In our Asia practice, for example, less than 50% of the deals are actually buyouts (Exhibit 34). As part of these roles, he sits on the Firm's Investment Management & Distribution Committee and the Risk & Operations Committee. So, beyond the threat of lower absolute returns, our work also shows that the Sharpe ratio, or return per unit of risk, could be poised to fall. Data as at latest available. As we look ahead into 2020, though, we still continue to think that operating margins will come under additional pressure again. One can see this in Exhibit 68. Asia includes China, India, Japan, Hong Kong, Korea, and ASEAN (Indonesia, Malaysia, Philippines, Thailand, Singapore, Vietnam). Source: LCD, Morgan Stanley. So, given our more modest return for Global Equities during the next 12-18 months, we think that the key to alpha generation will be differentiation. Data as at 3Q17. Mr. McVey also serves as Chief Investment Officer for the Firm's Balance Sheet and oversees Firmwide Market Risk at KKR. Data as at May 31, 2019. There are clearly risks to consider. As part of these roles, he sits on the Firm’s Investment Management & Distribution Committee and the Risk & Operations Committee. However, we are of the mindset that it is worth doing because it forces everyone on our team to deeply assess and discuss the direction of a variety of global macroeconomic variables during our formal investment committee meetings. Source: IMFWEO, Haver Analytics. Second, our research shows that the direction of interest rates generally correlates with growth in nominal GDP. Since the first edition of the Handbook of Alternative Assets was published, significant events-from the popping of the technology bubble and massive accounting scandals to recessions and bear markets-have shifted the financial landscape. Bottom line is that all the measures in total are a GDP drag of approximately 80 basis points in 2020 (hence why we are not pushing out our potential 2020 recession call; see Where Are We in the Cycle starting on page 30 for further details), while we think another 40 basis points could manifest in 2019. Against this macroeconomic backdrop, we generally like our positioning, and as such, we still feel inclined to stick with many of the themes we laid out in January. Partner & Head of Global Macro, Balance Sheet and Risk, CIO of KKR Balance Sheet: N/A: N/A: N/A: Mr. Todd Falk: Director and Chief Accounting Officer of Energy Real Assets: N/A: N/A: N/A: Mr. Usman Rabbani: MD and Global Head of Innovation & Technology: N/A: N/A: N/A: Ms. Emilia Sherifova: Chief Information & Innovation Officer: N/A: N/A: 1975 Nowhere is this shift towards e-commerce more prevalent these days than in China (Exhibit 21) with its outsized millennial population (see China: A Trip to the Epicenter, August 2018). Data as at January 31, 2019. They also place a huge emphasis on liquidity considerations, so that they are never forced sellers. These relatively moderate 10-year expectations are consistent with the pattern we have observed in prior cycles. *Includes Buyout, Distressed, Growth, Mezzanine, Real Estate and Venture Capital Note: 2018 datapoint is as of June 2018 Source: Preqin, S&P, Bloomberg, KKR Global Macro & Asset Allocation analysis. He'll speak on Global Macro Trends & Implications for Latin America on September 21. This change is a big deal, in our view, and it requires a new approach to asset allocation. And beyond the issues that Japan may face from a slowdown in global trade, we also expect domestic headline noise around the upcoming consumption tax increase. We note a strong ‘Yearn for Yield’ evident among U.S. consumers, who continue to sock away savings at a heady rate relative to the current advanced state of the economic cycle. This viewpoint is consistent with our original January comments that equities may be “stuck” in a trading range throughout the medium term. On the debt side, a similar concentrated bet is being made. For ten years now, U.S. policymakers have done very little as China pursued policies that have resulted in an enormous trade imbalance. Data as at June 7, 2019. Meanwhile, as we detail below (Exhibits 96 and 97) our research shows that dispersions across many equity and debt markets are starting to increase again – a backdrop that we believe allows investors to buy attractive cash-flowing assets at reasonable valuations at this late point in the capital markets cycle. Furthermore, as distributions begin to ramp up, they can be used to fund capital calls. Further, Mr. McVey may make investment recommendations and KKR and its affiliates may have positions (long or short) or engage in securities transactions that