Henley Outlook June12

Monthly Market Outlook
June 2012
Being an asset allocator is all about risk, and sometimes reward; but
now it feels more like juggling hand grenades. Never a dull moment!
The short-term focus remains on Europe, where much has happened
in the last month. As expected, the day of the French presidential
election and the Greek parliamentary elections, 6th May, will probably
go down as the day Europe changed profoundly.

The Henley Outlook
June 2012
THE WEALTH MANAGEMENT PROFESSIONALS

The Henley Outlook
June 2012

Overview

ASSET CLASS HOUSE VIEW REMARKS

Fixed Income Investment Grade

High Yield
Student accommodation only
Property

Equities US

Japan

UK

Europe Ex UK

Australia

ASEAN
Broad equity exposure
Greater China including the region preferred

India

Other Emerging Markets

Commodities Energy

Precious Metals

Industrial Metals

Agriculture
Selective strategies only
Alternative Investments

Key: Positive Neutral Negative

The Henley Group Limited The Henley Outlook: 2
An SFC Licensed investment adviser in Hong Kong Hong Kong, Singapore & Shanghai
Suite 2004-08, 20/F, St George’s Building, 2 Ice House Street, Central, Hong Kong
info@thehenleygroup.com.hk www.thehenleygroup.com.hk

The Henley Outlook
June 2012

Global Overview
Being an asset allocator is all about risk, and
sometimes reward; but now it feels more like
juggling hand grenades. Never a dull moment!

The short-term focus remains on Europe, where
much has happened in the last month. As expected,
the day of the French presidential election and
the Greek parliamentary elections, 6th May, will
probably go down as the day Europe changed
profoundly. It was the day people were heard in
several languages to say “No!” to austerity; but it
was also the day the crisis in Europe mushroomed
from being largely financial into a fully-fledged
political crisis.

The G8 and European Union summits, which took
place shortly afterwards, were acrimonious affairs
in which Germany refused to join the cheerleaders
for growth, knowing full well who would have to foot the bill. Suddenly, instead of being in control of Europe, Germany
seems isolated and on the back foot. It is tempting to think that Germany will decide that its best interests lie in being the
first to leave the euro itself, after which the new deutsche mark would revalue against the euro and help the euro zone
economy rebalance. Doing so might even get Angela Merkel re-elected in 2013. There’s a thought!

Of more immediate concern, however, is that Greece could run out of money before the end of the month if bailout funds
are cut off after the election. The Greek banks already have run out and are on various forms of life support after a long,
slow-motion run on deposits.

The run on the Spanish banks is also continuing. They lost another EUR31bn of deposits in April. In addition to deposit
flight, it is estimated that they will need a further EUR200bn to cover loan losses, mainly on real estate. At the same
time, Spain’s seventeen regional governments need to refinance some EUR36bn of debt this year, and have nowhere to
go for it but the central government. Just one bank, Bankia, is already costing the Spanish government EUR23.5bn it
does not have.

We don’t need jugglers. We need conjurers!

The proposal from Germany for a EUR2.3tn European Redemption Pact offers one possible route to salvation. Euro zone
member sovereign debts in excess of 60% of gross domestic product would be transferred to a separate, pooled fund
and paid off jointly over twenty years using designated tithes. This is akin to Germany’s “Solidarity Surcharge” which was
used to pay for the reunification with East Germany in the 1990s. About EUR115bn a year, plus interest. Hmmm. The fact
that nations would have to pledge their gold reserves as collateral against default reinforces our conviction that gold will
be at the heart of the outcome of the global mess.

Perhaps an even bigger development for gold is that the Bank of International Settlements, which sets capital-adequacy
rules for banks globally, is considering raising gold from “Tier 3” (which wears a 50% haircut when calculating capital
adequacy) to “Tier 1” (which suffers no haircut). This could be a game changer for gold. It would be a major endorsement
of its role in preserving wealth and as a store of value from the highest financial authority. It would lead to significant
purchases of gold by major financial institutions; to a reappraisal of its value with respect to other Tier 1 capital (such as
sovereign debt), and provide diversification from US dollars and US treasuries.

An upward revaluation of gold would seem like the logical next step!


The Henley Outlook
June 2012

Amid all this hand wringing about Europe and its failed experiment, it would be a mistake to take one’s eyes off the other
hand grenades.

