Surviving in the Age of Financial Repression
April 2013
Words of Wisdom
“Any plan conceived in moderation, must fail
when circumstances are set in extremes”
Prince Metternich
“We always overestimate the change that will occur in the
next two years and underestimate the change that will occur
in the next ten. Don't let yourself be lulled into inaction.”
Bill Gates
2
What Financial Repression Really Means: Less Wealth
Source(s): View from the BlueRidge.
3
Living in the “New Abnormal” Requires New Perspective
15
‘12
Source(s): JP Morgan.
4
Six Decades of Rising Debt Created “Bubble” World
Note(s): Private, Federal & Total refer to private debt, federal debt and total debt. All chart points reflect year and U.S. debt as a percentage of GDP.
Source(s): Hoisington Capital Management.
5
U.S. Starting to Look and Feel Like 1930s All Over Again
Source(s): Bridgewater.
Definition(s): QE = quantitative easing; NGDP = net GDP; M0 = a measure of the money supply which combines any liquid or cash assets held within a central bank and the amount of physical currency
circulating in the economy.
6
Seen This Movie Before; More Debt, Stocks & Yields Fall
U.S.
Debt
Today
U.S.
Debt
Today
Source(s): Hoisington Capital Management.
7
Post-Crisis Deleveragings Historically Measured in Decades
Source(s): Hoisington Capital Management.
8
U.S. Equity Market Has Followed a Stair Step Pattern
Dow Jones Industrial Average
20000
17 Years
13 years
&
counting
2000
17 Years
18 Years
20 Years
200
1/1/1928
3/1/1930
5/1/1932
7/1/1934
9/1/1936
11/1/1938
1/1/1941
3/1/1943
5/1/1945
7/1/1947
9/1/1949
11/1/1951
1/1/1954
3/1/1956
5/1/1958
7/1/1960
9/1/1962
11/1/1964
1/1/1967
3/1/1969
5/1/1971
7/1/1973
9/1/1975
11/1/1977
1/1/1980
3/1/1982
5/1/1984
7/1/1986
9/1/1988
11/1/1990
1/1/1993
3/1/1995
5/1/1997
7/1/1999
9/1/2001
11/1/2003
1/1/2006
3/1/2008
5/1/2010
20
Bear Market
Bull Market
Bear Market
Bull Market
Bear Market
Source(s): Bloomberg.
Note(s): Past performance is no guarantee of future results. The illustrations are not intended to predict the performance of any specific investment or security.
9
Deleveraging: Days of 3% U.S. GDP Growth Are Gone…
Source(s): Grantham, Mayo, Otterloo (“GMO”), oftwominds.com.
10
Variant Perceptions
Opportunities for Investors from Contrarian Perspectives
11
Variant Perceptions Create Investment Opportunities
Michael Steinhardt wrote in his recent book that, “a summer intern
reminded me years later of the advice I had given him on his first day at
work. I told him that ideally he should be able to tell me, in two minutes,
four things:”
1) The Idea.
2) The Consensus View.
3) His Variant Perception
(a well-rounded view that is meaningfully different from consensus)
4) A Trigger Event.
"No mean feat. In those instances where there was no Variant Perception
I generally had no interest and would discourage investing."
Source(s): Openlibrary.org, zerohedge.com.
12
Is the S&P Nearing an Inflection Point? Mixed Signals
March 27, 2013
P/E (fwd) – 15.9
1,565
Source(s): JP Morgan.
13
Valuations Are Well Above Average, Low Margin of Safety
Source(s): dshort.com.
14
People Buy What Wish They Would Have Bought, Part II
Perhaps as Importantly,
People Sell What They are
Going to Wish They Owned…
Source(s): Advisor Perspectives.
15
Mark Twain Said History Doesn’t Repeat, But It Rhymes…
Source(s): dshort.com.
16
Long/Short Dominates Traditional Equity Over 20 Years
60%
40%
20%
0%
-20%
-40%
-60%
1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
MSCI World
S&P 500
HFN Long/Short Equity Index
Cumulative Return (Jan-93 to Dec-12)
1400%
1200%
1000%
800%
600%
400%
200%
0%
Jan-93
Jan-95
Jan-97
Jan-99
MSCI World
Jan-01
S&P 500
Jan-03
Jan-05
Jan-07
Jan-09
Jan-11
HFN Long/Short Equity Index
Source(s): PerTrac.
Note(s): The index information is included merely to show the general trends in certain markets in the periods indicated and is provided for illustrative purposes only.
