13 June 2019Analysis

Economic uncertainty, financial volatility can mean opportunities for captives

The volatility and uncertainty in many of the world’s economies can represent opportunities for captive managers willing to explore active rather than passive investment strategies. “There are plenty of opportunities for investors and captives to benefit from the volatility we are seeing,” Henk Potts, director, investment strategy, Barclays Private Bank, told delegates at the Bermuda Captive Conference yesterday (Wednesday June 12).

Potts paired up with Daragh Maher, HSBC's head of FX strategy US, at the session, chaired by Tom McMahon, president of Citadel Management Bermuda, to examine the performance and prospects of the world’s main economies.

Initially discussing the US economy, Maher said that a resolution of the US-China trade war was important though he also suggested that some, including the financial markets, may be overstating the importance of this to the US economy and it may not be as defining as some believe.

Potts suggested that pragmatism should eventually prevail in the dispute but also pointed out that given President Trump’s tendency to backtrack on deals, it could be hard to establish certainty on a deal. “When is a deal a deal given that Trump has been known to change his mind on things,” he said.

Overall, Potts offered a positive outlook for the US economy in the short term despite the trade wars. He noted that activity picked up last year and growth reached 2.9 percent driven by increases in household consumption and business investment.

He also stressed that consumer confidence in the US looks in great shape. Unemployment remains very low and continues to fall, confidence is very high and while wage growth is “not great” at 3.1 percent it is higher than inflation. Tax cuts have also helped and interest rates remain low.

He said Barclays has lowered its growth prediction for the US economy for 2019 to 2.5 percent from 2.8 percent but he does anticipate a bigger change next year to closer to 1.4 percent. “We will see a significant change in the next 12 months,” he said.

Maher agreed with most of that but pointed out the financial markets seem to have more of a sense that the US economy is “teetering on the brink of something horrific”. He said this apparent contradiction of Potts’ assessment could be caused by the markets’ “impatience” with the Federal Reserve for not increasing interest rates faster.

“But the Fed cannot let the tail wag the dog,” he said. “That has happened in the past and the fed needs to behave like the parent, not the teenager. There is a risk the financial markets always get their way. The Fed needs to regain the agenda on this.”

Potts agreed. “They have been under pressure to act yet nothing has really changed substantially. The point to trade wars and market volatility but inflation is benign.”

Turning their attention to Europe, Potts said that while the region’s economy had been a “major disappointment” he again offered a reasonably positive assessment of its future prospects. Since it achieved growth of 2.5 percent in 2017, he acknowledged it had stagnated but said this had been because of very specific factors such as slowing global growth, the yellow vest protests in France, slowing demand from China (which has hit Germany’s automotive industry specifically) and the budget battle in Italy.

“The picture has been bleak but I am not pessimistic,” he said. “He noted that unemployment, which sits at 7.6 percent, is falling across the eurozone and predicted that fiscal stimulus will be ramped up now. He forecast growth of 1.3 percent this year and 1.4 percent the year after.

Maher said he was less optimistic. “The EU has had a sequence of disappointments and there has always been an excuse. He said that the challenges will continue. He said the European Central Bank is limited in what it can now do in terms of policy stimulus. “There is only so much they can do to swing the needle,” he said.

Potts responded by arguing that domestic demand in Europe is more robust that many think. But he acknowledged that there are big structural problems ahead.

One of these is clearly Brexit and both speakers acknowledged that it remains very difficult to foresee what will happen.  Despite this, Potts said he forecasts growth of 1.2 percent for the UK this year and similar next year. But they both admitted that uncertainty prevails in terms of Brexit.