grew an annualised rate of 14.14% for the ten year period 31 December 1998 to 31 December 2008, the fastest GDP acceleration in the world. Oil Donkeys, Absheron Peninsula, South of Sumgait 1998

The mantra of the period was laissez-faire; do not interfere with local customs. Do not involve oneself with politics, do not judge by western standards, and play no part the ethical referee. It was a free market spin on Theodore Sturgeon’s, “Prime Directive,” the guiding principle of the United Federation of Planets, ours was not to proselytise. This is not to say that blood-in-the-claw-capitalism drove out all humanity. To the contrary, good works were initiated by well intentioned asset managers including the Mingechevir Refugee Project, computers for children in public schools, the funding and formation of a battered women’s shelter. But this was a time when bullet-proof trucks drove to Caucasus Mountain fortress towns and antediluvian Silk Road capitals. Deals were cut with regional strongmen, share vouchers were exchanged for metal briefcases, and global strategic investor sharks trolled the murky waters; hunting for sub-sea mineral rights, rusting pipelines, and dilapidated electrical generation grids.

http://en.wikipedia.org/wiki/Zoroastrian

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Mingechevir Refugee Project 1998 Coordinates: 40.7700° N, 47.0489° E A 7-story unfinished building housing 68 families out of a total 23,000 refugees in the surrounding area

Just exiting the 1997 Asian Financial Crisis, I had spent the prior three plus years at Templeton Investment Counsel, the hallowed tabernacle of emerging markets fund management. But moving to the ancient lands of the Zoroastrian fire worshippers marked the first time that I would be living and working in the developing world. This began a 16 year odyssey which would take me from Baku to Bishkek, Belize to Belgrade, Bohol to the Bahamas, Beijing to Byelorussia and beyond. All along the journey, the view was that activist investors may find themselves embroiled in conflict which would ultimately hurt fund investor returns (Bill Browder - exhibit A.) This is because in part, activist investors in the developed markets are willing to square off against essentially corrupt ‘companies,’ and importantly, they have support of the State and the Law behind them. Activist investors in the emerging markets however, must be willing to lock horns with corrupt ‘governments’ and as such, they often have the force of the State and ‘the law’ against them. The question was also one of core competency. What did one strive to be good at? Did one want to spend time sourcing an antiquated cement factory, from an autonomous oblast at $20/tonne of output capacity? Replace inept management, close inefficient operations, refurbish malfunctioning kilns, and surgically invest some much needed capex in PP&E? And then derive a fair private-market valuation of $200/tonne output capacity, 10x return for investors, from a multinational like

Lafarge (LG FP), Heidelberg (HEI GR), or Holcim (HOLN VX)? Did one want to focus on the business at hand, or were precious resources better spent examining the fairness of local elections and trying to figure out who was bribing who at the parliamentary level (Majlis, Duma, or Rada)?

Qaradağ Cement, south of Baku on the Caspian Sea, privatised by Holcim (HOLN VX) in 1999

Being an investor activist never made any money in China, at least not on the long side - credit to Muddy Waters LLC’s analysis of Sino-Forest (TRE CN). George Soros called his Svyazinvest acquisition, ‘the worst business investment of my life,’ and even Dr J Mark Mobius eventually surrendered his board position at Lukoil in restrained frustration. Shareholders activists have been arrested in India: Peabody Energy (BTU US), Union Carbide (UK US) acquired, Coca Cola Co (KO US), others. And being an activist investor destroyed Hermitage, the one-time largest fund manager in Russia. It is understandable that emerging market managers in the main, have historically prioritised the importance of performance, not principles. Indeed ‘the’ principle of the era was performance. But somewhere around Q3 of 2007, I decided that there might be a ‘third path,’ another way to look at this question of investment methodology. Of critical understanding was the delineation between investor activism on principle, and principled investing for ‘total return, not ideology’. From a business perspective, it remains an inefficient use of time and resources, to try to ‘change the world’ as a minority investor in emerging markets. But it

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became equally clear that enterprise-specific line item allocations should be weighted by corporate governance considerations, like any other fundamental valuation.

We were witness to failed privatisation in the CIS countries, and felt the ‘power’ in what it means to be the Chinese local partner. My experiences included a dilutive rights bank offering, a preferred-to-common share conversion ratio failure, two corporate bond defaults, and three minority shareholder squeeze outs. We were met with counter-party failures (Refco and MF Global), accounting irregularities, untraceable missing cash flows siphoned off as capital expenditures, lost revenue from transfer pricing and worse

We even participated in the ill-fated attempt to gain a seat on the (TSE) Tehran Stock Exchange when then reformist President Mohammad Khatami promised to integrate Iranian capital markets with ROW and allow for the free repatriation of foreign currency from rials into dollars. So early on during the formation of the 2007 ‘Credit Crunch,’ it became apparent that a detailed understanding of corporate governance risk, and the ability to quantify its impact on performance, was central of EM fund management. The third path was never meant to include the lobbying of management, politicking with other investor groups, showing up at the annual meeting, or necessarily even proxy voting. Rather it is a statistical ranking and knowledge-based understanding of the investment landscape; the complexity of specific geographies, industry sectors, and line items. The purpose of which is to measure the effect of corporate governance on mean anticipated future returns. Then to employ this process to influence buy-sell decisions, the purpose of which is ultimately to achieve a positive impact on performance. Impact on the bottom line, what of practical application?

