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Why illiquid investments are all the rage and what you need to know about their risks – Financial Post

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You need two ingredients if you want to earn a return above a risk-free investment such as a GIC or government bond: risk and time.

There are four types of investment risk: interest rate and credit (or default) risk relate to the fixed-income market; equity (or ownership) risk is the one investors are most familiar with (i.e., stocks can go down); and the final one, liquidity, which by contrast is poorly understand and worth a deeper dive.

In simple terms, liquidity risk involves sacrificing the ability to sell an investment when you want (daily, weekly or monthly) in exchange for a higher expected return. If you have two identical securities, one that trades daily and the other that can’t be sold for five years, you’d only buy the latter if it had much higher potential.

Sacrificing liquidity is a valuable investment strategy since not all your holdings need to be easily tradeable.

I first learned this from my former partner at Phillips, Hager & North, Tony Gage, who was Canada’s dean of bonds in the 1990s. Gage loved to own “off the run” Government of Canada bonds as opposed to benchmark bonds that were actively traded by brokers. The off-the-runs still had a government guarantee, but offered a slightly higher yield because they weren’t as easy to trade in large amounts — less liquid, in other words. He wasn’t taking additional interest rate or credit risk, but instead sacrificed liquidity for extra return.

Risk versus the reward

How much extra return is required to justify an investment depends on the type of security and how illiquid it is. Small-cap stocks trade erratically so investors expect to buy at a lower price-to-earnings multiple and thus achieve a higher return. High-yield bonds are similar.

Even higher risk premiums are required when buying private companies that don’t trade on an exchange. This is generally done through professionally managed funds that have fixed terms of 10 years or more. In other words, investors have a limited ability to get out (without penalty) prior to the fund’s maturity. Funds may also hold mortgages, loans, real estate, infrastructure and more esoteric investments such as farmland, timber and catastrophe bonds.

Beware the mismatch

The growth of private equity and debt has been a defining feature of this market cycle. Institutions have steadily increased their holdings and even individual investors are getting into the act. Indeed, the proliferation of mutual fund-like products has led to concerns about a growing mismatch: liquid funds investing in illiquid assets.

Freddie Lait, managing partner of U.K.-based Latitude Investment Management LP, put it this way: “Illiquidity is a risk which has been mispriced over the past 10 years as quantitative easing programs have flooded financial systems with cash, and regulators have allowed funds to run liquidity mismatches in their portfolio.”

The potential downside of this mismatch was on full display last year in Lait’s hometown of London. The most intriguing case involved a high-profile manager, Neil Woodford, who, as a headline in The Guardian put it, went from “Bright star to black hole.”

Woodford managed a number of large funds and went through a period of poor performance. But he couldn’t accommodate the withdrawals when investors turned against him because he held too many unlisted companies. To protect existing holders, the funds were closed to redemptions, or “gated,” in hopes the funds could be wound down in an orderly manner.

Such situations are rare when the world is awash with capital and markets are strong, but we’ll see more gates close in the coming years as more mismatched products come to market.

How to benefit from illiquidity

If investors want to take advantage of the fourth risk and avoid a mismatch, they can’t go halfway. These investments need to be truly illiquid. Investing in private companies, real estate, infrastructure, loans and mortgages requires you to provide the fund manager with long-term capital that matches the task. You don’t want to invest alongside others who can leave at a moment’s notice and force the sale of assets at an inopportune time.

It’s also important to target asset types that you’re comfortable owning for a long time and pick a manager who will be around for a decade or more. That’s because the time component of the risk plus time formula is locked in. You’re going to have the investment in your portfolio for a long time.

Financial Post

Tom Bradley is chair and chief investment officer at Steadyhand Investment Funds, a company that offers individual investors low-fee investment funds and clear-cut advice. He can be reached at tbradley@steadyhand.com.

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Boston Beer founder Jim Koch defends hard seltzer investment after disappointing earnings report – CNBC

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Boston Beer Company co-founder Jim Koch defended its heavy investment in hard seltzer Thursday as shares fell after weak guidance and a per-share earnings miss.

“Sometimes growth, it’s not cheap, particularly in something capital-intensive like beer,” Koch said on “Closing Bell.

Hard seltzer, in particular, demands significant investment because “it’s the biggest thing that’s come into the beer business since light beer,” Koch said.

Shares of Boston Beer Company slid 7.6% to $396 Thursday following its after-the-bell earnings report a day earlier. It posted earnings of $1.12 per share for the fourth quarter while analysts had forecast earnings of $1.47 per share.

