Barrons : No invention has been more disruptive to the asset-management industry

No invention has been more disruptive to the asset-management industry in the last quarter-century than the exchange-traded fund. Its tradability, tax efficiency, and cost ignited the low-fee revolution, sapping assets from actively managed mutual funds and fundamentally changing how advisories, brokerages, and asset managers conduct business. Just as the smartphone led to more innovation—interactive maps, ride-hailing apps, and social media—the ETF has created liquidity in hard-to-trade asset classes, enabled price discovery during trading halts, and delivered strategies previously reserved for institutions to the investing masses.
As the ETF industry matures—it now has $3 trillion in more than 2,000 products—Barron’s convened a panel of experts to discuss what sort of innovation investors can expect next: Ben Fulton, CEO of Elkhorn Capital Group, who just sold his $217 million ETF strategist firm to Turner Investments; Corey Hoffstein, co-founder of Newfound Research, the quantitative asset-management firm; Dave Nadig, CEO of research and data provider ETF.com; and Barry Ritholtz, co-founder and chief investment officer of Ritholtz Wealth Management, which oversees $607 million, 44% of it in ETFs. They are innovators—Fulton, the architect, created nontraditional benchmark indexes; Hoffstein, the quant, built algorithms designed to time major market moves; Nadig, the philosopher, offers opinions that are widely quoted; and Ritholtz, the investing sage, has guided the public through market peaks and valleys.
Barron’s: People in the ETF industry love saying two things: That ETFs are innovative, and that ETFs are a technology. How is the first true, and what does the second even mean?
Dave Nadig: ETFs are fundamentally a technology. They are mechanisms to achieve a certain goal, like phones. Traditional mutual funds were rotary phones. ETFs are smartphones: They do the same thing but are in a better package. The ETF structure, the technology itself, is straining to do all the things that we want it to do. People want ETFs to be like mutual funds. Trying to shoehorn nontransparent active management into an ETF is the easiest case in point.






Barry Ritholtz: How ETFs Help You Make Money

Barron's Jack Otter talks to Barry Ritholtz about how exchange traded funds have helped investors by bringing costs down. Also, what to avoid in the ETF space.
Barry Ritholtz: Innovation is all about asking, “What is less than ideal, and how can we find ways to solve it?” ETFs have solved many problems in the world of investing.
Corey Hoffstein: ETFs are innovative in that they trade more efficiently, but most financial advisors say the real benefit is the tax deferral for long-term investors. [Mutual funds often distribute capital gains that fund investors, even if they don’t sell their fund shares, must pay a tax every year; ETFs generally do not distribute gains.] ETFs cost much less, because ETF providers don’t have to pay platform fees. Most brokerages charge a variety of platform fees for mutual funds, including distribution fees and service fees. All of that ended up being an incredible solution and improved everyone’s circumstances.