17
Hedged Equity Outperformance vs. Traditional is Cyclical
140%
Annualized
Return
Annualized
Standard
Deviation
HFN Long/Short Equity Index
7.26%
7.99%
S&P 500
1.66%
15.96%
MSCI World Index
1.37%
16.63%
120%
100%
80%
60%
40%
20%
0%
-20%
-40%
Apr-12
Dec-11
Aug-11
Apr-11
Dec-10
Aug-10
Apr-10
Dec-09
Aug-09
Apr-09
Dec-08
Aug-08
Apr-08
Dec-07
Aug-07
Apr-07
Apr-12
Oct-11
Apr-11
Oct-10
Apr-10
Oct-09
100%
90%
80%
70%
60%
50%
40%
30%
20%
10%
0%
Apr-09
Oct-08
Apr-08
April-09 to April 12
Long-Only Wins
Apr-09
Dec-06
Aug-06
40%
30%
20%
10%
0%
-10%
-20%
-30%
-40%
-50%
Oct-07
Apr-03
Oct-02
Apr-02
Oct-01
Apr-01
Oct-00
Apr-00
-50%
April-06 to April 09
L/S Equity Wins
Apr-07
-40%
S&P 500 TR
Oct-06
-30%
Apr-06
-20%
Oct-05
-10%
Apr-05
0%
Oct-04
10%
Apr-04
100%
90%
80%
70%
60%
50%
40%
30%
20%
10%
0%
Apr-03
20%
April-03 to April 06
Long-Only Wins
Oct-03
April-00 to April 03
L/S Equity Wins
MSCI World
Apr-06
HFN L/S Equity Index
Apr-06
Dec-05
Aug-05
Apr-05
Dec-04
Aug-04
Apr-04
Dec-03
Aug-03
Apr-03
Dec-02
Aug-02
Apr-02
Dec-01
Aug-01
Apr-01
Dec-00
Aug-00
Apr-00
-60%
Source(s): PerTrac.
Note(s): The index information is included merely to show the general trends in certain markets in the periods indicated and is provided for illustrative purposes only.
18
Problem: Investor Patience < Investment Cycles
Source(s): dshort.com, Dalbar 2012.
19
End of The Great Bond Bull Market? Or Japanese Path?
Source(s): Strategas Research Partners (“Strategas”), The Institutional Strategist Group (“TIS Group”).
20
Analysts (as usual) Far Too Optimistic About S&P EPS
Strategas
Estimates
Materially
Lower for
Revenues,
Margins and
Profits…
Source(s): Yardeni.com.
21
European Debt Levels Have Moved into the Danger Zone
Source(s): GMO.
22
Eurozone Economic Situation Continues to Worsen
Source(s): Strategas.
23
China: PMI Data Rising: If Green Shoots, Buy A-Shares
Source(s): zerohedge.com, dshort.com.
24
Japan: Last Time Reflated => Big Rally, BOJ Has Capacity
Source(s): TIS Group.
25
Yen: ST Target 99, LT Target 150, Stocks Will Follow
Source(s): TIS Group.
26
Words of Wisdom
“Creative risk taking is essential to success in any goal
where the stakes are high. Thoughtless risks are
destructive, of course, but perhaps even more wasteful is
thoughtless caution, which prompts inaction and
promotes failure to seize opportunity.”
Gary Ryan Blair, Author
27
JG: Negative Real Returns in Traditional Assets Till 2020?
Alpha
Source(s): GMO.
28
Now Is The Time to Focus on Skill-Based Investments
International Equity
Risk-Based Investments
Emerging Markets Equity
Traditional Fixed Income
Absolute Return
Liquid Investments
Private Investments
Global Opportunistic
Hedge Funds
Enhanced Fixed Income
Traditional Investments
Domestic Equity
Illiquid Investments
Skill-Based Investments
Private Equity
Real Estate
Energy & Natural Resources
29
Four Ways to Make Returns, “Risk” in All Four
Components of Long-Term Portfolio Returns
Component
Average Return
Outlook
Dev. Mkts. Emerg. Mkts.
“Risk Free” Rate
4%
0%
to
3%
Credit Risk
2%
2%
to
3%
Equity Risk
5%
3%
to
5%
Illiquidity Risk
5%
10%
Variable
Low
Structuring Risk
.
Note(s): Projected returns are not a guarantee of future results.
Historical Averages Ibbotson Style Data for Stocks, Bonds, Cash for 1926-2011, Cambridge PE Data for Illiquidity Premium.