In China, bank data suggest that a major credit slowdown has begun. Demand for cars and homes has fallen, and
inventories of both are rising. Manufacturing growth and house prices have both fallen for seven consecutive months.
Manufacturing is actually contracting. We can expect more monetary loosening and a lower yuan.

Lest I be accused of being perennially negative (stuff and nonsense!), US consumer confidence last month hit the highest
level since October 2007, when the S&P500 peaked. This is a somewhat puzzling piece of news. Real incomes are falling
and job creation is not keeping pace with the rising population, more of whom than ever – forty-six million – are on food
stamps. The markets are jittery as at the end of this month we approach the conclusion of Operation Twist (the Federal
Reserve’s current method of keeping longer-dated yields repressed).

Asset prices are crying out for more stimulus and the time for announcing what form it will take is running out. It would
be considered too overtly political for the Federal Reserve to make an announcement too close to the November elections;
but, no doubt falling stock markets and one or two weak employment reports will trip the money printing presses back
to life in the next couple of months. The US only raises forty-six cents out of every dollar it spends from taxes. The other
fifty-four cents have to come from other sources. The Bank of England, the European Central Bank and the Bank of Japan
will also print, but not necessarily in that order. China will also print once the leadership transition is out of the way. All
will deny it, until they actually do it.

Another hand grenade (Warren Buffett called them “financial weapons of mass destruction”) is the derivatives universe.
There have been numerous explosions over the years (Long-term Capital Management (LTCM) in 1998 and the train wreck
that was 2008, to name but two). Now we have JP Morgan Chase struggling to contain a detonation. So far they have
admitted to USD2bn of damage, but it is thought to have risen since to USD8bn (some say an awful lot more).

Last week came the announcement that a US government committee chaired by the Secretary of the Treasury is to
declare the COMEX and the ICE (two New York derivatives exchanges) systemically important, ie, too big to fail. This
would mean that, in the event of the commodity futures default, we have been postulating for some time, the Federal
Reserve would pay cash to the defaulted party. Why are they preparing for a default, and why now? Something to do with
Iran, I wonder? Or Morgan?

But the real cliff hanger this month is of course the fate of Greece and the euro. Neither the Greeks nor the technocrats
nor the politicians nor the bankers want Greece to leave the euro. The Greek people are still in denial about the euro being
at the root of their ills. They associate the common currency with easy credit, low interest rates, low inflation and good
times. They associate the drachma with the bad old days of scarce credit, high interest rates and high inflation.

Unfortunately, that Greece will leave the euro this month is not a foregone conclusion. However, although an unimaginably
bitter and expensive pill to swallow, leaving is what Greece needs to do. The greater tragedy for them would be if they did
not. Perhaps Spain will beat them to it!

Peter Wynn Williams
Investment Director
pww@thehenleygroup.com.hk


The Henley Outlook
June 2012

Cash & Currencies

USD Index (Source: Bloomberg)

Summary
• Not a lot of activity this month across the board.
• JPY was flat but remained weaker YTD against USD for the first reversal in trend in a long time. It did however rebound
slightly from strong support at 84.
• GBP/EUR was also range bound, but since Dec2008 the GBP has gradually been regaining strength against the EUR,
but not at a strong pace. Focus for the euro turned to Spain throughout April.
• AUD weakened further against the USD, but remains above parity.
• The trading band for the SGD was altered to ‘stronger’ by the Monetary Authority of Singapore (MAS) following their
biannual meeting. This change was due to increased GDP and increased inflationary pressure.

HENLEY ASSESSMENT:
Unchanged: Negative USD, GBP and EUR over medium-to-long term against trade-weighted basket of
currencies. The euro is unlikely to continue in its current form. If the risk appetite remains strong, then we
should start to see funds flowing out of the ‘safe haven’ USD, thus weakening its position.


The Henley Outlook
June 2012

Fixed Income
Positives
• Interest rates will remain low for the foreseeable future as economic recovery is anaemic in most developed economies.
We believe the central banks will come up with more easing measures and the labour market —not inflation— holds
the key to future.
• Overall credit quality of Asian and emerging markets remains intact with low levels of debt and record high reserve
cushions.
Negatives
• Yields of US treasuries, German bunds and UK gilts all fell to record low levels (10-yr: 1.74%, 1.36% and 1.76%
respectively) as euro zone sparked further safe-haven buying of top-tier government bonds. German borrowing costs
have plunged to the lowest on record amid mounting concern that Greece will exit the currency area.
• Spain is set to recapitalise Bankia through a government-bonds-for-share-swap arrangement, which would increase
pressure to debt issuance. More importantly, investors remain sceptical that Spain has dealt adequately with its distressed
lenders, sending its 10-yr government bond yields up 17bps to 6.48% (a new record spread vs. German bund).

