Investment Themes

Sign up to receive Indexology® Blog email updates

In This List

The Role of Quality in Long-Term Value Creation

Bond Returns Barely Positive in February

Asian Fixed Income: PBOC Has Widened Access to China’s Onshore Bond Market for Foreign Investors

Economy Looking Up

Ex-Energy, Commodities Are Up In 2016

The Role of Quality in Long-Term Value Creation

Contributor Image
Kelly Tang

Director

Global Research & Design

two

 

This is the third in a series of blog posts relating to the launch of the S&P Long-Term Value Creation (LTVC) Global Index.

In the last blog, we discussed how long-term investing requires looking at metrics that go beyond the standard GAAP financial accounting measures and why the Economic Dimension (ED) score from RobecoSAM was the sustainability score that best complimented the long-term aim of the S&P LTVC Global Index.  While the ED score may be a key metric of a firm’s long-term focus on its goals, it is also important to the index to identify how these policies have translated themselves and are reflected in the quality of a company’s earnings, balance sheet, and profitability.

It is safe to say that the definition of quality and the characteristics of a high-quality company will generate numerous and varied responses from academics and analysts alike.  In addition, the difference in opinion will persist in not only the definition, but also the number of metrics that should be used to gauge quality.  Our colleagues previously examined the quality debate and presented their findings and S&P Dow Jones Indices’ stance in “Quality: A Distinct Equity Factor?” (Ung and Luk).  The paper presented the framework for defining quality which included categories such as profitability, earnings quality, and strength in balance sheet.  The report included back-tested performance results, which showed that the proposed quality factor was beneficial in contributing to excess long-term investment returns.

Quality Factors

For the S&P Quality Indices, the following three metrics are used to define a quality company.

  1. Return on equity (ROE) was selected as the preferred metric for profitability, and companies with higher ROEs have sustained competitive advantages such as branding or competitive positioning, which help them maintain their profitability.
  2. Quality of earnings was another criterion to determine quality as measured by the balance sheet accruals (BSA) ratio (change in net operating assets/average operating assets). The BSA provides a way to measure how a firm scores in its earnings management; higher accruals are a potential red flag as higher levels of noncash items may lead to financial statement revisions.
  3. Finally, the financial leverage ratio was selected as the third metric to gauge balance sheet strength, with the rationale that high-quality companies have the ability to finance their ongoing business activities without having to incur excessive debt levels, protecting them in times of crisis.

One of the key findings from Ung and Luk’s paper was that although quality strategies have performed well on their own, they appeared to work well when combined with other factor strategies as well.  This was the basis for our thinking to combine quality with economic sustainability factors to create the S&P LTVC Global Index.

In our final blog of the series, we will dig deeper into the unique structural aspects and performance attributes of the S&P LTVC Global Index.

 

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Bond Returns Barely Positive in February

Contributor Image
Kevin Horan

Director, Fixed Income Indices

S&P Dow Jones Indices

two

The last few days of February had many wondering whether corporate bond indices would end up closing positive or negative for the month.  The majority of indices closed up for February, but not by much.

Higher-quality corporate bonds, as measured by the S&P 500® Bond Index, posted a 0.83% total return for February and returned 1.18% YTD.  The breakdown between investment grade and high yield was all positive, as the S&P 500 Investment Grade Corporate Bond Index returned 0.79% for the month and 1.22% YTD, and the S&P 500 High Yield Corporate Bond Index returned 1.39% for the month and 0.94% YTD.

The S&P U.S. Investment Grade Corporate Bond Index returned 0.68% for February.  U.S.-issued bonds, as measured by the S&P U.S. Issued Investment Grade Corporate Bond Index, returned 0.81% for the month.  Meanwhile, foreign-issued U.S. dollar bonds, as measured by the S&P U.S. Foreign Issued Investment Grade Corporate Bond Index, returned 0.28% in February, and since it accounts for 25% of the S&P U.S. Issued Investment Grade Corporate Bond Index, the drag down effect for February hurt the overall return.

In the high-yield category, all but CCC and lower and leveraged loans pulled off positive returns for the month.  In February, the S&P 500 High Yield Corporate Bond Index returned 1.39%, while the broader S&P U.S. High Yield Corporate Bond Index returned 0.40%.  Leveraged loans, as measured by the S&P/LSTA U.S. Leveraged Loan 100 Index, underperformed and returned -0.21% for the month and
-0.64% YTD.  After returning -2.75% for 2015 and losing -0.42% in January, leveraged loans are still bearing the brunt of concern over lower credits.

The yield-to-worst of the S&P/BGCantor Current 10 Year U.S. Treasury Index ended the month 18 bps tighter, at 1.75%.  Continued concerns over commodity prices and the pace of economic recovery both domestically and internationally has kept rates lower.  China continues to be a question mark, as the most recent PMI reports point to a deepening slowdown.

Exhibit-1: Total Rate of Return Performance
Total Rate of Return Performance

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Source: S&P Dow Jones Indices LLC. Data as of Feb. 29, 2016. Past performance is no guarantee of future results.  Table is provided for illustrative purposes.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Asian Fixed Income: PBOC Has Widened Access to China’s Onshore Bond Market for Foreign Investors

Contributor Image
Michele Leung

Director, Fixed Income Indices

S&P Dow Jones Indices

two

On Feb. 24, 2016, the People’s Bank of China announced that offshore commercial banks, insurance companies, securities companies, fund management companies, and pension funds are free to invest in China’s interbank bond market.  Previously, foreign investors could only access China’s onshore bond market through a QFII or RQFII quota.  The removal of the quota system was first implemented for foreign central banks and sovereign wealth funds in July 2015. This new announcement will further encourage the inflows from foreign investors.

