KEEP CALM AND CARRY ON
“If you are a young person here in the UK you should be heading east – it is the place to go. If I were young and single, I would be heading for Hong Kong.”
Gilbert’s advice to Britain’s young people struggling to find jobs or land university places underscored the dire state of the Western economy as markets crashed yet again last week.
A string of bad economic data from the US and Europe and a warning from Morgan Stanley that both were “dangerously close to a recession” drove a wave of panic selling as confidence and markets dropped vertiginously. On Thursday, the Square Mile’s traders went home with their heads in their hands as London’s stock market suffered its severest fall since the depths of the financial crisis.
Investors piled into gold and bonds, while bank shares – including state-backed Lloyds Banking Group and Royal Bank of Scotland – fell to two-and-a-half-year lows. The FTSE-dipped below the 5,000 mark during early trading on Friday before recovering its composure.
While Gilbert has not seen the likes before in his long career at the helm of one of the UK’s leading asset managers, he retains the confidence to take a contrarian’s view of the markets.
“What we try and do is stop people from trading. Keep calm,” says Gilbert. “When the markets go down like they have, buy the stocks you like because they are cheaper, rather than sell. It is a difficult thing to do nothing when there is this volatility, but that is what we try to encourage people to do.”
The sell-offs were prompted in part by an obscure survey of factory activity in Philadelphia, which collapsed to minus 30 in August. Investors took fright because whenever the indicator fell past minus 20 in the past 40 years, the US economy was either already in recession or hurtling towards one. But short-term funding concerns over Europe’s banks also weighed heavily.
Despite the renewed panic, Gilbert remains confident that Europe will “muddle through”. This is despite uncertainty emerging over the soundness of a pact forged by German chancellor Angela Merkel and French president Nicolas Sarkozy last week to support its weaker member states.
The answer, according to Gilbert, is the eurobond – a simple but deeply unpopular solution in Germany and at the ECB. Following the market crashes, Juergen Stark, the ECB’s chief economist backed Merkel’s anti-eurobond stance, arguing that such bonds would increase the borrowing costs of financially solid Germany. He argued that their introduction without deeper political integration would address “the symptoms and not the causes”. A poll released on Thursday found that 76 per cent of Germans opposed them and only 15 per cent were in favour.
But a number of analysts now believe the ongoing crisis – not to mention last week’s rout which saw investors pile into US bonds and the dollar at the expense of Europe – will force politicians’ hands.
“There is no desire among countries in the Eurozone to split up, there’s no rioting in the streets demanding the disbanding of the euro,” says Gilbert.
“We do think it is unsustainable in its present form. We have been saying for a long time at Aberdeen, if you have single currency you have got to have a single bond. The eurobond is the only way it can be saved. France and Germany will come round to that eventually.”
Gilbert admits the move would present risks for investors as a single bond could result in them having to take a “haircut” on the value of their loans to European governments.
In a rare admission from a serious investor, Gilbert sees that struggling European sovereigns will have no choice but to renegotiate with their lenders.
“What we are seeing is a grossly unfair situation, where the population of Europe is taking 100 per cent of the pain,” says Gilbert. “In socio-economic terms the solution so far has been totally unfair because bond holders have not taken any percentage of pain, and they will have to as well. You can’t expect the population to take it all.”
But this isn’t just a matter of making banks, pension funds and hedge funds take their share of the burden. Gilbert believes that even this strategy still risks bringing on another “Lehman event”.
“The big question is you know who owns the bonds but you don’t know who has the credit default swaps [a kind of insurance that protects a lender in the event of a loan default] – and who that might bring down,” Gilbert says. “In the 2008 crisis it brought down [US insurance giant] AIG. We just don’t know who is holding that insurance. That to me is a big worry in the euro economy.”
But that is why AAM and its £185 billion or so under management is investing elsewhere, mainly in Asia.
“I have been saying for 20 years, having worked with Hugh Young [AAM’s managing director, Asia] in Singapore, that we will eventually see the power shift back to Asia,” says Gilbert. “Asia has been the centre of power in the last 18 out of 20 centuries. It is only the last 200 years that power switched to the West because of the steam engine and heavy engineering that came here. Asia is just getting back to what they regard as their true position in the world. There will be a change over now. By 2013, 2014, or 2015 China will be a bigger economy than the US.”
He says AAM is one of the largest Asian investors in the world, holding around $80bn (£48bn) in assets mainly through companies based in Hong Kong, where corporate governance is more important than in other Asian economies, notably China. But while he sees an epochal shift to the East, Gilbert does not believe this signals the end of the game for the US or Europe either.
“We are seeing this dual situation in Europe where the governments are in poor shape because they are heavily indebted, but the companies are in fantastic shape,” says Gilbert. “Not that you should write off the US either. More than half the world’s wealth is in the US and they have some very good companies with very good global footprint. If you are investing in equities you have got to disregard the economies and look at the companies.”
Nor is he completely gloomy on the UK’s prospects. Although recent figures from the Office for National Statistics on public sector net borrowing have cast doubt on the speed of the government’s deficit reduction plan, with expectation of lower than anticipated tax revenues due to a sluggish economy, investors generally believe in Chancellor George Osborne’s austerity plans. So far, the UK has held onto its prized triple A credit rating.
He says: “On this occasion I think Osborne is doing a good job, and it is clearly helping with the ratings agencies, and it is helping with global investors. They are confident of his strategy. Not that the ratings agencies matter. They cut the US rating and the yield goes down. We have always been of the view here at Aberdeen that you’ve got to do your own research.”
Yet while supporting austerity measures in the UK, he is also broadly in favour of First Minister Alex Salmond’s “plan B” – which in part involves securing investment, particularly in infrastructure, specifically for Scotland.
Salmond, Gilbert says, is an “impressive guy. He’s very pro business. I find it really quite interesting he’s managed to attract the support of the vast majority of the business community when his party has been traditionally perceived as left wing. The problem is the government has got too big down south, it has to downsize. That is the issue UK-wide.”
While Andrew Tyrie’s Treasury Select Committee last week slammed the private finance initiative, used by the Labour government to fund investment in hospitals and roads through long term borrowing, Gilbert maintains it makes sense – albeit it has to be negotiated correctly.
“It was a way of turning capital expenditure to recurring expenditure which is what it should be,” says Gilbert.
“You can live with both, trying to cut the cost of recurring revenue but try and come up with a method of funding capital expenditure, or else you are not going to reinvest. We have seen the consequences of that with the railway system.”
He also believes that if Scotland were to raise its own borrowings – through so called “Kilts” – it might just work.
“It depends on confidence and if investors thought the country was being run well,” says Gilbert. “We are small enough to really change the way we borrow money. But you would have to set them up in a transparent manner. Right now you don’t know if you are lending money to the British government whether it is being used to build something or pay for the benefits. That is the big issue.”