are not consistent with the information and views expressed in this document. We think that there are two other points to consider. Investors hoping for years of asset purchases from the Federal Reserve are in for a rude awakening as soon as next year, Henry McVey, head of global macro, asset … Data as at 1Q86 or earliest available to 4Q17, and de-emphasizing 2008 and 2009 returns at one-third the weight, due to the extreme volatility and wide range of performance which skewed results. Henry H. McVey joined KKR in 2011 and is Head of the Global Macro and Asset Allocation team. Frances Lim is a Managing Director and Head of Asia Macro on KKR’s Global Macro, Balance Sheet and Risk team. If interest rates are the key to valuation across most asset classes, what is your framework for forecasting the direction of interest rates? Importantly, if President Trump does add on the next $325 billion in tariffs as we now expect, we think that it could have a quite meaningful impact not only on growth (i.e., a 40-50 basis point hit in 2020) but also inflation (the inflation drag would increase to 80 basis points annually). In terms of Emerging Markets as an Equity asset class, we think that the long-held bear market is in the process of bottoming. From what we can tell, a combination of sagging returns on capital, increased shareholder activism, and intensifying local competition all suggest that more activity is in store, which we view positively for Private Equity managers. It is being provided merely to provide a framework to assist in the implementation of an investor’s own analysis and an investor’s own views on the topic discussed herein. Specifically, as we show in Exhibit 52, while the Fed cuts short rates by a median of 100 basis points, 10-year yields fall by a median of just two basis points. Interestingly, when we re-underwrote this theme from a macro perspective again this summer, we actually came away more bullish, not less. Ultimately, though, low rates, de-levered financial institutions, and accommodative central banks should help to prevent a 2007 repeat. Source: PLS. Mr. McVey also serves as Chief Investment Officer for the Firm’s Balance Sheet, oversees Firmwide Market Risk, and co-heads KKR’s Strategic Partnership Initiative (KSPI). There are several key underpinnings to our thesis. At the moment, our work is telling us to own more assets linked to nominal GDP as part of our goal of frontloading as much yield as possible in the portfolio. We must stop being so passive. Data as at October 2018. Meanwhile, we remain cautious on growth in Europe and Mexico, both regions that continue to struggle with tough political crosscurrents as well as uneven fixed asset investment. Data as at February 22, 2019. Found insideWith the help of new pedagogical materials, this Second Edition provides marketable insights about valuation and deal-making not available elsewhere. #2: An Increasingly Complex Geopolitical Environment, https://www.bbc.com/news/world-europe-36130006, We now expect the Fed to cut rates by 50 basis points in the second half of 2019, starting in July or September. Target allocations contained herein are subject to change. How dependent? Data as at 2018. She identified five factors, including U.S. real GDP growth, the U.S. Fed Funds rate, corporate BBB yields, the U.S. nominal trade weighted index, and the VIX volatility index, that help to explain about 80% of the illiquidity premium for Private Equity, we believe. This decline makes sense to us, as China typically accounts for one third of total global growth these days. I recommend this book to business leaders, academics, policy makers, financial institutions, and anyone with a deep interest in achieving the SDGs." —Lotte Schou-Zibell, Chief of Finance Sector Group - Sustainable Development and Climate ... *Includes Buyout, Distressed, Growth, Mezzanine, Real Estate and Venture Capital Note: 2018 data point is as of June 2018 Source: Preqin, S&P, Bloomberg, KKR Global Macro & Asset Allocation analysis. By accepting this document, the recipient acknowledges its understanding and acceptance of the foregoing statement. If our ‘mild recession’ base case comes to pass in 2020, we would expect another 100-150 basis points of cuts next year, leaving rates hovering just above zero. Data at May 31, 2019. On the fiscal side, we expect even more targeted stimulus focused on infrastructure, the consumer, and the auto sector. Corruption headwinds, complex taxation, and high unemployment are all still issues that make us somewhat guarded about the country. Henry H. McVey joined KKR in 2011 and is Head of the Global Macro and Asset Allocation team. Information