In addition, as China’s currency is now part of the International Monetary Fund’s special drawing rights basket, broader use of the renminbi in trade and finance is anticipated.  The global demand for renminbi assets is also expected to continue to grow.

As tracked by the S&P China Bond Index, China’s onshore bond market stood at CNY 38.9 trillion (USD 5.95 trillion) as of Feb. 24, 2016.  The S&P China Bond Index rose 8.05% in 2015 and was up 0.64% as of Feb. 24, 2016 (see Exhibit 1).  The yield-to-maturity was at 3.08% with a modified duration of 4.02 as of the same date.

Exhibit 1: Total Return Performance of the S&P China Bond Index

20150229

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Economy Looking Up

Contributor Image
David Blitzer

Managing Director and Chairman of the Index Committee

S&P Dow Jones Indices

two

Amidst continuing anxiety over financial markets, the U.S. economy turned in some good numbers last week. Fourth quarter GDP was revised upward to 1% real growth from 0.7% with consumer spending up 2.0% at seasonally adjusted real annual rates.  Surveys of forecasters had expected growth to be scaled down to 0.4%. Final sales — GDP excluding inventories – was up at a 1.2% real annual rate.  Residential investment was the stand-out performer, rising at an 8% real annual rate.  Personal income and consumption in January — both up at a 0.5% month pace before adjusting for inflation — beat forecasters’ expectations. Orders for durable goods rebounded strongly from a weak December with strong 5% month on month growth as the non-defense capital goods component was up 3.9% on the month.

Attention will turn to what’s next – the employment report scheduled for March 4th.  One consistent aspect of this economic expansion has been the low number of weekly initial unemployment claims. They continue to run well below 300,000 — the level usually seen as the border between solid growth and possible slowness. Initial claims – the number of people newly out of work filing for unemployment insurance are often cited as a predictor of the unemployment rate. The first chart shows this pattern. Early published forecasts* look for payrolls to rise by about 200,000; much better than the disappointing 151,000 in January but not quite at the recent average of 230,000 per month.  Forecasts suggest the unemployment rate will remain at 4.9%.  Anxiety about the markets will remain, even though both the S&P 500 and oil have so far held above their recent low set on February 11th.

*forecast by Marketwatch

 

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Ex-Energy, Commodities Are Up In 2016

Contributor Image
Jodie Gunzberg

Managing Director, Head of U.S. Equities

S&P Dow Jones Indices

two

As February comes to an end, so might be the commodity catastrophe.  Although the S&P GSCI Total Return lost another 3.2% in the month (through Feb. 26, 2015,) bringing the year-to-date performance down to -8.2%, half of the 24 commodities in the index were positive for the month. Further, at least one commodity from each sector gained in February, and the majority of sectors, 3 of 5, were positive for the month.

The S&P GSCI Precious Metals continue to lead in 2016, adding 8.7% in Feb., for a YTD gain of 14.2%. This is from gold’s gain of 15.1% YTD, making it the best performing commodity in the index for the year, and also for the month, up 9.3% in Feb. However, it’s not the best performing commodity for the month by much with zinc adding 8.1% and sugar up 7.2%.

Zinc’s gain contributed to the positive performance of 3.1% in industrial metals for the month plus all the constituents in the sector gained except nickel. There is tightening supply in the metals, especially in zinc, copper and lead, with the latter two, showing positive roll yields in February.

All three commodities in livestock were also positive in the month for a sector return of 1.5% MTD. Inventory increases in lean hogs reduced their monthly gain to just 24 basis points but the commodity is still posting a YTD gain of 8.7%, making it the third best performer of all the commodities in 2016 – only behind gold and zinc.

The agriculture sector did not fare as well in February, losing 3.3%, despite the gains in the softs. The USDA (United States Department of Agriculture) forecasted increased corn plantings and grain production that hurt the sector. However, sugar had its best day since 1993 from the volatile El Nino weather predicted that may lower supply in the coming year. If this weather pattern continues to reduce crop yields like in historical El Ninos, it may benefit all the prices in the sector.

At the same time, the El Nino is harmful to the performance of natural gas. It was the worst performing commodity for the month with a loss of 24.3%, bringing the S&P GSCI Natural Gas to its lowest level on Feb. 25, 2016 since March 24, 1999, almost 17 years. Since the world production weight is relatively small, the loss didn’t contribute significantly to the sector that lost 6.6% for the month. Petroleum was down 5.3%, despite gasoil’s 3.8% gain, but (WTI) crude oil gains of the magnitude witnessed during the month have only happened around other bottoms. 

Ex-energy, commodities are positive for the year.  The S&P GSCI Non Energy Total Return is up 14 basis points in 2016, finally reaching a turning point after its near 20% loss in 2015. That is pretty good considering the -8.2% loss year-to-date for the S&P GSCI.

Source: S&P Dow Jones Indices
Source: S&P Dow Jones Indices.

It is optimistic given tightening inventories in industrial metals, the weather hurting crop yields in agriculture and the sporadic but big oil gains. In particular, it might be most promising if oil rises since if oil rises, it helps all other commodities.

 

 

 

 

 

The posts on this blog are opinions, not advice. Please read our Disclaimers.