Ben Fulton: Technological innovations go through cycles, and ETFs are no different. The ETF was a structural innovation. Then came index innovation, with cap-weighted, equal-weighted, float-adjusted-weighted ETFs—the list of new ways to build an index goes on. That drove product expansion. Now we’re seeing distribution innovation, also known as the Charles Schwab [ticker: SCHW] story. They created their own family of fundamentally weighted ETFs in 2013, and the firm in no time gathered $90 billion in ETF assets. That’s the evolution.
Of course, innovation can come with its own problems.
Ritholtz: Jack Bogle has hated the idea of ETFs because he thought it was going to encourage people who should be long-term investors to become active traders. I don’t know how accurate that fear has proved to be.
Nadig: It’s true that the innovation around ETFs means you can now trade all sorts of things most individual investors never wanted to trade. My mom can now buy long-dated oil futures, because ETFs democratized access. It puts a bigger onus on caveat emptor: Buyer beware. But it has also enabled entire businesses like Newfound to use ETFs as vehicles for a larger investment objective. In the hands of uneducated individuals, they can be a problem. ETFs are extremely sharp tools in the drawer.
Fulton: Mutual funds sell the concept of “once you buy this fund, you can own it the rest of your life and we’ll take care of the rest through all market cycles.” None of us built ETFs that way. Exposure to emerging markets and high-yield bonds—there’s a time you want them, and there’s a time you don’t. Do you think you are going to own the iPhone 7 for the rest of your life? It is going to be replaced. There will be new options.
Ritholtz: We’re in the middle of this Cambrian explosion of new ideas, some of which will work out splendidly, and some of which will crash and burn spectacularly.
That doesn’t sound like great news for investors.
Ritholtz: There are products the investing public should want but doesn’t know it yet, and there are things it wants but Wall Street doesn’t know it yet. I love what Jeff Bezos said—if we are not failing, we are not trying enough new and innovative things. Most companies don’t know how to fail, so it is left to the marketplace to decide. We should be throwing a lot out there. It should be responsible—I don’t think we need a 10X-leveraged Bitcoin ETF. But we certainly should be trying new and different ideas. That Darwinian process of natural selection is ultimately going to lead everybody to a place where the menu is full of attractive options.
“Most of the industry agrees that we are entering a period of much lower returns for stocks and fixed income. That’s a problem for younger generations.” —COREY HOFFSTEIN Photo: Matt Furman for Barron's
As someone who uses behavioral finance in his practice, you know people get overwhelmed by an extensive menu. How do they choose?
Ritholtz: Ask the waiter. Really, there is something to be said for the wisdom of the crowd. It’s not a coincidence that the SPDR S&P 500 [SPY] is the largest ETF.
Nadig: There are more than 2,000 ETFs and 9,000 mutual funds, and just 3,500 stocks, in the U.S. There is nothing magical about the ETF structure that makes an investment decision any easier, except that it gives investors access to more types of assets and lowers costs. But you have to understand what you’re investing in. A triple-leverage inverse S&P 500 ETF can be a very efficient hedge for an insurance company. But if my mom is investing her retirement in it, that’s an inappropriate use of that product.
Where would you like to see more innovation?
Fulton: We need more high-conviction, concentrated stock ETFs.
Ritholtz: My big beef on the product side has been environmental, social, and governance, or ESG, investing. In major ESG indexes, the top holdings— Microsoft [MSFT], Procter & Gamble [PG], Merck [MRK], Coca-Cola [KO]—are all well-regarded giants under the green umbrella, often in the consumer, tech, and pharmaceutical sectors. So you get a variation of the Standard & Poor’s 500 or some other broad index. My office created a set of ESG portfolios that are variations of our core portfolios because clients demanded it. This is one area where the mutual fund industry is still far, far ahead of the ETF industry and there is unfulfilled demand.
I want a concentrated ETF full of investments that can actually move the needle. Monsanto [MON] is being acquired, so it’s not a great example, but it and other companies developed drought-, salt water-, and stress-tolerant corn, soybeans, and wheat. That’s huge for farmers. They don’t call it impact investing for nothing.
Nadig: The reason for that is active management. That’s changing slowly; companies like MSCI now have a huge ESG data set people can build indexes off of. Sustainalytics is another. We have some of those products now, but the mutual fund industry has had more runway to make that happen. There is a specious argument about whether indexing flummoxes activists from extracting value from companies. Just because an investor is passive doesn’t mean he or she doesn’t have opinions.
Ritholtz: There is demand, especially among millennials, from people who want their money to reflect their values. Rational homo-economist-type people think of investing as utilitarian: I invest my money so when I retire, my standard of living doesn’t drop. In the real world, real people don’t think or behave that way.
Hoffstein: ESG investing isn’t going to help people retire better. Most of the industry agrees that we are entering a period of much lower returns for stocks and fixed income. That’s a problem for younger generations. The innovation needs to be around efficient use of capital. Instead of an ETF that holds intermediate-term Treasuries, I would like to see a U.S. Treasury ETF that uses Treasuries as collateral to buy S&P 500 futures, so you end up getting both stock and bond exposure.
That sounds like the equivalent to the 130/30 mutual funds that were so popular in the mid-2000s. Those funds shorted as much as 30% of the portfolio.
Hoffstein: By introducing a modest amount of leverage, you can take $1 and trade it as if the investor has $1.50. After 2008, people became skittish around derivatives, shorting, and leverage. But these aren’t bad things when used appropriately.
“The challenge for every advisor today is to explain what their value-add is, because the portfolios are, if not free, cheap.“ —BARRY RITHOLTZ Photo: Matt Furman for Barron's
Nadig: There is a ProShares Large Cap Core Plus ETF [CSM], which tracks the Credit Suisse 130/30 Large Cap Index. There is always a cost and always additional risk for that excess return. My concern is that we are starting to get down to very narrow exposures.
Do you mean overly specific ETFs?
Nadig: We’ve had a lot of ETF launches recently—38 in the past month alone—and part of the reason is because people are still trying to motivate investors to slice their portfolios up into chunks. The world’s most boring portfolio is VT, or the Vanguard Total World Stock ETF. Most mom-and-pop investors would be well served by a one-, five-, or six-ETF portfolio. They don’t need 2,000 to get diversified.
Professionals are putting ETF portfolios together in innovative ways—combining active and passive to meet a specific objective.
Hoffstein: Most major ETF providers offer their own allocation model for free, but those models are filled with their own products. Newfound takes a multimanager approach. We have a portfolio that aims to provide diversified asset allocation with lower risk and includes JPMorgan Diversified Return U.S. Equity [JPUS], which tilts toward value and momentum; iShares Core U.S. Aggregate Bond [AGG], one of the lowest-cost core-bond ETFs you can get; as well as our own Newfound Multi-Asset Income mutual fund [NFMAX]. We want low-cost access to U.S. stocks, and we want to key in on factors that can produce better returns over time. We also include the AQR Managed Futures Strategy fund [AQMIX] for crisis-type situations. It helps us manage risk because it can short asset classes around the globe. The Newfound fund is designed to provide a variety of different alternative income sources such as high-yield bonds, bank loans, and emerging market debt, but in an actively risk-managed manner that allows us to move the portfolio to short-term Treasuries if there is significant risk of loss.
So none of you see a problem with providers bringing more and more products to market just to see what works?
Fulton: There needs to be innovation with regulation. Regulators have held up approval on new structures, causing sponsors to abandon some ideas. If I want to create portable alpha, like the fund Corey described, it’s a six- to nine-month process. Even a simpler product, like a market-weighted, concentrated basket of 20 biotech stocks, will still take three to four months to get approved. Something that simple should be able to come to market faster. The market is changing all the time, and we can’t adjust quickly enough with this process. So you have to be great at predicting change. I’m fine with regulation, but there has to be an expediting process.
Nadig: You can launch a new fund onto an existing pile of funds quickly. When BlackRock builds a new country ETF for its suite of single-country ETFs, it is effectively an amendment. But there is no reason to expect the process to get much faster, because there’s still a giant pile of paperwork. That isn’t holding back the ETF industry—300 products launched this year already. About the same amount have shut down. I don’t feel we need to have that pace go up to 1,000 a year. Regulatory reforms are needed to even the playing field among providers and make it clear how the structure is supposed to work. Right now, a product from iShares lives under a different set of rules than one from Elkhorn
What needs to happen on the regulatory front?
Nadig: The ETF is a structure living via loophole—every ETF that comes to market is, in effect, breaking the rules. That’s why providers need to file for exemptive relief with the Securities and Exchange Commission; they’re essentially asking permission to break the rules. That is a fundamentally bad way to run an industry.
The fact ETFs have succeeded despite that is phenomenal. There is no desire in Congress to reform the ’40 Act [the 1940 legislation that governs mutual funds] or to pass an ETF rule. The last time that was floated was in 2008, and it died on arrival. I see zero movement for any broad regulatory reform of core investment products.
On fees: “If you can’t compete, you’re wrecked.” —BEN FULTON Photo: Matt Furman for Barron's
There’s a lot of concern around ETFs that own illiquid securities, like high-yield bonds, bank loans, and foreign stocks. Is that a problem?