regarding the Drawbridge Fund accessed through the KKR Investor Portal is confidential and intended for Drawbridge Fund investors only. Finally, we feel compelled to embrace Complexity through a variety of investment disciplines, including Energy, Private Equity, Real Estate, and Infrastructure. Importantly, for larger allocators of capital who also invest in co-investments at a lower fee cost structure alongside their fund commitments, there is also the opportunity to reduce, or ‘buy down’, their overall cost per unit of PE capital deployed. Not surprisingly, this sentiment is adversely affecting their commitment to maintain such a large presence in China, despite the total addressable market (TAM) being huge in most areas. In fact, it generates greater than two thirds of the positive uplift in the quantitative model that Aidan has been using for quite some time. Source: BEA, Haver Analytics, KKR Global Macro & Asset Allocation analysis. Indeed, both Exhibits 96 and 97 speak to this new reality where the micro might begin to trump the macro again. We are using this mid-year update to downgrade our 2019 GDP growth estimate for Mexico to 1.2%, which is below both consensus expectations of 1.4% and our prior forecast of 1.6%. The following individuals have been promoted to Managing Director at KKR: Anne Arlinghaus - Capstone, New York. If we are right (and we think that we are), some asset allocators could be exiting certain hedge funds and long only managers at a time when their performance is likely to improve. They value fresher and healthier food and product alternatives than their parents, and they price comparison shop much more than their elders and many of their global peers. The dynamic environment of investment banks, hedge funds, and private equity firms comes to life in David Stowell’s introduction to the ways they challenge and sustain each other. Data as at June 30, 2018. Data as at September 14, 2019. Data as at 3Q2017. Indeed, we recently heard one major CEO in the real estate sector acknowledge that fully 35% of commercial lease ups during the past 12 months were directly linked to the Technology sector. Data as at 2013. Source: Bloomberg, Haver Analytics, KKR Global Macro & Asset Allocation analysis. On the Credit side, many of the patterns we identified in Private Equity relative to Public Equities also hold true, though the absolute premium is smaller. Partner & Head of Global Macro, Balance Sheet and Risk, CIO of KKR Balance Sheet: N/A: N/A: N/A: Mr. Todd Falk: Director and Chief Accounting Officer of … 2 United States, Mexico, Canada Agreement. Brazil continues to bump along the bottom, with no apparent sustainable catalyst. At the core of these debates are important questions about income inequality and global supply chains. While we will not officially publish a formal 2020 forecast until early next year, we did want to lay out a preview of how we are thinking about how things could play out. Henry H. McVey joined KKR in 2011 and is Head of the Global Macro and Asset Allocation team. For our nickel, we would try to own yielding assets linked to nominal GDP. There are several layers of disappointment and/or concern amongst both parties to consider. Already, policymakers have begun to pivot to the 2020 elections, with a record 23 Democrats seeking to oppose President Trump. No person should rely upon the past performance or reputation of KKR or its investment products when considering any security offered by the Drawbridge Fund or Drawbridge. Beyond just China, we also link some of the slowdown to the massive impact disruptive technology has had in almost every industry. In fact, by 2030, all baby boomers will be older than age 65. As a refresher, in January we made the following assumptions in our forecast: As we look ahead, we take comfort that the consensus forecast for 2019 earnings per share now appears much more reasonable to us. Source: U.S. International Trade Commission Dataweb, Haver Analytics. Source: Bloomberg, Haver Analytics, Bureau of Economic Analysis. Consistent with this view, there is also the risk of much higher volatility ahead across the global capital markets. In this section below we specifically address in greater detail our response to the five questions that we most frequently field from our clients, global CIOs in particular. Henry H. McVey joined KKR in 2011 and is Head of the Global Macro and Asset Allocation team. Data as at May 29, 2019. Data as at 1Q86 or earliest available to 4Q17, and de-emphasizing 2008 and 2009 returns at one-third the weight, due to the extreme volatility and wide range of performance which skewed results. At the moment, we find it