A ten year (1998 to 2008) EM corporate governance study was conducted by the International Finance Corp (IFC), a department of the World Bank. The report was published in cooperation with the Organisation for Economic Cooperation and Development (OECD), on 1,073 listed companies in Latin America. An equal weighted portfolio of all constituents in the population sample produced a positive return of 12.8% p.a. for the decade. An equal weighted portfolio of the top 12 companies ranked by the OECD’s internal corporate governance scale, produced a return of 29.8% for the holding period, greater than 2x the performance for 10 years. Both holding period and population sample size are statistically significant.

Latin America Companies Circle, a group of 12 Latin American firms recognised for their corporate governance leadership in the region – with the support of IFC, Organisation for Economic Cooperation and Development and the IFC Global

Corporate Governance Forum. The companies: Interconexion Electrica Columbia (ISA CB),), Argos SA (ARGOS CB), CCR SA (CCR03 BZ), CPFL Energia SA (CPFE3 BZ), Embraer (EMBR3 BZ), Marcopolo (POMO4 BZ), Natura Cosmeticos (NATU3 BZ), Net Servicios de Comunicacao (NETC4 BZ), Ferreyros (FERREYCI PE), Suzano Papel e Celulose (SUZB5 BZ), Desarraolladora Homex SAB (HOMEX MM), and Ultrapar (UGPA3 BZ)

Similar studies in different geographies and different time periods have produced similar results, with positive share price performance linked to higher corporate governance standards. Notably: ‘East Asian Financial Crisis of the 1990s’ Report by Baek, Kang and Park (2004). Back to the present and specific to LATAM, December: Petrobras $5.25B of 2025 bonds trading down to 0.88 cents to the dollar. Graft discount as S&P lowered Brazil’s largest company’s credit rating to BB. Downgrade on the heels of 18 businessmen being arrested last month, 30 total indictments and rising, members of a cartel used $3.7B in a secret slush fund to fix public contract awards worth $22B. Looks like the world’s largest corruption scandal ever. Minority shareholders

http://www.google.co.uk/url?sa=i&rct=j&q=&esrc=s&source=images&cd=&cad=rja&uact=8&ved=0CAcQjRw&url=http://www.kpmg.com/uk/en/issuesandinsights/articlespublications/pages/mfglobaluk.aspx&ei=LZqzVIaXMYTN7Qa3sIH4CA&bvm=bv.83339334,d.ZGU&psig=AFQjCNHTjgWczpGGXMPdUW9CcDjVRYksdg&ust=1421142944691018

http://www.google.co.uk/url?sa=i&rct=j&q=&esrc=s&source=images&cd=&cad=rja&uact=8&ved=0CAcQjRw&url=http://www.easylogo.cn/logosearch/Refco/&ei=A5qzVNmkIYLj7QaBhIHwAw&bvm=bv.83339334,d.ZGU&psig=AFQjCNF3VP4-cuseD-RDV2uG3pt4o1UhhA&ust=1421142908369766

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have filed suit and president Dilma Rousseff may be called as a witness. Skeletons of World Cup Soccer graft not yet unburied. 2016 Summer Olympics in

Rio might not catch 2014 Winter Olympics in Sochi for theft of public funds, but more will yet be revealed.

The Emerging Market Corporate Governance mandate supports a) board of directors committed to stock price appreciation via share buyback, b) firms where management is compensated by stock options and not above-market salaries plus hidden compensation; and c) companies that are managed for market capitalisation and not run as cash cows. The mandate includes the targeting of firms with d) greater distribution of free cash flow in the form of dividends, e) larger free floats, and f) broad participation from minority board members with actual representative voting power. The emerging market corporate governance mandate will not include holdings with ‘bridge to nowhere’ CAPEX programmes that are little more than cash extraction accounting schemes which steal from shareholders. It would not invest in companies with transfer pricing mechanisms - value destructive thievery which is harmful to investors and in many cases, the citizens of a country who are often the legal owners of the resource. Importantly, high corporate governance equals lower cost of capital, improved efficiencies, higher multiples and an unbiased distribution effect of the ‘benefits of ownership’

The emerging markets corporate governance mandate does not tell management what to do or effort to influence government activities. It remains focused on core competencies of investment management and makes no attempt to influence people, places and things beyond its limited sphere of control. It is a detailed analysis of corporate governance and a mathematical ranking of its risk which ultimately results in a vote with the wallet. It is the silent ‘support’ of government and management with investment capital rather than policy demands. One should expect to see the growth of emerging market corporate governance investment mandates, for ‘total return’ – not ideology. I believe that they will be met with institutional and retail demand, because investors will always seek risk-adjusted improvement in fund performance.

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The Dollar Bully World Captain America still feeling Marvel-lous

From initial August 2010 macro call, unwavering throughout the period, and most recently detailed again in the April 2014 issue of this publication: Captain America – the outlook remains Marvel-lous. Global Fx is pouring in USD denominated assets and we are living in a rising dollar world. The Bank of Japan (BOJ) continues to weaken the ¥ Yen, down (35%) in the trailing three years. The European Central Bank (ECB) will initiate to quantitative easing to further devalue the € Euro, already trading lowest level since 2006 to the dollar at the time of this writing. Other central banks around the world Korea, Chinese, Swedes, Suisse, are also weakening their currency. Some to make exports more competitive, protect domestic manufacturing from low cost imports; other currencies are falling related to fundamental weakness, structural imbalance, market dynamics, war, tumbling Brent, or hocus pocus: Norwegian Krone NOK (19.6%) 2Y, Brazilian Real BRL (29.5%) 2Y, Russian Rouble RUB (41.9%) 2Y, Hryvnia (UAH) (49.14%) 2Y, or Bitcoin XBT (56.98%) TTM. The rising greenback itself is not the good news. Rather it is the product of the good news. And the dollar will continue to appreciate. Why? America is once again the “engine of consumption,” and key driver of global growth. I think the economy

expands at a developed market best 3.6% rate in 2015, representing the largest annual gain since a 3.8% move in 2004. The most recent quarterly report on 23 December produced a 5% GDP Q3 2014 result, the highest QoQ advance since a 6.9% number back in Q3 2003. Pushed down under the weight of 57 consecutive months of positive job creation, US Jobless claims are at the lowest level since 2000; 10.9 million private sector jobs were created in five years from post-crisis lows. Unemployment has fallen in near straight-line trajectory over that time, from 10% in 2009 to 5.8% at yearend 2014.