HENLEY ASSESSMENT:
Negative. Recovery rate is the average
proportion of bad debt recovered. It is an
important validation of default probabilities
and default correlations which is often
neglected in credit risk analysis. In the past
decade, recoveries normally rise in a low
default environment and vice versa. The
relationship between higher recovery rates
and lower default has diverged significantly
over the past 24 months. The graph (shown
right) is a reflection of the current challenging
environment for raising capital, despite
numerous interventions by the central banks.
Given the weakening trend in recovery, we
should be more conservative in analysing source: Deutsche Bank, M&G Investments, April 2012
corporate credit and its compensation to
investors, even in the face of low default rates.


The Henley Outlook
June 2012

Property
Positives
• Estate agent Knight Frank reported that the continuing fear that the euro would collapse is contributing to the rise
in central London property values as buyers from Greece, Spain and now France are actively seeking a safe haven for
their money. In the first quarter, overseas buyers accounted for 62% of purchases in central London, a figure which
compares to 55% in Q12011. Prime Central London property prices increased by 1.1% in March; YOY prices increased
by 11.3%. Central London property prices are now 20% above their 2007 peak. A shortage of housing stock for sale in
Central London is pushing buyers out into more peripheral areas.
• In Singapore, home sales climbed to 6,458 units in Q12012, the highest quarterly figure since 1996. Developers have
increased sales by offering smaller units (called “shoebox” apartments, as they are smaller than 50sqm in size).
Shoebox apartments accounted for 27% of new sales in the first quarter, when private home prices fell for the first
time in almost three years following curbs that included more stringent mortgage requirements and higher taxes.
However, it is thought that Singapore’s property market is heading for a soft landing.
• The new Hong Kong Financial Secretary John Tsang is “highly concerned about the risk of a price bubble” as low
interest rates still persist. His stated intention is to release land supply and it is thought he will be less likely to support
residential property prices upon price falls. Hong Kong housing prices have risen more than 70% between the start
of 2009 and mid-2011 on record low mortgage rates and an influx of Chinese buyers. Centaline Property Agency has
stated that prices have risen almost 4% this year, after falling 5% in 2H 2011.
Negatives
• According to Nationwide, British home prices edged lower in April and YOY are down 0.9%. This comes at a time when
home loans are becoming more expensive because of rising funding costs as a result of the European credit crisis.
According to consumer group Which, one in five of the homeowners they surveyed said that a £100 increase in their
monthly mortgage payment would leave them without money for essentials – like food.
• Australian home prices fell in the first quarter of 2012 by 1.1%, and 4.5% YOY. This is the longest losing streak in
almost a decade and leaves Australia with the highest borrowing costs amongst developed nations. As a result, the
Reserve Bank of Australia cut the benchmark interest rate by 0.5% to 3.75%, the deepest reduction in three years.
• In China, the government continues to strike a delicate balance to slow housing price growth while also trying to avoid
a collapse. Home sales fell 18% in the first quarter and contributed to the slowest economic growth in three years.
Borrowing costs for first time homebuyers are being reduced to encourage wider property ownership, but the government
is keeping the curbs in place to stem the speculators who have helped push up prises by up to 140% since 1998.

HENLEY ASSESSMENT:
Neutral. Property prices generally stabilised in 2010 and 2011 after significant falls in 2009. Property values
have recovered in selected areas such as Asia and London, but fundamentals remain weak elsewhere. However,
we still consider some specialised property assets (such as student accommodation/ground rent income) to
merit inclusion in our portfolios. Other than these investments, we would suggest that clients do not invest
further at this time.


The Henley Outlook
June 2012

Equities
US
Positives
• US economy is highly flexible, resilient and leads world in technology and innovation.
• Federal Reserve has forecast that rates will remain unchanged until at least late 2014.
• Further monetary easing in 2H12 will boost asset prices in nominal terms.
Negatives
• National debt: USD15.75tn and rising; debt to GDP: 104%and rising. Absurdly unsustainable.
• Housing market is in depression. Prices at 10-year lows.
• Real incomes falling; only 41.6% of working-age Americans has a full-time job.
• Political system dysfunctional; possible fiscal cliff and debt ceiling to negotiate at end of 2012.