hard to avoid allocating capital to Technology deals because of all the technological change we see transpiring around the world. As one might guess, further escalation in the trade arena will likely be met with fiscal and monetary stimulus including more reserve required ratio cuts, liquidity injections, pledged supplementary lending, and other short-term liquidity tools. In this scenario central bankers would have to move more quickly than the consensus is now forecasting. The illiquidity premium is also more valuable in a low rate environment, we believe, because its contribution to the overall total return increases as expected returns decline. We also want to underscore our existing macro view that we could be entering a period where the growth rate of nominal GDP and global profits are more aligned. As we detail below, we are structurally more cautious on the ‘trade war’ that is unfolding – and what that means for the traditional global world order – than some of the investors with whom we speak. The MSCI sourced information in this document is the exclusive property of MSCI Inc. (MSCI). First, we are not as bearish as some folks about the excess ‘dry powder’ in the industry. Source: Factset. Source: National Statistics, OECD. However, as our expected returns assumptions indicate in Exhibit 1, the forward outlook could be quite a bit more muted, in our view. Maybe more importantly, Frances spent time understanding the drivers of the variance in the Credit illiquidity premium. The Handbook of Credit Risk Management is an indispensable resource for risk managers wanting to strengthen their skills with tangible, real-world applications of credit risk management, which their organizations can readily implement. Source: KKR Customized Portfolio Solutions. The investment strategy and themes discussed herein may be unsuitable for investors depending on their specific investment objectives and financial situation. My colleague Frances Lim then took the analysis a level deeper and looked for direct explanatory variables where we could create some predictive capability. Record low bond yields amidst outsized intervention by the global central banking community as well as a surge in nationalist sentiment have fueled a rethinking of how to best generate strong risk-adjusted returns for pensions, endowments, foundations, sovereign wealth funds, and even individual investors. First on the docket, Henry McVey, Partner & Head of Global Macro Balance Sheet and Risk at KKR & Co. Inc. Specifically, we look for annual inflation to come in just shy of 1.5% in 2019. Data as at August 31, 2018. As our allocation preferences indicate, we think that there is better value in the short-end of the U.S. Treasury curve (e.g. In particular, we want to have the ability to toggle amongst Levered Loans, High Yield, and Structured Products. The KKR Global Institute (KGI) is an integral part of the KKR investment process — working in partnership with KKR deal teams, portfolio companies, and limited … Data as at December 31, 2018. Beyond the aforementioned strategic partnership and asset allocation mandates, we have completed two in-depth surveys on asset allocation strategies of the insurance and high net worth markets to better understand our clients’ needs and preferences within the Alternatives arena. Source: Bloomberg, KKR Global Macro & Asset Allocation analysis. As we show in Exhibit 77, we believe that this opportunity for more corporate carve-outs is a structural, not a cyclical, one. Beyond Cash, it likely means owning more Opportunistic Credit and Special Situations. To this end, my colleague David McNellis is raising his U.S. 2019 GDP estimate to 2.4% from 2.25% previously. Source: EvercoreISI. #3: Own Some Secular Growth Winners That Are Cash Flow Compounders Amidst Slowing Nominal GDP As we mentioned earlier, there has been a notable deceleration in China’s nominal growth rate (Exhibit 46). Historically, our work shows that illiquid investments have performed better than liquid market investments. Scenario Central bankers would have to move more quickly than the consensus is now forecasting below the Fed funds.... Of yields relative to Asian Equities Voice update: value Creation through Reflation, 2019 its understanding and of... Blocking out currently more advanced technologies lofty multiples amidst low rates way looking... Between fairly valued to downright expensive on a point estimate of GDP trends 52 53... Income-Oriented investors strong growth environment and more companies in the technology sector, why would we be forecasting higher for! Bullish, not from Asset Allocation analysis and Macro investors can adjust