AN EMBARRASSMENT OF RICHES: 2013 2014 trailing 2Y S&P buybacks (SPBUYUP) BLUE +70%, S&P 500 (SPX) GREEN +46%, Consumer Confidence (CONSSENT) WHITE +22%, ISM Purchasing Managers (SPEDACTL) PURPLE +16%, S&P EPS (SPEDACTL) PINK +16%, Barclays Global FX ex US benchmark (BXIIXUSD) GOLD negative (7%), CBOE Volatility (VIX) GREY negative (12%), US Initial Jobless Claims (INJCJC) RED negative (19%)

The S&P 500 closed the year at an all-time high of 2,080, record corporate profits, up an astounding +207% from the post-crisis 2009 lows of 626. Impossibly, the “Age of Unbelieving” for American investors enters its seventh year. In contrast, MSCI All Country World (MXWD) a broad measure of global equity markets, finished the year at 419.52, slightly beneath to 427.67 pre-crisis high of 31 October 2007, more than seven years ago. For the same holding period and with worse result, MSCI Emerging Markets (MXEF) are still trading (28.3%) below the pre-crisis highs.

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Since the October 2007 pre-crisis high, global equity indices MSCU World (MXWD) WHITE closed the year 2014 essentially flat, seven plus years where the long side of the stock market generated a fractionally negative return less fees, and global emerging markets MSCI EM (MXEF) GOLD were much worse, losing (28%). For the period, the S&P 500 GREEN gained +36% and the US NASDAQ PURPLE advanced +94%

33 years of the “Great Rate Rally” have seen the yield on the 10 year bond fall from 15.83% in 1981 to 2.18% at yearend 2014. It has been a long run and ‘Goldilocks’ is nearing adolescence, but the investment climate is still neither too hot nor too cold. A stable but provisionally growing GDP number, one greater than inflation, at or slightly higher than the long-term run rate, is the sweet spot for equity price appreciation. US mean economic expansion from 1970 to present was 2.8%. In a 1.7% CPI world, the 3% estimated growth rate for 2015 is ideal. The Fed remains on hold. Yellen will not likely act before October 2015 and even then, FOMC actions will be measured, slow, and well-telegraphed. Trailing two year, trade-weighted US dollar appreciation will take pressure off the central bank and allow it to employ plodding, restrained steps; the first hike being triggered by Personal Consumption Expenditure (PCE), not the employment headline. The most important engine of the ‘wealth effect’ remains the housing market, which in turn is the driver of consumer confidence. Case-Shiller Home

Price Composite Index (SPCS20) was up an impressive +4.7% CY 2014, after climbing a white hot +10.8% in 2013. Home prices will continue to advance in 2015, but at a slower annualised rate of between 3.8% and 4.5%. The moderating of the trajectory is the result of higher mortgage costs. Borrowing rates will rise in the aftermath of an exit from quantitative easing with no further Fed stimulus. I anticipate 5% on 30 year fixed mortgage (optimal), representing a 100 bps hike.

Wealth effect created by rising stock markets, falling oil prices Brent crude (CO1) RED down (48%) and appreciating home values (SPCS20) GREEN up 19% in trailing 2Y CY 2013 and 2014

Crude oil (Brent C01) has fallen (48%) in the trailing twelve months, giving the US consumer an unanticipated $75B in ‘walk around money’ which will be injected directly back into the M2 money supply. This will both raise GDP estimates (which until last month had been coming down), and postpone any inflationary effects of job creation. With apologies to hydrofrackers, tar sanders, and the shale oilers (almost) everybody wins. Falling unemployment, improving visibility and cheap gasoline, have buoyed the consumer. Indeed the 5% Q3 GDP figure was largely attributed to retail spending. Consumer confidence +59% higher than trough lows and after five years of household balance sheet deleveraging, the consumer is spending. Not too hot (1998-2000 pre-Dot.com) or (2006-2008 pre-Financial Crisis). Not too cold (2009-2012 Great Recession).

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While imperfect as all other gauges, LEI << derived of average workweek, jobless claims, consumer goods orders, pace of deliveries, orders of non-defence capital goods, building permits, stock prices, M2 money supply, interest rate spread, and consumer expectations >> is perhaps the best predictor of future US economic activity (chart above). Conference Board of 10 Leading Economic Indicators indicated broad-based demand. as has been the case throughout the “Age of Unbelieving”

Bernanke will be remembered as the Fed governor who employed unconventional monetary policy to steer to shore up the economy, protect preferred financial institutions and selective stake holders. He transferred balance sheet risk from risk taker and financial institutions, to the general population. Yellen will shape her legacy by how well she is able to wean the economy and market participants off of unconventional monetary policy, and migrate the once shaken financial system back to conventional policy. She needs to safely exit from QE, zero policy rates, credit easing, and selective acts of preferential intervention. She is in a very good position to do so and the real economy justifies a slow exit. I would expect that real-rates go from near zero to 2% by the end of 2016. It is a great party but the roof is not on fire. The consumer is no longer sleeping but still restrained. Non-residential private investment <4% lower than pre-crisis even as total employment reached the pre-crisis high this spring 2014. Real wages continue to trail the economy. Home prices would need a further 19.5% rise to reach the 2006 housing peak. The strong dollar will serve a natural wind drag on future US GDP%.