Outlook estimates are current risk free rates, current bond yields and forecast equity returns in developed and emerging markets from Bloomberg and GMO, Illiquidity forecast is an MCCM estimate.
Source(s): Bloomberg, GMO, MCCM estimates.
30
Current Investment Environment Creates Unique Problem
In The Age of Financial Repression, How Can Investors Add Value?
Opportunity
Challenge
Market Time – Macro
Very Difficult
Actively Trade – Micro
High Costs
Go to Cash
Negative Real Return
Go Illiquid
Lose Flexibility
Leverage
Margin Call Risk
Innovate
Discipline & Commitment
Need to focus where Alpha potential is highest
31
Environment Supportive of Future EM Equity Returns
Source of Equity Returns
S&P 500 1926-2010*
Source of Equity Returns
Current Environment
Submerging Markets
Source of Equity Returns
Current Environment
Emerging Markets
11.0%
10.8%
P/E Expansion (1%)
P/E Expansion (1.3%)
Real Earnings Growth (3.5%)
Real Earnings Growth (2.1%)
5.0%
Dividends (4.3%)
P/E Expansion (0%) At Best
Dividends (3.0%)
Real Earnings Growth (1.0%)
Dividends (2.0%)
CPI / Inflation (3.1%)
CPI / Inflation (3.5%)
CPI / Inflation (2.0%)
Source(s): Research Study conducted by Ibbotson & Chen. Research Report dated 2000. Study has not been replicated since 2000.
Statistics above may not reflect current market statistics. Dividends represent dividend yield of Standard & Poor’s 500 as of 06/30/12.
Inflation rate reflects CPI as of 06/30/12 + 1% (information from U.S. Bureau of Labor Statistics).
32
Huge Opportunity to Capitalize on Illiquidity Premium
While private asset returns are quite attractive in the current environment, we anticipate
return differentiation among asset classes which will drive our tactical allocations which can
add incremental value to the portfolio
Breakdown of Median Return Expectation Summary
30%
25%
19%
20%
17%
15%
15%
10%
13%
13%
10%
5%
5%
0%
Large Cap
Buyouts
Small / Mid
Cap Buyouts
Asia Growth
Equity
Apr-09
Real Estate
Acquisitions
Apr-10
Apr-11
US REITs
Energy & NR
Acquisitions
Oilfield
Services
May-12
.
Note(s): MCCM estimates. Expected returns calculated by asset class based on expected investment yield, multiple expansion/contraction, leverage levels and pricing, earnings growth, and fee impact. The
above information reflects opinions of Morgan Creek as of the time this presentation is written and all such opinions are subject to change. No representation or warranty, express or implied, is given by Morgan
Creek as to the accuracy of such opinions and no liability is accepted by such persons for the accuracy or completeness of any such opinions.
Source(s): S&P Leveraged Commentary & Data, Bloomberg, R.W. Baird, PricewaterhouseCoopers, National Council of Real Estate investment Fiduciaries, MCCM proprietary research and estimates.
33
Endowment Model: Extracting Global Illiquidity Premium
Going Global to Capture the Private Investment Premium
.
Source(s): MCCM Portfolio Investments.
34
In Challenging Environment, Need Endowment Model
Private
Investments
Endowment
Model Portfolio
Enhanced
Efficient
Frontier
Emerging
Markets
Hedge
Funds
Traditional
Efficient
Frontier
Source(s): GMO, MCCM estimates.
Forecasts: returns for cash/bonds = current yield, returns for equities = GMO estimates, returns for hedge funds = stocks+3% alpha, returns for private = 20 year historical average.
Definition(s): Compound ROR = compound rate of return; Annualized standard deviation = risk as measured by the variability of performance. The higher the standard deviation, the greater the variability
(and therefore, the risk) of the fund or index; Traditional Efficient Frontier = addition of traditional asset classes such as stocks and bonds; Enhanced Efficient Frontier = addition of more alternative asset
classes. Endowment Model Portfolio estimates calculated using Policy Portfolio and forecast asset class returns.