HENLEY ASSESSMENT:
Negative. The latest consumer earnings and credit numbers show ongoing structural deterioration in consumer
liquidity. With lack of positive, real (inflation-adjusted) growth in income, there can be no sustainable growth
in real personal consumption (71% of GDP). Temporary consumption gains could be fuelled by debt expansion,
but that option is not available to most consumers. Broad economic activity remains likely to bottom-bounce
for the foreseeable future.

JAPAN
Positives
• Despite its recent rebound to JPY79, JPY is
likely to continue to weaken on prospects of
more easing. Another important shift is the
USD-JPY pair is no longer strongly positively
correlated to US stocks and US yields. We are
monitoring critical elements such as overseas
direct investment flows and current account
balance.
Negatives
• Fitch Ratings cut Japan’s sovereign rating to
A-plus citing Japan’s spiralling debt problem
(now c.230% of GDP).
• Japan’s jobless rate rose for first time in three
months to 4.6%, underscoring concern that an
economic recovery will lose momentum in the
face of Europe’s crisis.

HENLEY ASSESSMENT:
Neutral. Bank of Japan (BOJ) has been fighting political pressure and excessive market expectations since it
declared the inflation goal of 1%. The central bank has recently announced it will buy an additional JPY10tn
(USD124.74bn) in Japanese Government Bonds (JGBs) and extend the maturity of bonds it buys from two-yr
to three-yr. Yet, policymakers are calling for BOJ to purchase even longer-term JGBs and are threatening to
change laws to reduce the independence of BOJ. In our opinion, politics can be a distraction from efforts of
improving fiscal conditions and strengthening growth potential in Japan.


The Henley Outlook
June 2012

UK
Positives
• The jobless rate fell to 8.2% of the workforce, the lowest since Aug11, compared to 8.3% in the previous month. In
addition, Apr12 jobless claims fell by 13,700 versus expectations for a 5,000 rise.
• Concern over UK’s high inflation rate appeared to trump fears of a renewed recession, as BoE allowed its GBP 50bn
programme of gilts purchases to come to an end.
Negatives
• The Bank of England (BoE) lowered its growth and inflation forecasts and is tuning its contingency plans for weaker
growth caused by the European debt crisis. Growth forecast for the year was cut to 0.8% from 1.2%.
• In its quarterly Inflation Report the BoE forecast that UK inflation will remain above 2% for longer than previously
forecast, but will drop to +1.6% in two years, below the 2% inflation target.
• The same report also said that the euro zone crisis was not the only issue weighing on the UK economy, with volatile
energy and commodity costs, and the squeeze on household earnings also having an impact.

HENLEY ASSESSMENT:
Negative. There is no doubt the impact of a breakup of the euro zone on the UK would be bad – at least in
the short run – even if the longer-run effect of breakup is less clear cut. Short-run hits would probably include
lower exports to Greece and other euro zone countries; weaker asset prices; a rise in sterling compared with
the current euro zone average; a direct hit to financial sector output, and a new credit crunch and a drop
in confidence. The broader concern is a sharp fall in market confidence which might exacerbate the severe
shortage of small business lending and trigger more job cuts in Britain’s financial sector.

EUROPE ex UK
Positives
• The euro area avoided its second recession in three years as 0.5% growth in Germany offset contractions in peripheral areas.
Negatives
• The 6May12 election in Greece left the two parties that supported the international rescue as part of an interim
government this year, New Democracy and Pasok, short of the seats needed for a majority in Parliament.
• The votes also propelled the Syriza party, which opposes the austerity measures, to second place. The parties will
reconvene for a second election on 17Jun12 and there are fears that Syriza party will win the majority of the votes.
Failure to form a government that would implement the bailout terms would mean a “probable” exit from the currency
union.
• Greece’s credit rating was cut to CCC from B- by Fitch Ratings on concerns the country won’t be able to muster the
political support needed to sustain its membership in the euro zone.
• Spain was forced to nationalise its fourth largest bank, Bankia, floated only last year. The bank share price sank 14%
after depositors reportedly withdrew EUR1bn in the past week.
• Moody’s downgraded 16 Spanish banks, including Banco Santander, the euro zone’s largest bank, citing a weak
economy and the government’s reduced ability to support troubled lenders.