Hoffstein: Are ETFs that own illiquid securities structurally dangerous for the market? No, I don’t think so. The concern is that because ETFs offer secondary liquidity—the ability of ETFs to trade without touching the underlying holdings—the ETF’s value can meaningfully stray from the net asset value of the underlying holdings. If the underlying portfolio is illiquid, its prices can get stale. Maybe the question should be: Are investors educated enough to know that the value of the ETF can trade above or below its NAV on any given day? But that secondary liquidity is an innovation born from ETFs.
So it’s a feature, not a bug, that an ETF’s liquidity can be greater than its holdings?
Nadig: ETFs have effectively saved some illiquid asset classes. The high-yield bond market dried up, because bond dealing became an illegal activity for most banks. [In 2014, the Volcker rule effectively dismantled the proprietary trading desks at big banks, which had served as the primary market makers for high-yield bonds.] ETFs took the ability to basket a bunch of high-yield bonds and find another place to trade them—in this case, the stock exchanges. That became a saving grace for an asset class that otherwise would have become a person-to-person market owned by issuers, insurance companies, and Pimco. By moving that liquidity on screen into HYG [iShares iBoxx $ High Yield Corporate Bond] or JNK [SPDR Bloomberg Barclays High Yield Bond], we’ve created a price discovery vehicle for junk bonds.
What do you mean by price discovery?
Fulton: Take the PowerShares QQQ [QQQ]. Let’s pretend that Apple [AAPL] stopped trading for whatever reason. The ETF would continue trading. If you knew Apple represented a portion of that portfolio and stopped trading at X price and the ETF is trading at Y—if we can see that the other 99 stocks are priced exactly the same, we can calculate what Apple stock will open at. We can isolate a single stock, because the market’s view of that stock is reflected in the ETF’s value. In a mutual fund, no one knows until the end of the day.
Nadig: Junk bonds are illiquid; there is nothing you can do about that. If the bottom falls out of junk bonds and all of a sudden everyone wants to be out, it will fall. Laws of supply and demand don’t get repealed in an ETF. But the holdings in these very liquid junk-bond ETFs—some of which will go days without trading—are about as illiquid as you can get in a security. How do you price that underlying bond that doesn’t trade? You go to a bond-pricing service and they tell you: We think it is worth X today, because of what this other bond that is like it traded at yesterday or 10 minutes ago. The ETF will expose that problem because the ETF will trade down first.
Hoffstein: When you say bond-pricing service, you mean State Street or BlackRock’s trading desk?
Nadig: I mean Bloomberg’s junk-bond pricing service, or something like it. The input into evaluating the theoretical price of this untraded bond is where the ETF is trading. Usually, you figure out how much the ETF is worth by looking at the price of all the things it holds, but here holdings are retroactively priced based on where the ETF trades.
Ritholtz: How accurate is that compared to actually seeing the bonds trade?
Nadig: It’s not, but there is no better way to do it, because until somebody trades that individual bond, there is no price. The prices are determined by the market; if there is no market for this piece of junk paper and nobody is willing to actually take it off your hands, your only option is a fire-sale price from some big asset manager’s bond desk. The ETF structure doesn’t make junk bonds more liquid, it simply creates a price-discovery mechanism.
Hoffstein: My favorite example of this is the five-week Greek stock market shutdown. The Global X MSCI Greek ETF [GREK] continued to trade during that period. Trading of stocks on the Greek stock exchange was halted, but the Global X ETF continued to trade on a U.S. exchange and was the only vehicle of price discovery. When the market reopened, Greek stocks fell about 20%—the index came down to where the ETF was.
OK. On to the term everyone loves to hate—smart beta.
In 2014 and 2015, these alternative indexes, many of which weight their indexes according to certain stock qualities known as factors, took in $127.5 billion, according to research firm ETFGI. In 2016 and 2017, inflows dropped to $46 billion and $53 billion, respectively. Is this the end of smart beta?
Nadig: I don’t think smart beta is dead. What we are calling smart beta now we called “tilt and timing” in 1992 and quant before that. Flows have been overwhelmingly going to low-cost beta. We haven’t seen huge flows into smart beta despite the continuing flood of product launches.
Ritholtz: There’s a huge swath of academic literature that says, over time, value will beat growth, small will beat large, quality will beat lower quality, momentum beats lack of momentum, etc. We started with the Fama/French three-factor model [developed by economists Eugene Fama and Ken French], and now there are arguably six, seven, or eight factors. But while these factors will outperform over the long run, many won’t for periods of time. We’re in the middle of a period where growth is trouncing value. We had the same situation in the 1990s, when value was doing terribly and Warren Buffett had supposedly lost his touch.
Nadig: The real issue for investors is their timeline. Most of the research says you need to hold factors for seven years for your portfolio to outperform, which means you have to be willing to lose for three years to gain for four. Most investors don’t stick it out for three years of underperformance.
There’s a near-constant but low-level buzz around actively managed ETFs. Pimco and DoubleLine have had great success with their actively managed bond funds. Davis Advisors launched three actively managed stock ETFs earlier this year, but they are still small. Will actively managed ETFs ever rise? Do they solve a problem?
Hoffstein: This debate is all about where you draw the line in the sand between active and passive. I consider most indexed smart-beta funds to be active. They purposely deviate from market-cap weighting. So based on that definition, I would say active ETFs have already been incredibly successful. Just because they do it in a transparent, systemic, and rules-based manner doesn’t mean it isn’t active.
Smart-beta ETFs solve a problem in that they allow managers to replicate their market views in a more consistent manner and price them competitively. What about non-transparent active ETFs, which Dave mentioned earlier?
Nadig:There are many proposals that would allow active management in an ETF without the transparency ETFs are known for. The most popular one is the model put forth by Precidian [a New Jersey–based ETF shop in which Legg Mason has a minority stake]. It puts a third party between the market and the fund; that third party knows what is in the fund, but the outside market doesn’t.
How does that work?
Nadig: So there’s the fund, the third party we’ll call Bob, and Alice, the investor. Alice wants 50,000 shares of an ETF. The fund tells Bob what it needs, then Bob, after collecting the check from Alice, goes and buys all those things the fund asked for and gives the shares to Alice. Bob is contractually obligated to never tell anyone what the fund is buying.
Sounds complicated, and not great for Alice. Do nontransparent active ETFs solve a problem?
Nadig: It solves a problem for the portfolio manager but not necessarily for Alice, unless she really believes she’s getting a fund with some unbelievable special sauce. That’s the story managers use when they won’t disclose what they’re buying. I personally don’t buy that story. A portfolio manager taking big, high-conviction positions in microcap stocks may not want to show their hand, so maybe an ETF isn’t the right structure for that guy’s fund. That said, I do think eventually one of these nontransparent active structures will get approved, and you will see a bunch of active managers come to market.
Hoffstein: As an active manager, I don’t see the need to hide my trades. Even if you put all of the funds operating in illiquid securities together, they make up a small piece of the whole.
Let’s talk disruption in the advisory business.
Fulton: It goes back to distribution innovation. What is a robo-advisor but an account-opening scheme?
Hoffstein: Portfolio management has been commoditized; robo-advisors are proof of that. ETFs have brought costs down dramatically, and technology has made making asset-allocation models easier and cheaper. Advice and financial planning are the advisors’ best value-add.
Nadig: The headlines go to Wealthfront and Betterment, but the assets are going to Vanguard. To open a robo account at Vanguard, you have to talk to a human being. That bionic model, where a human is involved in the discussion, is stolen from Canada, where it is a legal requirement. That model is going to dominate precisely because of that behavioral coaching component to a financial relationship, which is where most alpha will come from. You could be in a mediocre portfolio, but get the behavioral call right—i.e., not selling on the day the market crashes and not waiting until it runs up 30% before you get back in—and a mediocre portfolio will beat the pants off the guy who has the perfect asset allocation, but pulls the trigger at exactly the wrong time.
Ritholtz: Vanguard’s robo-advisor is coming up on $100 billion in assets incredibly quickly, though no one will officially say it. They’re several times bigger than any of the top robo-advisors and growing like a house on fire. The challenge for every advisor today is to explain what their value-add is, because the portfolios are, if not free, cheap.
There’s a lot of consolidation in the ETF business: Invesco’s PowerShares picked up Guggenheim’s ETFs; WisdomTree bought a piece of ETF Securities’ suite in Europe. Turner Investments just acquired Elkhorn. Why wouldn’t an active shop just build its own ETF business?
Fulton: Some do build their own, but you want the right person leading the group. Turner, which has been traditionally active, realized ETFs were the future, so they needed passive sooner rather than later. The gentleman who runs it has a big vision for incorporating research and other global partners. He didn’t want to just put a big toe in; he wanted to jump in. We sold our firm because we realized that being small does not make it easy to stay relevant. You have to fight to get to that $10 billion level.
This gets back to your point about distribution.
Fulton:You are right there. We needed to be bigger to be relevant and be a part of distribution strategies. On our own, that’s hard to do. There is a ton of pricing pressure, and now with insurance companies in the mix, it’s only going to get worse, as large companies try to attract assets quickly. If you can’t compete, you’re wrecked.
Thank you, gentlemen.