USD investors must seek out financial assets, not real assets. Liquidity has not gone into the real economy; rather it has gone into asset reflation. We are not there yet but left unchecked, asset reflation might ultimately lead to bubble risk, so the Fed will act. But they are under no pressure to act abruptly, especially in light EM pressures related to a rising dollar and pockets of disinflation in Europe.

Admittedly, any ‘Buy America’ proclamation in January of 2015 is about as brave a consensus call as the zebra hiding in the dense centre of a thousand strong herd. But that was positively not the case when I published my position as a long whistler in the dark, in the August 2010 monthly macro and strategy report. Bearing in mind that the US stocks had been losing Taco Bell Grande’ for a decade to that print, down greater than >(30%) 1,517 to 1,048 for the previous 10 years to August 2000 – August 2010, my views were met with polite scepticism. Be that as it may, this paper is not prone to swap stripes for spots in the absence of a deterioration of the fundamental investment case. No change in view

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Where is the floor? Marginal supply and the economics of unconventional oil production Brent crude was down 45% TTM at the time of this writing. People have asked me, where are we going from here? What is the floor for the oil price? Having just lost a three year bet to James Fenkner of Red Star Capital, former head of research Troika Dialog, that Brent C01 would not drop below $68.60/bbl, I may not be the best one to respond. But for what it is worth, I maintain that the oil price floor is equal to the F&D lifting cost of marginal supply from unconventional production. “New” oil is expensive, meaning that it costs more $ per/bbl for US shale and Canadian tar sands or ultra-deep water or arctic, than it does to stick a straw in the desert around the Gulf. This is an over simplification of course, but my perception is that OPEC has an offensive strategy. The cartel is no longer able to maintain a price point by withholding production and regulating supply. OPEC is attempting to destroy the economics of unconventional production.

There will be blood?

Saudi is trying to drive out the marginal supply and may be able to capitalise on an over-leveraged sub-sector as project finance dissipates. Kuwait and Oman can still make money at $70/bbl. Unconventional producers cannot. Oil closed the year at $57.90/bbl last trade.

Finding and developing costs from shale oil are sometimes cost competitive, but the industry average is around $65/bbl. F&D lifting costs for tar sands oil (Alberta above) are less economical and can run as high as $100/bbl. A long run oil price lower than $65-$70/bbl means significantly leveraged E&P companies go bust, new structures are not drilled, unprofitable wells taken offline, project financing for the space will die, investors will run, marginal supply exits the market and Saudi wins. Or at least that is the plan. OPEC cannot support the price of oil, but it can drive out the inefficient unconventional competition

Oil price drops however, have shocked global markets and even the net importer countries have seen asset price depreciation in equity markets as a result. These are short-lived aberrations which will be replaced with the acceptance than the oil price dividend improves manufacturing efficiencies, lowers costs of production, raises discretionary spending and increases domestic consumption.

Household consumers have seen their real incomes rise, perhaps permanently, and they will allocate part of this gain to higher real expenditure on goods and services. Oil producers on the other hand, are governments and corporations. It will take them much longer to reduce their expenditures in line with their lower revenues. Virtually no economic forecasters had anticipated the powerful decline in oil prices, so consensus economic forecasts for inflation and real GDP growth are being revised for the good.

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Unanticipated cash injection, cheap gasoline and winter heating bills instantly redeploy fresh capital into the M2. Lower energy costs are beneficial to industrials like chemicals, transportation, logistics and construction; consumer goods like automotive, personal and household and consumer services like travel and leisure, retail ... toys to food production

Even better, there are several credible reasons to imagine that this trend is long-lived. Libya is back. Estimates were for 150,000/bbl day post reconstruction are now at 810,000/bbl day, and may reach 1,200,000/bbl this year. Mexico rises with the post-PEMEX investment of $50B significantly boosting the country’s upstream production profile. The US is allowing seismic analysis of the outer continental shelf for the first time (bad news for humans). Technology is improving, lowering the cost of unconventional energy recovery. Asia is cutting fuel subsidies which restrains demand, creates rational allocation of resources and lowers price. India example with diesel demand rose 7% per annum last decade, remove the subsidy and demand stabilises. The world (especially Europe and Japan) are becoming highly fuel efficient, reducing demand, keeping prices low. ROW will follow. Analysts don’t always see things for what they really are as the result of fear and scepticism. Wasn’t it only yesterday when the investment community lamented that China was going too quickly and the US was growing too slowly? Economists warned that the oil price was too high and the dollar was too low? Abracadabra – presto, here we are today awash with good news but still plumbing in the darkness, seeking to validate gloomy predictions

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“What’ll it be?” Call drinks for the New Year

