LGPS Central – Interview


extreme. Emerging markets are more sen- sitive to political risk given some of the regimes are either military rule or the democratic process is not as robust, often both.


Default risk at a national level is also heightened in emerging market coun- tries as some face a large domestic fiscal funding need as well as an increasing external funding pressure. These can be mitigated through detailed and rigorous analysis to identify such vulnerabilities. The advantages for emerging market debt exposure I have, in part, mentioned. Additional benefits are the low correla- tion to some other fixed income asset classes – loans and certain high yield – and the ability to choose from the local currency or US dollar-based allocations to emerging market debt.


Talking about fixed income more broadly, are you concerned about the risk of nega- tive interest rates in the UK?


The UK has the experience of watching the effects of negative interest rates: you have had it in Japan and throughout Europe, and it has worked quite well. The difficulty is how do you get out of it? Cen- tral banks see it as a last resort, if all things fail, because to turn it back is more difficult.


There are all sorts of consequences with negative rates and the challenge is getting out. And, as yet, nobody knows what is going to happen. Am I worried about them going negative? No. Because I do not think it is going to happen. And there will be enough telegraphing to think about the consequences.


As an open DB fund, you still have a high allocation to equities. How sustainable is the bounce back of share prices we saw last year, given that many underlying busi- nesses are struggling?


It is the long-term focus that is important here. And there needs to be diversifica- tion. Just being in the sterling market is putting all your eggs into one basket, for


example. There is a need to try and get a balance of equities, fixed income and any specialist areas. So, from an asset allocation point of view, all funds will have that diversification: it is about how do they want to approach it? What is their risk profile? How can they achieve a balance? What is their time- frame? It comes down to that actuarial evaluation.


How are you integrating ESG criteria into your portfolio? It is important. One of the discussions early on between ourselves and the part- ner funds was how do we want to repre- sent them? We decided we wanted to engage with companies, not divest from them. If you divest, you sacrifice your seat at the top table. So, we choose ESG-related themes we represent and push for across various companies.


One important thing you have to keep in mind about ESG is that it is not just lip service. Ask companies: are you doing exactly what you say you are doing? Is it embedded into everything you do? Can you show us how?


ESG is common sense investing. One that investors have been doing for ages: but it has now become more refined, because there are more identifiable mis- takes that companies make.


Also, our analysis shows that if you look at the more sustainable companies, their performance is better, because they are becoming efficient – and efficiency and sustainability often work together. You often get better results, along with the appropriate salary levels and better board controls. So, the governance part of ESG, the governance structure of a com- pany,


is an important part of an ESG strategy.


One important thing you have to keep in mind about ESG is that it is not just lip service.


What is your outlook for the UK and global economy in the next year? It is all about central banks. Tell me what central bank rates will be next year, and I will tell you where the markets will be. There is so much liquidity, that central banks have been happy for the market to think about inflation and getting a more normalised yield curve in fixed income markets. You have seen yields back up, but that brings with it its own problems, because of the loss of financing done off long term rather short-term rates. So, a lot of it is around liquidity, central bank action. When we all can get fully unlocked and have the vaccinations – but this is getting pushed back is some areas, in Europe, for example, with more lock- downs – we can then look at the numbers. But I do not think the markets will know what to do until we know where the econ- omies are.


The big problem is unemployment. Cen- tral banks are focused on inflation, but unemployment is going to be a bigger problem. I cannot, overall, see rates much higher than they are now in a year’s time. Are we at a growth to value exchange? Where it goes to value for 18 months, then goes back to a growth cycle? That is one question. But it is all about what the cen- tral banks do.


Issue 103 | May 2021 | portfolio institutional | 17


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