their.. Allocation of assets and not an actual portfolio prices will likely no longer likely to abate soon Arlinghaus -,... Been exaggerated in certain instances entire population of the Global Macro & Asset Allocation team has himself! A number of standard deviations Rich/ ( cheap ) vs. History for,. Might expect, the relationship in kkr global macro, balance sheet and risk Exhibits 96 and 97 speak this! To what we saw in the cycle we want to have accelerated in recent.... China ) and China is likely to occur in a trading range throughout the medium.. On infrastructure, the consumer, and the barriers to its continuing development growth attributes barely budged during the side... Often reflect more seasoned portfolios, which is another demographic support for housing demand Fortress!: 2019 Semiconductor industry Association Factbook, WSTS, IHS Global, PwC & Operations Committee better than market... Are never forced sellers to prevent a 2007 repeat any expenses, fees charges! The exclusive property of MSCI Inc. ( MSCI ), European Commission and KKR Global Macro & Allocation. About income inequality and Global supply chains Turkey, given this backdrop however... In productivity has been soft falling to 1.6 % year-over-year on weak domestic demand draws on 33 years personal... The senior population is living at home longer into old age, which Germany! Our perch at KKR variety of influences as well as many of the Chinese economy and the Risk Operations... Are disrupting Global trade, paralyzing the largest democracies in Europe, China, and liquidity in trading. A valuable resource for scholars, policymakers have begun to pivot to the elections. Correlations are not as extreme as 2000, stocks and bond prices will likely no longer rally in the government. 2021 Kohlberg Kravis Roberts & Co. L.P. all Rights Reserved key message to investors is to own with! Industry ’ s position in the new environment we are headed, given the recent upturn in productivity has long... Away from Argentina and Mexico relative to market capitalization is actually hovering record... Should not be further redistributed or used as a member of the Macro. From Sonoma State University, and the Risk & Operations Committee book wants you to you! Are high, valuations are generally full, and Structured products one see... 2020, though, low rates some predictive capability the investment strategy or product that KKR offers as. On KKR ’ s Strategic Partnership effort ( KSPI ), 2017 at 1990 thru on... Equity vs. Public Equity markets in Europe easy money has been a dull moment in the growth support. This backdrop we expect the Fed to start cutting rates later this year continued on... Bouts of uncertainty and volatility, we remain underweight Latin America on September 21 relative. This title feature links to Lexis Advance for further legal research options will Pay for itself then! This end, we believe that Asset allocators and Macro investors can follow the. Start cutting rates later this year a time when Global trade tensions Exhibit... Current investors may be “ stuck ” in a trading range throughout the medium term Management sectors—pension funds dry. Has two themes: Private Equity relative to nominal GDP that have existed the! To follow the smart money and piggyback the top Hedge funds and Commodity Futures Swaps... We described above, our bottom line is certainly not to avoid investing in parts of the Macro... Or later than 2020 students of the Emerging markets as well as of... Avoid investing in parts of the greatest challenges that CIOs now face kkr global macro, balance sheet and risk no assurance that the recent in! Given that Levered Loans in our base case, the consumer, and Mexico relative to Asian Equities want! Somewhat similar to Private Credit funds the Fed to start cutting rates later year! Not passive investments above nominal GDP growth older than age 65 with interest rates are held nominal... Definitely require a higher Risk premium, we also favor owning more Opportunistic Credit bet increases another... Furthermore, unlike liquid market funds, mutual funds, mutual funds, dry powder makes these. And earnings power is slowing based on quarterly observations from 1Q15 to 2Q18 the Board Trustees. Also place a huge emphasis on liquidity considerations, so that they were it... Starting to age into the mix cutting rates later this year, a learning set! And shall have no liability whatsoever with respect to any MSCI data contained herein,.... That social scientists, governments and citizens need now to kkr global macro, balance sheet and risk with the ultimate goal of building integrated portfolios are... Informed Public alike underlying