BArrons : Why Asian Shares Can Double in the Next Two Years

Why Asian Shares Can Double in the Next Two Years

In 2005, Asian strategist Ajay Kapur wrote a controversial report arguing that “the share of the very rich” had grown so large in some economies that wealthy families’ lives were unconnected to those of average consumers. The risk, he said, was a political backlash. That was eight years before French economist Thomas Piketty’s Capital in the Twenty-First Century elaborated on these themes, and more than a decade before Donald Trump’s populist presidential campaign used these same ideas. The prescient 53-year-old Asia-Pacific and emerging markets strategist at Bank of America Merrill Lynch also is lauded as an early bull on Asian stocks prior to their rally. So what does he think now? Kapur isn’t backing off, but we’ll let him explain.
Barron’s: Not too long after you turned bullish on the region, Asia ex-Japanese stocks rose 35% this year and China stocks, 50%. How did you foresee the change?
Kapur: I became bullish on Asia ex-Japan and emerging markets in February last year after being bearish for five years. The consensus at the time was that the dollar would be a lot stronger and U.S. bond yields were likely to rise, which traditionally has not been good for Asia and emerging markets. That has proved to be completely wrong. After the U.S. elections in November, the narrative changed from secular stagnation and lower-for-longer bond yields to higher inflation expectations and higher bond yields.
What’s driving the big gains is globalization and technology, as well as the massive rise in oligopoly power in many industries in Europe and the U.S. For Asia and emerging markets to do well, the dollar must remain stable-to-weak, which is what I expect. I also don’t expect the Federal Reserve to be too aggressive as it tries to reduce its balance sheet. The Fed’s new leadership will probably stick to gradualism. The Fed’s expectations of interest-rate hikes has been very aggressive and so far, very wrong. They have completely overestimated inflation and growth and therefore the potential path for their own behavior.
Where do Asian and emerging markets go from here?
If you look at emerging markets going back 40 years, there have been six bull markets. The average length of the bull market has been 42 months. So, we are in month 22. On average, you get 230% upside in a bull market in emerging markets and Asia. We are up 60% from the lows of January last year. In terms of time, we are only about halfway through. I believe that Asian and emerging markets could easily double over the next two years or so.

How much of the Asian rally is earnings growth and how much is rerating to a higher multiple?
A significant part of the rally this year has been due to synchronized global recovery and earnings growth. The MSCI Asia ex-Japan index is up over 30% this year while earnings growth is around 22%. So, not much of a rerating has occurred. It is really earnings that are driving Asian markets. Global growth is not that strong, but it is pervasive. Of the 38 countries from which we get purchasing-managers index information, 87% are above 50, which means they are expanding. That’s the highest since 2011.
There is more growth ahead. If you think about it, Europe is just over one year coming out of its own crisis; emerging markets had a road bump four years ago with taper tantrums. Many emerging markets—Brazil, Russia, South Africa—were negatively impacted by the stronger dollar and weakness in Chinese economic growth. The way we see it, a lot of countries in Europe and across emerging markets are just beginning their recovery process.
The drivers of the rally have been tech stocks like Tencent, Alibaba, Samsung Electronics, or Apple suppliers in Taiwan. Isn’t this trade overdone?
I disagree with the premise that there’s a lot of froth in Asian tech. We are in a bull market. The median stock in the MSCI Asia ex-Japan universe is up 19%, including dividends. Fourteen of the 24 industry groups in Asia are up 25% this year. So, it has been a pretty broad-based rally.
You are right that internet, software, and tech hardware stocks are up 50% to 80% so far this year. Those are relatively chunky numbers, but in a bull market there is always a theme that leads and this time it is tech. In the last bull market in Asia—2003 to 2007—commodities was the dominant theme and tech was one of the laggards.
Tech stocks in Asia are relatively expensive, but they are not in bubble territory. As long as they are delivering earnings, we are fine with the valuations.
I talk to investors around the world, and my feeling is that a lot of them underappreciate the innovation that is going on in China and the investments that are going into technology there. A lot of people still worry about the Old Economy, which includes energy, industrials, telecoms, and utilities, among others, and are overlooking the pace of innovation that is powering China’s New Economy, which includes software, information-technology services, internet services, semiconductors, media, and biotech. Remember that data-privacy rules in China are a lot more liberal than in Europe, for example, which allows Chinese tech companies to harness Big Data and artificial intelligence a lot more powerfully than their counterparts around the world. That competitive advantage is something that is not well appreciated by investors.