HENLEY ASSESSMENT:
Strongly negative. With the Syriza party gaining traction in the Greek elections and Francois Hollande voted
in as the French President, the message to the euro governments is clear: the public is fed up with austerity
measures. More importantly, the idea of a Greek exit from the euro zone has been bandied around recently.
Initial calculations of the cost of a Greek exit has been put as high as USD1tn. If Greece were to default and
leave the euro, direct costs would include the hit that other European countries and the IMF would have to
take on holdings of Greek debt. However, what really scares the economists is the spillover effect of a Greek
departure, especially the contagion risks threatening other fragile economies, such as that of Italy and Spain.


The Henley Outlook
June 2012

AUSTRALIA
Positives
• The Australian economy is in pretty good shape (apart from, perhaps, the wave of sackings announced recently).
Unemployment has fallen, according to the latest national statistics; the currency is strong; GDP is on trend and holding
up; there is a once-in-a-generation investment boom going on, and the government is heading back into surplus.
Negatives
• The Reserve Bank of Australia left interest rates unchanged. While it appears to retain a bias to ease, its hurdle to do
so looks higher than earlier thought, requiring a “material” weakening in the domestic economy.
• Household debt is 150% of disposable income, up from 50% 25 years ago, and has been stuck at that level for five
years. The key cause is the price of land in Australia; it is one of the least populated countries on earth yet land is
about the most expensive.
• The combination of rising population, a lack of arable land and artificial restrictions on residential development in
cities has led to a six-fold rise in the median house price since 1986, from $93,000 to $550,000 now. Over the same
period, average household incomes have risen 3.5 times.
• Other countries in Australia’s position build massive sovereign wealth funds. Australia has a relatively small one (the
Future Fund) with a specific purpose: to provide for unfunded public service pensions

HENLEY ASSESSMENT:
Negative (except the commodity sector which we like). The Australian economy is a double-edged sword: it
is expected to grow a little below trend, although the make up of the growth will be heavily tilted towards
mining investment. Key headwinds for the non-mining sectors will be 1) ongoing deleveraging by the
household sector; 2) caution by the corporate; 3) maintenance of a relatively high Australian dollar, and 4)
fiscal tightening by the authorities.

ASEAN
Positives
• Bank Negara Malaysia kept the benchmark overnight policy rate unchanged at 3%, Bank Indonesia left the rate
unchanged at 5.75%, Thailand also refrained from further rate cuts.
• Thailand’s economy unexpectedly expanded in the first quarter as factories resumed production and domestic
consumption revived after last year’s floods.
• Philippines’ electronic exports also benefited from a recovery in Thailand’s exports given their close linkage.
Negatives
• Asian nations face risks stemming from Greece’s inability to form a new government after an inconclusive election that
could deepen Europe’s debt crisis, adding to challenges from a China growth slowdown and an uneven US recovery.
• Malaysia’s overseas sales unexpectedly fell in March as manufacturers such as Unisem (M) Bhd. and Malaysian Pacific
Industries Bhd. (MPI) shipped fewer electrical and electronics products, bolstering the case for the central bank to
hold off from interest-rate increases.

Henley Assessment:
Neutral. Signs of weakening demand for Asian goods have emerged, with Malaysia, Thailand and the Philippines
all reporting export declines. Weak European demand is particularly troubling for countries including Singapore
and Thailand, where exports make up the equivalent of half or more of GDP. Fortunately, inflation is still
manageable in this circumstance, but it also imposes restriction on central banks’ policy options.


The Henley Outlook
June 2012

Greater China
Positives
• People’s Bank of China (PBoC) cut reserve-rate requirement by
0.5% to 20%.
• China accelerated approvals for Qualified Foreign Institutional
Investors.
• Consumer prices in China now appear more under control. (Apr:
+3.4%).
• Despite the weak GDP growth, Taiwan is expected to enter a
stronger cyclical upturn.
Negatives
• China’s current account surplus has declined from a pre-crisis peak
of 10.1% of GDP in 2007 to 2.8% of GDP in 2011. The slowdown
in capital inflow that we have seen is likely to accelerate and the
eventual result will be the current account moving gradually into
deficit.
• China’s A-share Q1 corporate revenue up 10.4%, earnings increased
0.6%.
• Wage-based unit labour costs in China resumed their upward trend
at the fastest pace in at least a decade.
• A huge amount of off-balance-sheet debts and the shadow banking
system are two time bombs, providing a massive threat to China’s
fundamental economy.