Source: Bloomberg, GMO, NACUBO, MCCM Estimates
35
Contact Information
Morgan Creek Capital Management, LLC
301 W. Barbee Chapel Road, Suite 200
Chapel Hill, NC 27517
Phone: 919-933-4004
Fax: 919-933-4048
Contact: Andrea Szigethy
Email: [email protected]
Web: www.morgancreekcap.com
36
Important Disclosures
General
This is neither an offer to sell nor a solicitation of an offer to buy interests in any investment fund managed by Morgan Creek Capital Management, LLC or its affiliates, nor shall there be any sale of securities in
any state or jurisdiction in which such offer or solicitation or sale would be unlawful prior to registration or qualification under the laws of such state or jurisdiction. Any such offering can be made only at the time
a qualified offeree receives a Confidential Private Offering Memorandum and other operative documents which contain significant details with respect to risks and should be carefully read. Neither the
Securities and Exchange Commission nor any State securities administrator has passed on or endorsed the merits of any such offerings of these securities, nor is it intended that they will. This document is for
informational purposes only and should not be distributed. Securities distributed through Town Hall, Member FINRA/SIPC.
Indices
The index information is included merely to show the general trends in certain markets in the periods indicated and is not intended to imply that the portfolio of any fund managed by Morgan Creek Capital
Management, LLC was similar to the indices in composition or element of risk. The indices are unmanaged, not investable, have no expenses and reflect reinvestment of dividends and distributions. Index
data is provided for comparative purposes only. A variety of factors may cause an index to be an inaccurate benchmark for a particular portfolio and the index does not necessarily reflect the actual investment
strategy of the portfolio.
Performance Disclosures
There can be no assurance that the investment objectives of any fund managed by Morgan Creek Capital Management, LLC will be achieved or that its historical performance is indicative of the performance it
will achieve in the future.
Forward-Looking Statements:
This presentation contains certain statements that may include "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of
1934. All statements, other than statements of historical fact, included herein are "forward-looking statements." Included among "forward-looking statements" are, among other things, statements about our
future outlook on opportunities based upon current market conditions. Although the company believes that the expectations reflected in these forward-looking statements are reasonable, they do involve
assumptions, risks and uncertainties, and these expectations may prove to be incorrect. Actual results could differ materially from those anticipated in these forward-looking statements as a result of a variety
of factors. One should not place undue reliance on these forward-looking statements, which speak only as of the date of this discussion. Other than as required by law, the company does not assume a duty to
update these forward-looking statements.
No Warranty
Morgan Creek Capital Management, LLC does not warrant the accuracy, adequacy, completeness, timeliness or availability of any information provided by non-Morgan Creek sources, including accessibility of
unavailable funds.
Risk Summary
Investment objectives are not projections of expected performance or guarantees of anticipated investment results. Actual performance and results may vary substantially from the stated objectives with
respect to risks. Investments are speculative and are meant for sophisticated investors. An investor may lose all or a substantial part of its investment in funds managed by Morgan Creek Capital Management,
LLC. There are also substantial restrictions on transfers. Certain of the underlying investment managers in which the funds managed by Morgan Creek Capital Management, LLC invest may employ leverage
(certain Morgan Creek funds also employ leverage) or short selling, may purchase or sell options or derivatives and may invest in speculative or illiquid securities. Funds of funds have a number of layers of
fees and expenses which may offset profits. This is a brief summary of investment risks. Prospective investors should carefully review the risk disclosures contained in the funds’ Confidential Private Offering
Memoranda. No investment is risk free; loss of principal is possible. Alternative investments involve specific risks that may be greater than those associated with traditional investments. One should consider
the special risks with alternative investments, including limited liquidity, tax considerations, incentive fee structures, potentially speculative investment strategies, and different regularly and reporting
requirements. There can be no assurance that any investment will meet its performance objectives or that substantial losses will be avoided.
Safe Harbor Statement
This presentation shall not constitute an offer to sell or a solicitation of an offer to buy, nor shall there be any sale of, the securities in any state or jurisdiction in which such offer or solicitation or sale would be
unlawful prior to registration or qualification under the laws of such state or jurisdiction. Forward-Looking Statements: This presentation contains certain statements that may include "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. All statements, other than statements of historical fact, included herein are
"forward-looking statements." Included among "forward-looking statements" are, among other things, statements about our future outlook on opportunities based upon current market conditions. Although the
company believes that the expectations reflected in these forward-looking statements are reasonable, they do involve assumptions, risks and uncertainties, and these expectations may prove to be incorrect.