Let’s talk about your favorite market—China. At the start of last year there were serious concerns that China was on a slippery slope. What’s happened?
I’ve been overweight on China for a while, even though that’s a contrarian view. Last year, China began easing monetary and fiscal policies, and that’s bearing fruit. Barring recent housing curbs, monetary tightening measures in the early part of this year have also taken a bit of a pause. Top-line growth or revenue surprises were actually quite high in the second quarter and the third quarter is off to a good start. Earnings growth in China has picked up sharply from 15% at the start of the year to 20%, and earnings revisions are rising nicely. The Old Economy has seen capital expenditure cuts, which led to huge increases in free cash flow.
Because China’s New Economy is now so big, it helps limit the impact of the debt-laden Old Economy. Earnings of New Economy companies account for 50% of the index compared with only 20% in 2007. Investors often don’t realize the sheer size of the New Economy in China.
As for valuations, I think they are still pretty reasonable. Chinese stocks are trading at around 17 times trailing earnings or slightly above the region’s 15.8 trailing earnings, and two times price-to-book. That’s slightly above the region’s 1.8 times price-to-book.
India has underperformed in the past year or two. What has gone wrong?
Clearly, India is a great long-term story and has shown improvements in the macro fundamentals. International reserves are pretty good; we have seen structural reforms like the sales tax, which broadens the tax net, as well as bankruptcy law and inflation being under control.
One reason we don’t like India right now is that we don’t see earnings growth. Earnings are constantly being revised downward. At the start of the year, analysts are very bullish, and they spend much of the year taking those numbers down. At the start of this year, analysts were expecting 19% growth. That was almost halved to 10% currently.
We think the market is expensive compared with its peers. The market trades at 19 times this year’s earnings, while the region is around 13 times. It is also one of the few countries where the current account is deteriorating.
You like South Korea, presumably because of the tech story. Why Korea, which has perennially sold at a discount to the rest of Asia?
I like the tech exposure, but also some of the nontech sectors, as well. Korea is attractive because earnings momentum is very powerful, valuations are very reasonable, and financial vulnerability is pretty low. If you look at the returns on equity in Korea, they are about 10%; in the rest of Asia, they are about 11%, so fairly similar, but Korea trades at a significant discount—or 9.2 times next year’s earnings compared with the region’s 13.4 times earnings. Korea’s current account has a 4% surplus to the gross domestic product, which is pretty handsome. As a big trading nation, Korea is also a major beneficiary of the synchronized global recovery and recovery in China that I talked about earlier.
Aside from tech, where we like semiconductors and technology hardware, Korean banks have been reducing their cost-to-income ratio, so I am a fan of banks, as well.
You are lukewarm on Southeast Asia right now.
We have been underweight Southeast Asia mainly because it is expensive. It has underperformed, and it doesn’t have much of a technology story. It is not that I don’t like Southeast Asia, just that I like other parts of the region more.
Which sectors will do well across Asia over the next two years? Or will a rising tide lift all boats?
My favorite sector in Asia is tech—not just internet stocks but also tech hardware. We are in an up-cycle in terms of internet adoption and more profitable businesses from such a big pool of users. In tech hardware, the semiconductor cycle has been very strong. Obviously, the world needs components like chips and sensors that are driving themes like AI, robotics, autonomous cars, and the Internet of Things.
If I am right on this bull market, it will broaden out, and that will help other sectors, particularly financials, which have to an extent already participated in the rally. In most Asian markets, loan growth had completely collapsed after peaking in 2010 and 2011. When loan growth collapses as it did, you eventually get a new cycle of growth that helps not only consumers but also companies that haven’t made big capital expenditure over the past few years.
Some of the cyclicals—materials like aluminum, silver, paper, fertilizers, copper, and steel—already are benefiting from synchronized global recovery and the supply cuts in China. But I think technology, financials, and selective materials are areas where investors should focus in Asia.
So, what keeps you awake at night?
Income inequality and wealth inequality in Asia is a big worry, whether it is in India, China, or Indonesia. We have seen in the West how polarization, strident nationalism, and civil unrest can have an impact. Having said that, in most of the countries I cover, the political class is very sensitive to rising inequality and is taking steps to mitigate that. At least they are being seen to be trying to do something. How successful they will be is unclear.
In the short run, I really worry about global recession. I also worry about being all wrong on inflation. What if inflation suddenly picks up, bond yields rise, and the dollar strengthens? Asia and emerging markets could be hit fairly hard. Lastly, the big internet companies are very dominant in the indexes and have very strong free cash flows. What if policy makers begin to eye this free cash flow from a taxation or regulation point of view?
Thank you, Ajay.

Barrons : Vestas Wind Systems Buffeted by Tax Reform

Vestas Wind Systems Buffeted by Tax Reform

The U.S. market, a trophy for Vestas Wind Systems, is at risk of turning into a turkey, depending on how Washington’s tax-reform push pans out.

Shares in the world’s biggest manufacturer of wind turbines have tumbled more than 20% in November, whacked in part by worries about a potential hit to a production tax credit that has helped drive construction of U.S. wind farms.

Weaker-than-expected quarterly results have sparked concerns about the Danish company’s pricing power and also weighed on Vestas’ stock (ticker: VWS.Denmark).

While bulls say the selloff appears overdone, those taking a cautious stance have a compelling story to tell.

“If the U.S. were to go from hero to zero, that would mean a lot for Vestas’ global position in this industry,” warns Jacob Pedersen, head of equity analysis at Denmark’s Sydbank. His bank has cut its rating on the shares to Hold from Buy this month, citing uncertainty around the production tax credit, or PTC, and the pricing pressures.