Henley Assessment:
Neutral. The Chinese government has been uncharacteristically slow to respond to the slowdown in the
economy this spring. One of the possible reasons is the suspension of Politburo member, Bo Xilai, which may be
distracting Chinese leaders from day-to-day management of the economy. However, looking forward, if these
ongoing structural reforms – focusing on raising household income, boosting consumption and facilitating
expansion of the service sector according to the 12th 5-Year Plan – are implemented, China has the potential
for domestic consumption, rather than investment, to drive future declines in its current account surplus.

INDIA
Positives
• Extension in the income tax exemption to retirement funds under 2,700 private PF Trusts will benefit 4.6m investors
until March 31, 2013.
• Country’s central bank, the Reserve Bank of India (RBI), reduced its policy repo rate by 50bps to 8.00% for the first
time in three years.
Negatives
• India’s industrial output fell 3.5% in March YOY while manufacturing, which accounts for 76% of industrial production,
shrank 4.4%.
• Owing to deteriorating economic indicators and a slow-paced fiscal situation, Standard & Poor’s downgraded India’s
outlook to negative from stable.
• INR slumped to an all-time low of 56.50 against the USD on May 31 over growing concerns about the economic
challenges facing the country, as well as challenges from the on-going euro zone crisis.

HENLEY ASSESSMENT:
Neutral. The persistent trade deficit, the huge fiscal deficit, the implementation of General Anti-Avoidance
Rules (GAAR), tax concerns, the weak INR, the government’s inaction toward reforms and the uncertainty in
global markets pose a threat for investors in India.


The Henley Outlook
June 2012

Other Emerging Markets (South Korea, Russia, Brazil)
Positives
• Brazil’s central bank lowered its inflation
forecast boosting hopes for another interest
rate cut which would also help to dampen the
strength of the currency.
• Mexico’s bolsa gained 3.1%to end the
first quarter at a record high over growing
optimism over the outlook for the local
economy.
• As the chart right illustrates, many Asian
emerging market (EM) economies, in
particular via China, Singapore and Korea, are
running very large current account surpluses
which will in turn increase their standing in
global financing in the coming years.
Negatives
• Russia, the world’s second largest exporter
of oil, is currently being hurt by signs of an
increasing oil supply in the US.

Henley Assessment:
Neutral. Whilst there have been developments in emerging markets to create their own internal markets, at
present they do still remain sensitive to a slowdown in western economies through exports. In addition, whilst
the sector as a whole has much higher forecasted growth rates and a younger, more dynamic population, any
fall out in the current sovereign debt crisis will undoubtedly affect these markets also.


The Henley Outlook
June 2012

Commodities
Energy
Positives
• Iran’s nuclear ambitions remain uncertain.
• Difficult conditions on capital markets will make financing for new projects more difficult.
Negatives
• Ongoing debt concerns in Europe and signs of a slowdown in China are adding to negative sentiment.
• China’s net crude imports continues to fall.
• The Saudi’s are advocating a lower oil price.

HENLEY ASSESSMENT:
We downgrade to neutral. The situation in the Middle East remains uncertain and difficult to analyse but it
now appears that the tension between Iran and the West is easing for the timebeing. New talks are scheduled
for June in Moscow. On the macro side, the picture is not pretty with sluggish growth in the US and near
contraction in Europe. Concerns about China is also weighting on the sector. In the longer run we believe the
oil price will go up as demand grows in line with global population growth. Higher costs of production will also
provide support for a higher price.

Precious Metals
Positives
• Gold and silver are a good hedge against financial instability.
• The future of EUR is still uncertain.
• Public debt buildup on both sides of the Atlantic shows no sign of slowing.
Negatives
• Temporary USD strength puts pressure on the gold price.
• Current sentiment for precious metals is depressed.

HENLEY ASSESSMENT:
We remain strongly positive on precious metals. The market conditions for precious metals have been very
challenging over the last months and we have seen strong pullbacks in both gold and silver during May,
despite a clear deterioration of the situation in Europe following the inability of the Greek politicians to form
a government. Investors have been flocking to their traditional safe haven, the USD, which has put pressure
on gold. In our view the recent pullback in gold is normal and we fully expect gold to continue its decade long
bull run as the economic outlook for Europe in the medium term looks bleak. Gold mining shares have suffered
disproportionally and continue to represent excellent value for investors with patience and holding power.
The spread between the gold price and average cash costs is near record high, which is very encouraging for
this sector.