It also reported full-year EPS guidance of $10.70 to $11.70. Wall Street consensus had been $11.72.

Boston Beer CEO David Burwick said on the earnings call that margins will continue to suffer as it increases capacity to meet demand around hard seltzer.

“We expect this program to run for two to three years and begin showing margin improvement by the first half of 2021,” he said, according to a transcript from The Motley Fool.

The Samuel Adams brewer said it saw triple-digit growth around its hard seltzer brand, Truly, which helped deliver quarterly revenue of $301.3 million. It represents a 33.8% increase compared with the prior year.

Despite Thursday’s slide, Boston Beer’s stock remains up 47% in the past 12 months as the hard seltzer category exploded.

“Let’s not get distracted by what happens today or tomorrow,” Koch said in defense of the company’s strategy. “Let’s make sure we’re building for the future.”

And that’s a future in which Truly plays a critical role, said Koch, who launched the Boston Beer Company in his kitchen in 1984.

The hard seltzer category experienced significant growth and increased competition in 2019 as big players such as Anheuser-Busch launched products to compete with Truly and White Claw.

Constellation Brands also said it plans to launch a line of Corona hard seltzers this spring.

Hard seltzer makes up 2.6% of the total U.S. market for alcohol, which is an increase from 0.85% a year ago, according to the IWSR.

“We really don’t know how far is up” for hard seltzer, Koch said.

So far, Koch said, the fresh competition from Bud Light Seltzer has not hurt Truly’s popularity among consumers.

“We were actually very pleased with the entrance of Bud Light Seltzer,” he said. “Since Bud Light Seltzer’s been introduced, we’re the only hard seltzer that actually gained market share.”

Koch said hard seltzer’s growth has far exceeded what Boston Beer expected when it launched Truly about four years ago. It’s appealing to a wider range of consumers than they thought, Koch said.

“It kind of presses all the buttons. Great taste. Not much compromise. Health and wellness cues,” Koch said. “We think that the category can double again in 2020.”

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Intel is a good investment and a bad trade, this investor says – Cantech Letter

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Andrew Pyle

US semiconductor name Intel (Intel Stock Quote, Chart, News NASDAQ:INTC) has had a great run over the past few months but is there more upside to come?

Likely in the long term, says Scotia Wealth’s Andrew Pyle, but for short term traders you might want to look elsewhere.

“The tech sector has been on fire, with the NASDAQ hitting another record high [on Tuesday]. I still like Intel right now,” says Pyle, portfolio manager for Scotia Wealth Management, who spoke to BNN Bloomberg on Wednesday.

After staying range-bound for a good year and a half, Intel broke out last fall to post a 25 per cent return for 2019, while so far in 2020 the stock is already up ten per cent and is now hanging around $66-$67 in recent weeks. (All figures in US dollars.)

“We seem to be having a bit of an issue in getting the stock up to the $70 range,” says Pyle. “We’re seeing a bit of consolidation right now which is a little bit different from what we’ve seen from some of the other high-fliers in the tech sector,” he said. “Having said that, I still think the fundamentals for Intel are good for a long-term play.”

“If we’re looking at five years out or more I think these levels are probably still attractive. For a short-term trade, I’d probably say we’re a little bit pricey right now,” Pyle said.

Intel’s share price got a nice boost near the end of January on the company’s fourth quarter earnings which surprised analysts with better-than-expected top and bottom line results.

Intel’s revenue climbed eight per cent year-over-year to $20.21 billion whereas analysts were calling for $19.23 billion, while earnings came in at $1.52 per share excluding certain items compared to the Street’s estimate at $1.25 per share.

The company saw just two per cent growth in its Client Computing segment but posted a whopping 19 per cent increase in its Data Center Group which manufactures chips for computer servers, with the rise being attributed to more business in cloud computing, especially by the big names in the field, the so-called hyperscale companies such as Amazon, Microsoft, Alibaba and Baidu.

Looking ahead, Intel management has called for 2020 revenue of $73.5 billion compared to 2019’s $72.0 billion.

“In 2019, we gained share in an expanded addressable market that demands more performance to process, move and store data,” said Bob Swan, Intel CEO, in the fourth quarter press release. “One year into our long-term financial plan, we have outperformed our revenue and EPS expectations. Looking ahead, we are investing to win the technology inflections of the future, play a bigger role in the success of our customers and increase shareholder returns.”