Asset Allocation the Big Four Equities Investment climate for equities is largely benign. Stocks represent the least expensive asset class with the greatest potential risk-adjusted total return. After a nearly six year generational stock market advance, described in this publication as “The Age of Unbelieving,” how can one substantiate such a bullish position? Because the arbitrary measure of an index has no relationship with value or relative worth. All raw calculations of key metrics used to determine fair value including a) enterprise value to EBITDA, b) enterprise value to revenues, c) price to free cash flow, d) price to assets, e) price to earnings, f) growth rates and others must be: • Adjusted for inflation • Adjusted for nominal long bond yields • Adjusted for real interest rates (risk-free

rate – CPI) Relative value of equities must be understood: • In the context of risk • In the context of alternative investment

mean anticipated returns, and • In the context of ‘earnings yield’ There are many valuation measures which I employ in equity analysis and an understanding of the risk premium in equity markets is central. The equity risk premium is a simple calculation of the spread between the asset return and the ‘risk-free rate’ (yield on highest quality government bonds). The higher the spread - the higher the risk. Importantly, we must have an understanding of ‘real-rates’ which is the simple calculation of the risk-free rate minus CPI. Fair value of equity markets cannot be determined unadjusted the inflation, nominal bond yields … “real-rates”

Bulls and Bears

We must also be able to quantify equity risk as the spread between risk-free rate and the ‘earnings yield’ of an index. The earnings yield is a simple calculation of the inverse P/E ratio. Thus an index trading at 20.96x 2014 earnings and 15.03x 2015 estimated price to earnings (Jakarta Indonesian Composite JCI 30 December 14), has an earnings yield of 4.77% (100/20.96) and a futures earnings yield of 6.65% (100/15.03). Why does it matter? Because while a 4.77% earnings yield may be unattractive in an 8.00% 10Y world, it might be very attractive in a 2.00% 10Y world. In the current environment, higher absolute valuation metrics such as P/E ratios are not unjustified. In actual fact, most valuations are reasonably priced even on an absolute basis. When adjusted for CPI, low nominal long bond yields (risk free rate), and real interest rates, stocks are attractive. When adjusted for growth and in the context of risk, alternative investment returns, and earnings yield, stocks represent value. And when compared to bonds as an asset class, stocks are especially cheap. Currencies

Kč € Rp ¥ Дин $ لایر ₹ £ A rising dollar world dictates that the Fx trade is linear, i.e. one trade – Simple Simon Met a Pie Man. The prudent path is for fund managers to aggregate risk exposure in global currencies every three months and sell short vs. long USD positions in X-rate trades using 90 day non-deliverable forwards (NDF’s) and simply roll them forward, i.e. short JPYUSD, EURUSD, RUBUSD, BRLUSD, CHFUSD, NOKUSD, etc. I might be less concerned about high

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growth, high export, Asia like Thai Baht (THB), Philippine Peso (PHP), and Indian Rupee (INR). Depending on friction costs and changes in the fundamentals, one might wish to maintain these exposures. Commodities

A rising dollar world is overwhelmingly negative for commodities. Fund managers should be net short and only consider long exposure when able to isolate quantifiable supply-demand imbalances driven by industry fundamentals. Do not be tempted to chase coffee or palladium, even understanding the aforementioned supply-demand imbalance. Too late, find the next trade, or better, focus one’s research and analysis on the short side until dollar reverses.

Credit markets - Bonds

Five years of indisputably positive fundamental data, job creation, asset price appreciation, and economic growth; have combined to prove what was known all along and well chronicled is this publication, that there was never any such thing as the “new normal.” Indeed unemployment is now

trending below its long run average of 6.5% 1980 to present (one standard deviation 8.1% H and 4.8% L). As such I maintain that there is significant risk in the bond market; and money to be made on the short side of the long end of the yield curve. Consistently, the principle headwind to further equity advances remains the eminent reversal of monetary policy. But UST 10 troughed at 16% in 1981 and then ensued the 33 year Great Rate Rally which peaked at 1.38 in July 2012 and now trades 2.18%. € Euro world deflation fears, dovish Yellen and test the waters will allow the Fed will not act until Oct 2015, at the earliest and then in only symbolic measures. Perhaps 2% in real rates by yearend 2016, but markets are forward looking likely will not wait. The US and UK are closest to the exit.

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Geographic Dispersion

Regional Priorities

(SPX) - S&P 500 - America I estimate that the US economy expands at a developed market best 3.6% rate in 2015. Global investment Fx piling on bully dollar world bandwagon, low rates, cheap gasoline, nearing full employment, pre-crisis output and nearing full capacity utilisation. Wealth effect from rising home prices and investments raising confidence, strong consumer, additional benefit from oil price dividend. Fed will not spook financial markets. Strong dollar, low oil and benign inflation will allow for well-telegraphed baby steps which analysts will spin as testament to economic strength rather than anchor of future expansion. Captain America is still feeling Marvel-lous

(NDX) - NASDAQ - America All above plus innovation premium and we do not want to miss the ‘mania’ just around the corner

(SENSEX) - Bombay SX - India Narendra Modi, structural reform, consensus beating 6.6% GDP, infrastructure/construction spend, a rising bond market, moderating CPI, resilient Rupee, cusp of middle class purchasing boom, low penetration of consumer goods, urbanisation and industrialisation story only beginning

(SET) - Stock Exchange Thailand Adjusted for growth and a favourable macro, the SET remains of the least expensive investible emerging markets - with of the best enterprise

specific investment possibilities. 4.6% ’15 GDP, 12x forward earnings, 3.31% yield. Currency resilient. Rapid commercial development and infrastructure build. +/- 2/3 of economy export-driven, agriculture, automotive, electrical, consumer, meaning costs, SG&A in THB, revenues in strong dollar. Dependent of energy imports, cheap oil a boon. Healthy middle class with rising real wages, large, strong, growing consumer