The Henley Outlook
June 2012

Industrial Metals
Positives
• Currency debasement will support real asset prices.
Negatives
• The health of the global economy remains uncertain.
• Demand from China to soften as its economy slows down.

HENLEY ASSESSMENT:
We maintain our neutral view on base metals. Market participants remain worried about the seriousness of
the challenges facing the global economy. In the commodity sector we continue to favour other areas.

Agriculture
Positives
• UN’s Food and Agriculture Organisation
estimates there will be over 9bn mouths
to feed on the planet by 2050.
• Middle class consumers in BRIC
economies are increasingly demanding
more varied and protein-rich foods. As
affluence increases, protein from beef,
sheep, poultry, pigs, cows and fish may
in turn displace grains in diets.
• Urbanisation and life expectancy is
expected to increase.
Negatives
• Prices are subject to many
uncontrollable risks, eg, weather and
natural disasters, politics and other
pests.
Source: The Fertilizer Institute

HENLEY ASSESSMENT:
Positive: A rapidly-growing global population and the rapidly-developing emerging world underpin the long-
term prospects of the agricultural sector globally, at the same time the supply of arable land is limited.
It is estimated by the World Bank that worldwide 445m hectares of land are currently uncultivated and
available for farming, compared with about 1.5bn hectares already under cultivation. On the other hand, soft
commodity prices are subject to many factors that are difficult to forecast such as drought or flooding. We
suggest investors take a diversified approach when investing into this sector.


The Henley Outlook
June 2012

Alternative Investment

Source: FRM HF report

Positives
• Specialist credit managers produced some of the best returns as managers benefitted from increased dispersion
among credits. Relative value managers also fared well as stock correlations remained at low levels.
• There is a growing expectation among market participants that the three prominent central banks (the Fed, ECB, and
BOJ) will or need to act quickly to dampen market volatility to mitigate systemic risk. Therefore, continuous liquidity
provision from central banks will definitely be a strong source of return for hedge funds.
• There have been tentative signs of a recovery in corporate activity. Given the deal flows are expected to pick up again in the
2nd half of this year, M&A arbitrage hedge fund managers should have plenty of things to do despite the macro headwinds.
Negatives
• April was a mixed month for performance across hedge fund strategies. Managers with long-term directional views
tended to suffer as a series of market trends reversed.
• On the whole, the choppy market conditions are unfavourable for medium- to long-term trend following strategies.
• Multiple sources of potential political risk indicate that the rebalancing in Europe is far from over. Political factors dominate
the market sentiment and would be deter risk-taking manager from deploying further risks on their trading book.

HENLEY ASSESSMENT:
Positive outlook: Following January and February’s head start, the euro zone bogeyman has reared his
ugly head since May, sending global markets back into a sustained decline. However, we believe market
conditions will reward those hedge fund managers well for their cautious positioning and keen focus on
capital preservation in such a volatile market environment.

GENERAL DISCLAIMER AND WARNING
The Henley Group Limited (“The Henley Group”) has produced this document for your private use only and you must not distribute it to any other person
in Hong Kong. Re-distribution or reproduction in whole or in part of this document by any means is strictly prohibited and The Henley Group accepts no
liability for the actions of third parties in this respect. Funds not authorized by the Securities and Futures Commission may involve more risk and distri-
bution or re-distribution of information relating to such funds to the public of Hong Kong may constitute an offence under the Securities and Futures
Ordinance. Notwithstanding that the information contained herein has been obtained from sources which The Henley Group believes to be reliable, The
Henley Group makes no guarantee, representation or warranty and accepts no responsibility or liability as to its accuracy, completeness or correctness.
The information in this document, including any expressions of opinions or estimates, should neither be relied upon nor used in any way as indication of
the future performance of any financial products, as prices of assets and currencies may go down as well as up and past performance should not be taken
as indication of future performance. Neither this document nor any information contained herein shall be construed as an offer, invitation, advertise-
ment, inducement, representation of any kind or form or any advice or recommendation to buy or sell any financial products.


Henley Outlook June12

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