Actual results could differ materially from those anticipated in these forward-looking statements as a result of a variety of factors. One should not place undue reliance on these forward-looking statements,
which speak only as of the date of this discussion. Other than as required by law, the company does not assume a duty to update these forward-looking statements. Past performance is no guarantee of future
results. The illustrations are not intended to predict the performance of any specific investment or security. The past performance figures do not represent performance of any MCCM security and there can be
no assurance that any MCCM security will achieve the past returns of the illustrative examples. This is not an offering to subscribe for units in any fund and is intended for informational purposes only. An
offering can only be made by delivery of the Prospectus to “qualified clients” within the meaning of U.S. securities laws.
37
Important Disclosures
S&P 500 Index -- this is an index consisting of 500 stocks chosen for market size, liquidity and industry grouping, among other factors. The index is a market-value weighted index – each stock’s weight in
the index is proportionate to its market value. Definition is from Standard and Poor’s.
DJIA Index -- The Dow Jones Industrial Average is a price-weighted average of 30 blue-chip stocks that are generally the leaders in their industry. It has been a widely followed indicator of the stock market
since October 1, 1928.
Russell 2000 Index -- this index measures the performance of the 2,000 smallest companies in the Russell 3000 Index, a broad-based index that represents approximately 98% of the value of the
investable U.S. equity market. Definition is from the Russell Investment Group.
91-Day US T-Bill -- short-term U.S. Treasury securities with minimum denominations of $10,000 and a maturity of three months. They are issued at a discount to face value. Definition is from the
Department of Treasury.
Gold -- Spot, or real-time, price of gold.
Barclays Aggregate Bond Index -- this is a composite index made up of the Barclays Government/Corporate Bond Index, Mortgage-Backed Securities Index and Asset-Backed Securities Index, which
includes securities that are of investment-grade quality or better, have at least one year to maturity and have an outstanding par value of at least $100 million. Definition is from Barclays.
HFN Hedge Fund Aggregate Index -- HFN’s flagship benchmark is an equal weighted average of all hedge funds and CTA/managed futures products reporting to the HFN Database. Constituents are
aggregated from each of the HFN Strategy Specific Indices.
MSCI EAFE Index -- this is a free float-adjusted market capitalization index that is designed to measure developed market equity performance, excluding the US & Canada. Morgan Stanley Capital
International definition is from Morgan Stanley.
MSCI World Index -- this is a free float-adjusted market capitalization index that is designed to measure global developed market equity performance. Morgan Stanley Capital International definition is from
Morgan Stanley.
MSCI Emerging Markets Index -- this is a free float-adjusted market capitalization index that is designed to measure equity market performance in the global emerging markets. The MSCI Emerging
Markets Index consisted of the following 21 (May 2011) emerging market country indices: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Korea, Malaysia, Mexico,
Morocco, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, and Turkey. Definition is from MSCI.
Cambridge Associates Private Equity Index -- This index is based on returns data compiled on funds representing over 70% of the total dollars raised by U.S. leveraged buyout, subordinated debt, and
special situation partnerships formed between 1986 and the present. Definition is from Cambridge Associates.
HFN Long/Short Equity Index – this index includes funds that typically buy equity securities with the expectation they will go up in price and sell short equity securities with the expectation they will decline in
price. Funds may either be "net long" or "net short" and may change their net position frequently. The basic belief behind this strategy is that it will allow the fund to profit from both undervalued and
overvalued securities and protect capital in many types of market conditions.
CBOE Volatility Index (VIX)-- The Chicago Board Options Exchange Volatility Index® (VIX®) is a key measure of market expectations of near-term (30-day) volatility conveyed by S&P 500 stock index option
prices. Since its introduction in 1993, VIX has been considered by many to be the world's premier barometer of investor sentiment and market volatility.
Nikkei-225 Index -- This is an index consisting of the price-weighted average of 225 top-rated Japanese companies listed in the First Section of the Tokyo Stock Exchange. The Nikkei Stock Average was
first published on May 16, 1949, where the average price was Yen176.21 with a divisor of 225.
Japan Topix - Also known as the Tokyo Stock Price Index, is a capitalization weighted index of all companies listed on the First Section of the Tokyo Stock Exchange. The index is supplemented by the subindices of the 33 industry sectors. The index calculation excludes temporary issues and preferred stocks, and has a base value of 100 as of January 4, 1968.
MSCI Japan Index -- this is a free-float adjusted market capitalization weighted index that is designed to track the equity market performance of Japanese securities listed on Tokyo Stock Exchange, Osaka
Stock Exchange, JASDAQ and Nagoya Stock Exchange. The index has a base date of December 31, 1987. Definition is from MSCI.
JGB – refers to Japanese Government Bonds.
BOJ– refers to Bank of Japan.
38
39