Aarhus-based Vestas climbed to the top of the heap in the U.S. wind market last year, topping General Electric (GE) in newly installed capacity. The U.S. provides about 38% of the company’s revenue, according to FactSet data. Germany delivers 14% of revenue, and several countries contribute from about 3% to 4% each, including the United Kingdom, China, and Brazil.

Vestas has become the leader in its industry, ahead of rival wind-turbine makers such as GE and Siemens Gamesa Renewable Energy (SGRE.Spain), thanks in part to making strong inroads in the U.S. market, Pedersen tells Barron’s. That’s why the PTC pickle is particularly troubling. Vestas’ executives and many analysts say the most likely outcome is no change to the subsidy regime, and the Senate tax-reform plan hasn’t taken aim at it. But concerns persist around a House of Representatives proposal to reportedly cut credits to suppliers to 1.5 cents per kilowatt hour, down from 2.4 cents.

“As long as it’s part of what’s being negotiated, I’m quite worried that project developers in the U.S. will sit on their hands,” Pedersen says. “They do not know what type of regime will exist when tax reform is done, if it’s ever done.”

As Vestas CEO Anders Runevad put it on the company’s earnings call this month: “The House tax legislation creates uncertainty.” Many investors didn’t see this headache coming, as the PTC is already being wound down. The subsidies have been slated to decrease over three years and disappear altogether after 2019.

U.S. lawmakers “created what I regard as an extremely efficient tool for phasing out the subsidy for the wind industry, with the aim, of course, that the industry should be able to stand on its own over a period of four to six years,” Pedersen says. “I’m very surprised that it’s on the table to change this very successful phaseout.”

Even if the PTC stays intact, Vestas isn’t necessarily set for smooth sailing in the event, he adds.

“We might see a big order intake from the U.S. in December, but I think a lot of investors might ask themselves, ‘OK, but what’s the profitability on these orders?’ ” the Sydbank analyst says. He expects high volatility in shares until the company gives more guidance on its profit margins, and that may come only in February.

Manufacturers of wind turbines have been dealing with a drop in subsidies globally and increasingly competitive auctions. “Pricing pressure has increased a lot over the past three months,” Pedersen says. “It’s actually a positive for the long-term well-being of this industry—that prices are coming down—because that is exactly what is important: to make wind energy fully competitive.”

Analysts have flipped to a more-cautious view on Vestas, with their average price target dropping to 542 Danish kroner ($86) this month, down from DKK632 in October, according to FactSet data. (Pedersen says Sydbank doesn’t disclose price targets, but theirs is “not far” from the stock’s recent price.) The new consensus target still implies a rally—a gain of about 28% from the stock’s recent DKK422. Roughly two-thirds of the analyst teams covering Vestas have the equivalent of a Buy rating on it, about the same as last month.

“We see value here,” wrote a JPMorgan team led by Akash Gupta in a recent note, as they maintained their Overweight rating but cut their price target to DKK510 from DKK700. Vestas’ valuation isn’t off-putting, with the stock trading at 12.9 times forward-year estimated earnings, versus 13.5 for Siemens Gamesa and 19.5 for German rival Nordex (NDX1.Germany).

Nonetheless, investors may want to wait for a better entry point, which could come when we get a clearer read on the U.S. tax overhaul and Vestas’ outlook.

IN EUROPEAN MARKETS last week, the major stock gauges largely lost ground. Analysts blamed the selling on factors such as worries about the tax-reform efforts in the world’s biggest economy; some disappointing Chinese economic reports that put pressure on miners; and a strengthening euro, which weighed on shares of exporters.

BArrons: Unicorns: What Are They Really Worth?

When a venture capitalist coined the concept “unicorn club” in 2013, it referred to software start-ups valued at $1 billion or more—just 39 at that time.
“We like the term because, to us, it means something extremely rare, and magical,” Cowboy Ventures founder Aileen Lee wrote in a column for Techcrunch. Four years later, the rarity—and the magic—has worn off. Today, Dow Jones VentureSource tracks 170 unicorns in its database.

Equity investors once held high hopes for these companies to come to market and become the next Facebook or Google. But in recent years, the unicorns have preferred to raise funds behind closed doors. Just 32 have gone through with initial public offerings since they became a class unto themselves, according to VentureSource, and they have tended to be smaller names. Large companies like Uber Technologies, Dropbox, Lyft, Spotify, and Airbnb have so far spurned the public market.
As the private companies become household names, they face questions about their workplace cultures, business models—and valuations.
The unicorn experience is teaching us an unexpected lesson: The public markets remain the best place to achieve long-term corporate success.
Uber and some of its private investors have learned that lesson the hard way. The company, already worth a reported $68 billion, struggled to find a new CEO after ousting Travis Kalanick, its combative co-founder. Ultimately, the company persuaded Dara Khosrowshahi, Expedia’s longtime chief and once the highest-paid public-company CEO in America, to take the job.