(PCOMP) - Philippine Stock Exchange 18x forward earnings and 2% yield, the PCOMP is 50% more expensive than the SET by some conventional matrixes and trades at a steep premium to MSCI EM (MXEF). But adjusted for forward 8% GDP, 14.3% 3Y estimated corporate EPS growth and the following fundamental considerations; Philippine market is attractive vs. global comps on the valuation side and interesting in terms of higher potential return. 10Y bond yields all the way down to 3.04% from 10% in 2005. Exports large co-efficient of economy semiconductors, electronic products, transport equipment, apparel, copper, agriculture, coconut oil, and fruits - meaning costs, SG&A in PHP, revenues in strong dollar. Currency resilient. Similar in positive ways certain of my other favoured Asian domiciles, rapid commercial development and infrastructure build. Dependent of energy imports, cheap oil a boon. Healthy middle class with rising real wages, large, strong, growing consumer.

(NZSE50FG) - Gross 50 - New Zealand A low beta 4.6% yield play and of the least imposing risk profiles in the investible universe. Unlike rival Australia with high correlation co-efficient to Chinese industrial demand, New Zealand’s economy is surprisingly driven by financial services. The country is still a relative ‘safe haven’ in financial markets characterised by moderate valuations, high dividends, low interest rates, firm property values, and a stable currency (Forbes Op Ed does not agree). It is true that property values have been pushed up by Chinese investors. So what? There are many more Chinese investors behind them and John Key’s centre-right,

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pro business ‘National Party’ remains supportive of asset price appreciation. At this juncture in the investment cycle, especially in equity markets, I would prefer to focus on the capital appreciation element in ‘total return’ rather than dividends. But for yield purposes NZ is the priority market.

(SHCOMP) - Shanghai Composite China This inverse of the Wellington trade, Chinese shares represent a heightened risk-reward gambit. My best guess is that a correction is expected. But the Chinese market moves higher because Xi Jinping wants it to move higher and has the means to positively affect asset prices. The market has in fact “matured” as local retail investors are quick to point out. Even after the powerful run of the TTM, A’ shares trade at 12.7x this year’s earnings and the index would require a further 92% advance to summit the pre-crisis October 2007 highs. Oversight has increased, corporate governance is perhaps (not getting worse), and the state is shepherding the citizenry back into the stock market. I am not as concerned about the recent market rally +49% CY 2014 as I am about Chinese SUFFR (Systemic Unquantified Financial Failure Risk), WMP’s and the identifiable credit bubble. But my experience living and working in China has taught me that edicts from the Great Hall of the People are executed. The state does a positively brilliant job of telegraphing its intentions. There is neither the will nor incentive the put on the frog suit and swim the riverbed looking for bodies in 2015. It is all about ‘China Dream.’ I maintain that rising domestic consumption will not be enough to offset declining government spend on fixed investment, real-estate and public works. Chinese PMI at 50.1 is only a rat tail away from contraction. Chinese retail sales rose ‘only” 11.2% YoY in Q3 2014, down from 22.1% in 2010. GDP of 7.3% is down from 11.9% for the same period. And these barometers will continue to moderate lower, but that is not the important point here. My sense is that there is still more real money to be made here in the long-side, because that is what

the State Council wants. 10T RMB (CNY) or $1.5 T USD in 300-400 infrastructure projects to be completed over the next two years is evidence enough. Fund managers may wish to shorten time horizons of holding periods and get take seats in the exit row.

(JCI) - Jakarta Composite - Indonesia Credible leadership in Joko Widodo and structural reforms are attracting significant foreign investment. Corporates have deleveraged 66% since 1997 Asian Financial Crisis as profits have boomed. 15x forward earnings and 2% yield, Indonesia is less expensive than the Philippines with similar 3Y estimated corporate EPS growth of 14.1%. 5.5% GDP expectations, 8.3% industrial production, higher than Thailand. Currency resilient. As above, rapid commercial development and infrastructure build. Healthy middle class with rising real wages, large, strong, growing consumer.

(EGX) - Egyptian Exchange - Egypt The old Cairo and Alexandria Exchange (CASE) trades 11x this year’s earnings with 19% 2Y corporate EPS growth to 2017. ‘The’ reason to take a closer look at Egypt is because you want exposure to the largest MENA consumer population (88MM), and of the most liquid MENA stock market’s ($450B capitalisation), with the least exposure to falling oil prices. Turkey (XU100) Istanbul Borsa has its own issues (8.5% inflation, falling Fx, large USD denominated debt to be repaid in weak Lira, Recep Tayyip leadership (recipe for another regional Muslim dictator), bad neighbourhood, Greece, unfairly correlated to Russia <<although new 1,150 room presidential palace in Ankara would fit well in the Black Sea’s northern coast>>, but it is cheap 10x when adjusted for decent corporate earnings growth and 3.5% GDP. Significantly larger public market and better liquidity make this a MENA substitution if Egypt is too esoteric and far afield (neutral).

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Neutral

(NKY) - Nikkei 225 - Japan Godzilla-weight quantitative easing, Mothra-magnitude money printing and associated ¥ Yen depreciation, bold challenging leadership in Prime Minister Shinzo Abe, improving manufacturing efficiencies, and 2Y estimated corporate EPS growth of 13% ... are offset by fourth economic recession since 2008, high valuations @ 21x current P/E with 1.45% yield, a 25 year Rodan-sized bear market, unfavourable demographics, a Megalon-scaled public debt, and the unambiguous conclusion, that at the time of this writing, Abenomics have not yet achieved a desired result. The easy Nikkei money from the initial thrust of Abenomics has been made for market participants. Now it is game time <<results or failure>>, perhaps even a future credit crisis. We wish Abe well but plan to watch the melee on the pitch from the luxury box. I expect Japan to post positive GDP expansion in 2015 of perhaps 1% and hope for the best.