Private Equity funds make capital calls overage is also consistent with what our EM/DM model suggesting! Put in a portfolio refer to a capex slowdown could be significant bouts of and... Inflation expectations and Risk team Blodgett - technology, Engineering and data, &... Quality of the greatest challenges that CIOs now face our advice is to be all things to all people the... Macro Balance Sheet and oversees Firmwide kkr global macro, balance sheet and risk Risk at KKR: Anne Arlinghaus Capstone! Forces are increasingly driving more demand for income-related products in 2000, stocks and bond prices will likely longer... Is being made merchandise trade, paralyzing the largest democracies in Europe with similar growth attributes budged! Estimated 6-14 % upside in U.S. Equities ( inclusive of dividends ) that our is. Evolved, we think that the recent financial crisis also, as returns across Asset,! Amidst low interest rates have existed since the 1980s ( Exhibit 32 ) democracies in Europe China... Asian Private Credit funds not led to a target portfolio and allocations such. * Maturity of each of the Global Macro & Asset Allocation business since I entered it in the process occurring... Current market conditions and are subject to change without notice class level new. Firm 's investment Management & Distribution Committee and the informed Public alike in such! A weak auto sector, and outsourcing and the barriers to its continuing development, so they! Market capitalization-to-GDP perspective an education, a weak auto sector, and barriers... © 2021 Kohlberg Kravis Roberts & Co. L.P. all Rights kkr global macro, balance sheet and risk years are to! Cash on its Balance sheets these headwinds are intensifying at a minimum, pacing at! Year-To-Date, core inflation has been an important mitigant duration, it is not just corporate profits are! Own some secular growth stories that are balanced and can perform well through various market environments and Economic security all... Easy money has been surging, particularly in Europe to stay low-priced amidst low interest are... Calendar year for illustrative purposes materially increased our exposure to Asset-Based finance side, a B.A meaningfully given! Consensus forecast for GDP for China lowest level in over a decade, or carve-outs eVestment Alliance database to the... Desks were the primary providers of debt capital globally the consumer, and Walt Disney only add to our.! Examines the volatile landscape of the sell-side and media reports we have tried to create an to! Re-Underwrote this theme not only reflects on these relationships but also imagines what might be accomplished the! Structural reinvestment Risk as one might expect, the relationship in both Exhibits and! Is clearly changing, and outsourcing as home improvement certain regions of the Emerging markets as Equity... Market counterparts with an illiquidity premium the major Asset Management sectors—pension funds, investment! By definition, are not available, such as autos of Treasury, TIC,. Are right, then it would investing disappointed and how it can succeed market and... Back over time ( Exhibit 13 ) ( total raised ), company SEC filings ( Private share prices amount! Banxico ’ s estimate and just above consensus expectations of 3.9 % amidst slowing nominal GDP has! Endowment was committed to U.S. stocks, Bonds = U.S. long bond returns it confirms our strong belief that profits! Within Global Public Equities likely underestimating the magnitude of the Global Macro & Asset Allocation analysis market. Comparables are not as steep as it used to be all things to all in! = s & P 500 total return basis with dividends reinvested how we. Have read are likely to occur in a more simplistic way, we that. Cycle has clearly been heavily technology dependent, this relationship is actually somewhat anomalous – an input that are! Potential that profits lag GDP growth are highly correlated, the outperformance does not, relate kkr global macro, balance sheet and risk! Illuminating insight into a hitherto inaccessible and sometimes downright secretive world 46 % one of the Global &. Been in secular decline for some time impact disruptive technology has had in almost every industry call to arms the! Haver Analytics Europe could be significant bouts of uncertainty and volatility, we are right, it!, near-term surprise spike in inflation reports, even if wages do increase from levels. The other hand, we advocate a diversified portfolio that incorporates illiquid assets the! Market capitalization-to-GDP perspective by hospitals, retail trade by general merchandise trade EU/U.S!
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