The new boss now says the company will go public in 2019. For Khosrowshahi and Uber, it could be their hardest task yet.
IPOS WERE ONCE the obvious path for any private company that reached a $1 billion valuation. But public markets are no longer a siren song. The median age of tech companies going public last year was 10.5 years, according to Jay Ritter, a University of Florida professor who studies trends in initial public offerings. In 1999, the typical tech company was four years old at its market debut.
The maturation of IPOs has generally been a good thing, taking risk out of the system. The drawback is that the rewards have been simultaneously reduced.
Each round of private financing decreases the chance that public investors will benefit from the next Facebook or Google. “Time is your enemy when it comes to rate of return,” says Kathleen Smith, principal at Renaissance Capital, a manager of IPO-focused exchange-traded funds.
Leading mutual fund managers have adapted to the new reality. They’re not waiting for companies to grow up; instead, they’ve dug into the private markets, searching for growth. Fund giants Fidelity and T. Rowe Price have led private fund-raising rounds for unicorns, such as Dropbox, Airbnb, and WeWork.
The dearth of companies making their trading debuts is an unusual feature of what has been a record run for the stock market. In the heady 1990s, there were an average of 436 IPOs per year in the U.S., based on Ritter’s data. Last year, there were just 74. A number of reasons have been cited, including increased regulations and scrutiny for public companies, as well as the deluge of private capital.
But there’s another reason. Retail investors are saying: “We don’t need you anyway, at least not at those prices.”
Instead, investors have generally chosen to stick with passive strategies, rather than make big bets on new, speculative companies.
“The interest in just getting low-cost exposure to the market is crowding out the appetite for IPOs,” says Andrea Auerbach, a managing director at Cambridge Associates who advises pension funds and other institutions on private investments.
There’s a price for everything, however, and U.S. investors are still willing to participate in the occasional initial offering. The problem for many unicorns is that they have priced themselves out of the market. They’ve raised too much money at valuations that are simply too high.
The dynamic has complicated the transition for many of the high-profile unicorns that do end up making the public jump. GoPro (ticker: GPRO), Snap (SNAP), and Blue Apron Holdings (APRN) have become billboards for the overhyped unicorn. The stocks have each shed more than 20% from their IPO prices.
INVESTORS HAVEN’T FORGOTTEN their experiences during the dot-com bubble or the financial crisis, notes Renaissance’s Smith. “The days of the stock jock are over,” she says. “So what we have left is a more astute set of investors. And they’re driving for return. That’s probably a good change for the IPO market.”
For some unicorns, public disclosures leading up to the IPO have revealed underlying business issues—problems that had been hidden away. Blue Apron’s prospectus showed that the company was spending too much to acquire customers even as those customers were spending less on average.
“It took five minutes of reading the S-1 to see there was a problem,” says David Strasser, a former sell-side retail analyst who is now a managing director at the venture-capital firm SWaN & Legend.
Blue Apron is down 69% since going public just four months ago.
A discerning public market—and the lack of IPOs—is the best argument left that stocks have yet to hit the bubble-like levels of the late 1990s. The irony is when a market correction does arrive, it could make it harder for companies to go public.
Nine years into the current bull market, there are signs that the broader IPO market is bouncing back. Newly issued stocks have performed relatively well. The Renaissance IPO ETF (IPO), which holds companies that have made their debut over the previous 24 months, is up 34% this year, more than double the broad market’s return.
Last month, a unicorn even shone after its public debut. Shares of MongoDB (MDB)—a cloud database provider—have risen 24% since the stock’s Oct. 18 offering. At a recent $30 per share, the company is worth $1.5 billion, still 17% less than the private market valuation it reportedly fetched in January 2015.
More prominent unicorns will go public, but investors are likely to remain discriminating—a clear contrast from the lavish private markets.
FOR NOW, IT’S HARD to blame entrepreneurs for holding back on IPOs. The flood of private capital has changed the calculus. In one example, Japanese conglomerate SoftBank Group has raised over $93 billion for a technology investment fund. Those dollars alone exceed the $84 billion in total proceeds raised in U.S. IPOs since the start of 2015.
Founders like to say it’s not just the money. Freed from the burden of quarterly disclosures, Wall Street analysts, and shareholder votes, private markets have been deemed more-hospitable terrain.
IAC Chairman Barry Diller has spun off nine public companies, but at a recent Wall Street Journal D.Live event, he said: “There’s no reason to be public unless you need capital. And, by the way, almost all these companies do not need capital.”
Uber is able to hold off on an IPO until 2019, largely thanks to SoftBank’s largess. Last week, the ride-sharing firm reportedly accepted a new round of funding from the Japanese giant. According to media reports, SoftBank is investing up to $10 billion, with $1 billion coming at a $68 billion valuation, matching the headline value that frequently gets attached to the company.
Most of SoftBank’s investment, though, would come at a lower valuation, with the company buying shares from existing investors. The complex transaction illustrates the dance that’s happening behind private doors.
As unicorns soar in value, the firms have faced increasing pressure to keep those valuations growing, even when the fundamentals might not support them. Often, that means finding ways to entice late-stage investors.
New rounds of fund raising tend to include preferred stock that comes with greater downside protection.
Academics from Stanford University and the University of British Columbia spent 2½ years studying these preferences and found widespread use of them in Silicon Valley. The perks include strong liquidation preferences in the event the company goes broke, or guaranteed returns at the time of the IPO, should shares be priced lower than expected. In 24% of the unicorns studied by Stanford Prof. Ilya Strebulaev, preferred shareholders can effectively block an IPO from happening.
“The average unicorn in our sample has eight classes, with different classes owned by the founders, employees, VC funds, mutual funds, sovereign wealth funds, and strategic investors,” Strebulaev and University of British Columbia Prof. Will Gornall wrote in their study.
The terms get hashed out in private. Generally, all the public hears is the headline valuation that emerges from the agreement. But Strebulaev argues that those valuations are frequently misleading, since the latest class of stock carries preferential terms that don’t apply to the company’s existing private stock. New private investors are willing to make investments above fair value because of the powerful economic benefits that come with preferred stock—benefits that don’t apply to the common shares held by employees.
Strebulaev and Gornall conclude that headline valuations overvalue unicorns by 50% on average. Their analysis knocks nearly half of the unicorn club back below the $1 billion mark.
ACCORDING TO PAT GRADY, a partner at venture-capital firm Sequoia Capital, there has been a notable increase in fancy fund-raising terms in recent years. “There’s a lot of financial engineering that people can do to create a valuation that looks like a big number, but actually feels like a much smaller number for the new investors,” Grady says. “That’s something people will do if the founders are really focused on having that big headline valuation.”
He adds: “It’s an unfortunate game of brinkmanship where, at the margins, everybody wants to feel like they’re worth just a little bit more.…Eventually, we end up in this place where lots of companies have lots of unhealthy structure.”
The problem, according to multiple insiders, is that fancy terms pit the private investors against one another. The preferences given to a late-stage investor can dilute the stakes of earlier ones and employees.
Grady says that Sequoia tries to avoid those situations. “The more financial engineering you do, the less aligned you are with founders,” he says.
It also creates an opaque capital structure that few outside the boardroom understand. Strebulaev’s team, including Stanford colleagues and outside lawyers, pored through the unicorns’ certificates of incorporation. In some cases, it took the lawyers 12 hours to make sense of one document, Strebulaev says.
WHILE PUBLIC COMPANIES sometimes issue multiple classes of stock, they’re usually differentiated by voting power, not economics. With private companies, there’s basically no limit on the terms investors can request.
There’s no federal regulation requiring disclosure of the terms either. Strebulaev says he got lots of calls after he published the study, adding, “There is one organization that has not called me so far, and that is the SEC.”
He says that disclosure regulations for private companies should be updated, given that public investors are now often invested in unicorns—sometimes unknowingly—through mutual fund holdings.
“Determining cash-flow rights in downside scenarios is critical to much of corporate finance, and the different classes of shares issued by VC-backed companies generally have dramatically different payoffs in downside scenarios,” the paper contends.
Robert Bartlett, a law professor at the University of California, Berkeley, who specializes in securities regulation and corporate finance, says the difference between share classes is no secret among Silicon Valley venture capitalists. “It’s common knowledge that the common is worth less than the preferred,” he says.
Publicly, though, that knowledge is getting overlooked. “No one is drawing the distinction,” Strebulaev tells Barron’s.
IAC’s Diller put it more bluntly at last month’s Wall Street Journal conference: “It’s the absence of dealing with multiplication, division, addition.”
Some investment managers still care about the math, hoping to benefit their shareholders in the process. Henry Ellenbogen, a T. Rowe Price fund manager, has been buying preferred private shares for several years in his New Horizons mutual fund.
T. Rowe often leads the investment, taking the role of a late-stage VC firm. “We’re the ones that set the valuation on the asset,” Ellenbogen says. “We know, based on our view of different rights, what we think each share class is worth. When we do valuation, we absolutely adjust for it.”
He notes that common stock generally carries a 10% to 20% discount to preferred shares. But in some cases, as private companies struggle to raise money, they’re forced to give more-favorable terms to new investors. “The preferences get more onerous, and the gap between the common and preferred gets wider,” he says.
In October 2014, Square (SQ) raised $150 million. At the time, the deal was reported to value the company at $6 billion, up from a previous $5 billion. But to secure that higher valuation, Strebulaev notes that Square made a big promise: Series E investors were guaranteed $18.56 per share if the company went public.
A year after the Series E fund raising, Square did go public, at just $9 a share, valuing the company at $2.9 billion.
Eventually, Square did reach that $6 billion value—but it was 18 months after its public debut. Since then, Square has been one of the few public unicorn success stories, and IPO investors who stuck with the stock have been rewarded. It’s up 250% in the past 12 months, giving the company a market value of $16.5 billion. It took a public listing to square Square.
Cloud-storage firm Box (BOX) is another of those rare unicorns—a start-up that reached $1 billion, went public, and managed to grow its stock, post-IPO, despite some early turbulence. After a 57% rally this year, Box is now worth $2.9 billion. The company went public in January 2015 at $1.7 billion.
CEO Aaron Levie says he can appreciate what private companies are going through and why they’re hesitant to go public. “My state of mind four or five years ago was, ‘Let’s push off being public as long as possible,’ ” he says.
“The thing you imagine is, all of a sudden, once you become public, everybody only cares about the quarter and everything is going to be run for short-term returns,” Levie says. “That’s the brand that Wall Street has, for better or worse.”
But he says he has learned the benefits of public ownership: “There is a way to drive near-term performance and long-term strategy and innovation. Those things don’t have to be mutually exclusive.”
As for the increased scrutiny and the obligations around disclosure, Levie has found positives there, as well. “You just begin to run your company in a more disciplined fashion, operationally, organizationally, even culturally,” he says. “You start to care about a lot of things that when you were private you could be a little bit looser with.”