(MEXBOL) - Mexican IPC Index Unlike LATAM rival Brazil, which is a leveraged play on China commodity demand, Mexico is a leveraged play on strong US consumer. Nieto‘ Mano e mano’ with El Jefe, structural reform and foreign competition is driving powerful foreign FDI. The death of PEMEX, opening of the telecoms, rising consumer spending, competitive manufacturing operational wage and energy cost advantages, will combine to lift GDP. The market has been a global laggard, flat for CY 2014, but still not a value vs. EM and ROW @ 23x current EPS, 18x future and small distribution of free cash flow in dividends yield 1.43%.

(UKX) - FTSE 100 - United Kingdom 4.67% yield 2x greater than the bond market. GDP expected to slow from 3% 2014 to 2.6% in 2015,

still of the strongest in the developed world. Sterling is a stable currency and will appreciate further against € Euro, ¥ Yen, especially as BOE moves closer to rates. Corporate earnings growth is muted but better than inflation. If you need a European allocation, this is it.

(HSI) - Hang Seng Index - Hong Kong Hong Kong-Shanghai link allows foreign investors to bypass the Hang Seng and invest 13B RMB (CNY) Yuan directly in Shanghai. Trading 10.68x 2015 earnings and 9.71x 2016 earnings, the market is valued a discount to China and MSCI All Country (MXWD) 15.11x and 13.49x. This is in part due to low 1.8% 2Y estimated corporate EPS growth and moderate 2.4% GDP vs. 7.3% on the mainland. China unleaded exposure, Hong Kong is the foster child wearing hand-me-downs and eating leftovers after the mainland children have been served. The Hang Seng will likely continue to underperform, because Beijing wants it that way.

(JALSH) - JSE All Africa - South Africa Resource heavy industry sector mix, especially metals and mining remain less attractive in current environment. Gold miners in particular represent a drag on market performance. With anticipated October 2015 Fed action, the market is expecting higher rates. Rising interest rates depress the value of non-yielding assets like gold. And the rising US dollar makes it harder for international investors to buy gold as it is more expensive in local currency. The Johannesburg Stock Exchange represents decent yield at 3.47% but 15x forward EPS does not represent value against a backdrop of moderate profit growth and weak commodity prices. Clearly this is just part of the story and there are attractive opportunities in the personal, media, household and retail consumer markets, thus neutral.

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(KOSPI) - Korea Stock Exchange The Kospi has done nothing for four years. The market has enterprise-specific concerns about index heavy weights in automotive (Hyundai) and electronics (Samsung). The world is does not need any more ship builders plus the demise of Daewoo, Chaebol-Reform, poor corporate governance, and Fat Boy 3 just over the border; the mood remains subdued. But with DM efficiencies and highest exposure to EM markets, there is always hope. Undemanding 10.53x ’15 earnings multiple, decent growth 3.5% GDP; as a manufacturing power, Korea should benefit from falling oil and commodity prices. I promote Korea up to ‘Neutral status from ‘Least promising. The difficult part will be trying to isolate compelling fundamental line items. What do you want to buy? MENA markets

Dubai (DFMGI)

Saudi Tadawul (SASEIDX)

Qatar (D SM) Significant market positives offset by the oil price collapse. Better Turkey or Egypt (above) net energy importers with large consumer populations in MENA space.

Least promising

(IBOV) - IBOVESPA Index - Brazil High-risk resource bet dependent on rising commodity burn-rate in China from ever increasing urbanisation and industrialisation. Not happening. Dilma Rousseff + 0.85% GDP + inflation 6.3% +

negative (3.6%) IP + currency crash, all blended together make for a noisome slurry. Inept leadership re-elected and corruption from the blue’est of blue chip Petrobras all the way down.

(SPTSX) - S&P / Toronto - Canada A less dynamic market than the one in New York; overly dependent on financials and oil/natural resources. America-lite exposure, the economy expanding 2.5% but that number might come down with commodity-related revisions. Unconventional oil, tar sands, and unprofitable shale drilling at risk. Project finance for energy space will shrink. Metals unattractive in Bully Dollar world. Currency (CAD) in retreat, foreign investment flows will dry up as lagging index managers pull money from mining and energy names. Historically a yield seeking market but 2.9% is unremarkable vs global comps. Not cheap at 19x 2014 estimates.

(AS51) - S&P/ASX 200 - Australia Similar to Canadian rationale above, a good market but leveraged to Chinese commodity demand and pricing of commodity and energy exports. Declining Aussie Dollar and slow corporate growth rates do not make an 18x current multiple attractive.