Intel is facing rising competition across many of its businesses from Advanced Micro Devices, among others, which has been gaining market share from Intel. AMD’s share price rose 148 per cent last year and has kept up the pace so far in 2020 by climbing 27 per cent so far.

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Swensen reaffirms climate change as a guiding factor in investment policy – Yale News

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David Swensen, Yale University’s chief investment officer, this week underscored the importance of environmental sustainability in the university’s investment choices.

In a Feb. 20 letter to the university community, Swensen offered an update on Yale’s approach to incorporating the risks of climate change in investment decisions. The letter follows another letter Swensen wrote to the Yale community in 2016 offering a first progress report on an effort the Investments Office began in 2014 to give climate-change-related guidance to Yale’s external investment managers, who collectively manage nearly all of the endowment portfolio.

Climate change,” Swensen writes in his latest letter, “poses a grave threat to human existence and society must transition to cleaner energy sources. This is a formidable task that requires swift and dramatic action on a global scale. The solution involves a combination of government policy, technological innovation and changes in individual behavior.”

Swensen writes that Yale’s greatest impact in fighting climate change will come through its research, scholarship and education, and notes that the university has committed to reducing its own carbon footprint. Yale President Peter Salovey has led an acceleration of these efforts: Provost Scott Strobel has been charged with convening relevant faculty leadership around a university-wide push for planetary solutions, and a committee charged with finding a way to get the campus to net-zero carbon emissions is due to issue a report soon. Meanwhile, Yale continues to be nearly unique in imposing a carbon charge on all of its buildings.

Yale was one of the first institutions to address formally the ethical responsibilities of institutional investors. In 1969, a small group of Yale faculty and graduate students conducted a seminar exploring the ethical, economic, and legal implications of institutional investments; this led to the publication in 1972 of “The Ethical Investor: Universities and Corporate Responsibility,” which established criteria and procedures by which a university could respond to requests from members of its community to consider factors in addition to economic return when making investment decisions and exercising rights as a shareholder. When in that year the Yale Corporation adopted the book’s guidelines, Yale became, according to The New York Times, “the first major university to resolve this issue by abandoning the role of passive institutional investor.” Swensen has been integral to this approach since his arrival at Yale in 1985.

Within the resulting procedural framework, the board of trustees’ Corporation Committee on Investor Responsibility (CCIR) is advised and supported by the Advisory Committee on Investor Responsibility (ACIR), which is composed of faculty, students, staff, and alumni. In 2014, the CCIR considered the request from some students for divestment from the fossil-fuel industry.  The CCIR decided against divestment, largely on the grounds that assigning blame to the supply side of the carbon problem would distract from the fundamental, and shared, problem of demand.

In response to President Salovey’s challenge to find a way to address climate change issues in Yale’s investments, the Investments Office conceived and executed a plan that would guide the endowment toward increasingly green investments. Beginning in 2014, the university has asked all investment managers to incorporate the full costs of carbon emissions in investment decisions. As Swensen notes in the current letter and in his 2016 letter, the university asks its investment managers to avoid investing in companies that disregard the social and financial costs of climate change and that fail to take economically sensible steps to reduce greenhouse gas emissions.

Yale further asks investment managers to assess the greenhouse gas footprint of prospective investments, as well as the costs to expected returns of climate change consequences and of possible future policies aimed at reducing greenhouse gases.

Yale’s investment approach to climate change contributes to the broader societal goal of transitioning to clean energy,” Swensen writes.

In keeping with this approach, Yale has in recent years, through its investment managers, jettisoned holdings in thermal coal companies and oil sands producers, because they are inconsistent with the university’s investment principles, he reports.

The remaining thermal coal private investments are on their way out of the portfolio,” Swensen writes. Yale’s investment in thermal coal and oil sands has dropped from 0.24% of the endowment’s market value in 2014 to about 0.02% today, according to the letter.

The letter provides examples of successful steps taken by Yale’s investment managers to improve the environmental sustainability of investments for which they are responsible.

For many managers, Yale is often one of the more significant investment partners, placing the university in a strong position to influence a manager to incorporate the risks of climate change into investment decisions,” Swensen writes.

Ultimately, he writes, the result of Yale’s approach is that “investments with large greenhouse gas footprints are disadvantaged relative to investments with small greenhouse gas footprints. When taking into account the full costs of climate change, investment capital flows towards less carbon-intensive businesses and away from more carbon-intensive businesses.”

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