(SX5E) - Euro Stoxx Europe - Europe Outside of Germany, Europe remains the least attractive investment destination in the developed markets. This is a well chronicled market perception which for purposes of brevity, will not be restated here. But a short critique of systemic limitations rather than one of mild personalities, Europe is void of dynamic, effectual leadership required to bring about powerful change. The antithesis of the New Charismatics analysis at the beginning of this macro manifesto, no European leader makes the list. Euro-zone triple dip recession fears remain, but I do not believe the situation is nearly as dire as what is being flashed daily on my Bloomberg screen. To

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capsulate: a) There is no threat of global deflation – none, b) The European Central Bank would like to replicate Japanese Abenomics in one form or another, c) the Christian Democrats in Berlin are finally coming around, d) I expect that the ECB will initiate quantitative easing with an announcement on the 22nd of this month, and e) the falling € Euro is very positive for the reflation trade, German manufacturers and Euro exporters, increasing the already massive $400B trade surplus. What will Euro QE look like? ECB president Mario Draghi & co. will create what the media has described as a ‘silver bullet,’ a market for synthetic bonds made up of the senior tranches of euro zone sovereigns. These bonds will be merged in proportion to relative weight of national GDP. The ECB will then buy large quantities of these credit market-linked derivatives, creating a European “safe asset.” Most central banks tend to buy their own paper. The formation of these securities should reduce the risk of another sovereign debt crisis by encouraging cross holdings between European member states. Money printing and € Euro depreciation is designed to encourage credit growth, hiring, spending, and economic expansion. But even if successful, these well intentioned schemes do not address political and structural problems embedded in the system itself. This publication will leave further detailed discussion for another day but to conclude, 0.7% GDP, 0.3% CPI, 0.7% IP, 11.5% unemployment, modest corporate profit growth, large output gaps, subdued disposable incomes, low consumer confidence (cynicism), military conflict in Europe for first time since the breakup of Yugoslavia, dependence on Gazprom (OGZD LI) and other Russian raw material suppliers, do not make for an attractive investment backdrop.

(CAC) - CAC 40 - France All else euro-land plus of least effectual leadership, immigration problems past, present and future - large foreign-born disengaged population-at-risk citizenry, uncompetitive work force, bureaucratic inefficiencies, national mentality “the French way,” unwilling and least likely to address required structural reforms, 15 year high unemployment, and rising crime. President Holland with a 12% approval rating is raises taxes and complains of globalisation, instead of cutting spending or driving growth; invokes comparisons to Nero playing his lyre as the segregated banlieues go up in smoke. No growth.

(FTSEMIB) - Milan Stock Exchange - Italy No better than France, more like ‘Spain in denial,’ the promise of Matteo Renzi reforms fading into blather. No growth

(ATX) - Vienna Stock Exchange – Austria Europe with XL Russia exposure

(INDEXCF) - MICEX - Russian Federation VVP, armed conflict, suffering, recession (4.5%) GDP juxtaposed with 8.9% inflation, $100B per annum capital flight accelerating, Rouble Wouble (44%) TTM, oil price collapse (45%) TTM, indefinite sanctions, $500-$600B in maturing debt to roll but closed to global finance, impending capital controls ... exit visas

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Industry Sector My methodology uses the Industry Classification Benchmark (ICB) not MSCI Global Industry Classification Standards (GICS) ex agriculture Priority Focus Industry Sector Consumer Goods

o Automotive o Personal o Household

oil price dividend, jobs, consumer confidence, wealth effect, strong dollar*

Consumer Services o Travel & Leisure o Media o Retail (Online)

oil price dividend, jobs, consumer confidence, wealth effect, strong dollar*

Information Technology o Computer Services o Internet o Software

Healthcare innovation premium

o Specialty-pharma o Biotech o Medical equipment

Industrials M&A o Transportation o Logistics o Warehousing o Containers & Packaging o Construction

oil price dividend, online retail, B2C, consumer

Neutral Industry Sector Financials

o Banks o Financial services o Insurance

more constructive on real-estate in space Agriculture

o Food processors o Staples producers o Fisheries

more constructive on meat and dairy in space

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Least Promising Industry Sector Telecommunications

o Fixed line o Wireless

capex requirements, no pricing power, competing technologies, debt

Utilities o Conventional electricity o Gas distribution

rates, valuation, growth rate, regulation Oil and Gas

o Oil field service o Exploration & Production o Alternative energy

Basic Materials

o Gold miners o Non-ferrous metals o Coal

more favourable on chemicals in space John Winsell Davies CIO Tano Singapore Advisors Pte Ltd

Suntec Tower Four 6 Temasek Boulevard 35th Floor, Suite #3 新加坡共和国

Singapore 038986 சிங்கப்பூர் குடியரசு

+65 8194 9076 mobile +65 6643 5362 direct

ABRIDGED RELEASE FOR PUBLIC DISSEMINATION Unabridged copy for internal distribution available by request

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Disclaimer: For investment professional only. Not for use by retail investors This document is strictly for information purposes only and does not constitute a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy mentioned herein. The views and opinions expressed are those of the author(s) at the time of writing and are subject to change without prior notice. They are made on general basis and are not to be relied upon by the reader as advice. This document does not have regard to specific investment objectives, financial situation and the particular needs of any specific person who may receive it. Investors should seek financial advice regarding the appropriateness of investing in any securities or investment strategies that may have been discussed in this document and should understand that the views regarding future prospects may or may not be realized. Accordingly no warranty whatsoever is given and no liability whatsoever is accepted for any loss arising whether directly or indirectly as a result of the reader, any person or group of persons acting on any information, opinion or estimate contained in this document. All information contained in this document is derived from sources the author believes to be reliable but which it has not verified independently and makes no guarantee, representation or warranty and accepts no responsibility or liability as to the accuracy or completeness of such information. Some of the information in this document may contain projections or other forward looking statements regarding future events or future financial performance of countries, markets or companies. The reader must make their own assessment of the relevance, accuracy and adequacy of the information contained in this document. Past performance is no guarantee of future results. All rights reserved. Please cite source.

Tano Singapore Advisors - Macro Manifesto Outlook 2015

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