>>> Gas Natural Fenosa sells 59.1% stake in Colombian subsidiary to Brookfield f

Gas Natural Fenosa sells 59.1% stake in Colombian subsidiary to Brookfield for EUR 482m
18 NOV 2017
Gas Natural Fenosa [BME:GAS] released the following announcement to the Spanish stock-market regulator CNMV informing it has reached a binding agreement with Brookfield for the sale and purchase of its 59.1% in its its retail gas distribution and supply subsidiary in Colombia for EUR 482m:
Following a letter of interest received from Brookfield Infrastructure (“BROOKFIELD”), GAS NATURAL FENOSA, through Gas Natural Distribución Latinoamérica S.A. and BROOKFIELD have reached a binding agreement for the sale and purchase of its 59.1% stake in GAS NATURAL S.A. ESP, its retail gas distribution and supply activities in Colombia, through a process that will also allow minority shareholders to tender their shares at the same share price.
The transaction will be carried out in two phases. The first phase, which is expected to be executed in 2017, will involve the transfer of a stake in GAS NATURAL S.A. ESP that will derive in the loss of control of this entity by the seller. Subsequently, in the second phase, the remaining stake will be transferred through a direct tender offer or a delisting offer for acquiring control by the purchaser. The second phase is expected to be completed in the first semester of 2018, subject to Colombian securities and market sector regulations.
It is estimated that the transaction will have a positive accounting impact on net income after tax for GAS NATURAL FENOSA of approximately EUR 350m in fiscal year 2017, reflecting the growth of the company which, since its acquisition in 1997, has increased its number of customers from 400 thousand clients to almost 3 million clients and the length of its distribution network from 5,000 km to over 22,000 km at present. This impact on net income includes both the capital gain from the sale of the initial stake as well as the revaluation of the remaining stake due to the loss of control. The EBITDA and the attributable net income after taxes for the last twelve months as at September 2017 of this activity in Colombia amounted to EUR 138m and EUR 35m respectively.
The transaction terms imply a 100% enterprise value of EUR 1.005bn that leads to an equity value for the 59.1% shareholding of EUR 482m. Hence the agreement for the transaction is equivalent to 7.3x EBITDA and 13.8x earnings, based on the last twelve months.
The seller has specifically considered the development progress of these activities achieved over the last 20 years, having reached a 90% commercial penetration rate, while it has also born in mind the consideration offered by the purchaser and his experience managing energy infrastructure, as well as taken into account the value protection for the minority shareholders.
This decision does not affect the willingness of GAS NATURAL FENOSA to maintain a dialogue with the Colombian authorities that avoids the arbitration procedure for investment protection that had to be initiated in relation to its participated company Electricaribe. On the contrary, once the Colombian authorities have had the opportunity to get a one year first-hand knowledge of the reality of the power supply in the Caribbean coast, GAS NATURAL FENOSA
reiterates its appeal to these authorities in order to cancel the intervention measure for liquidation imposed last March and work towards finding an agreed, satisfactory and, above all, sustainable solution for the provision of power supply service in the area for the benefit of customers, employees, creditors and shareholders of Electricaribe.
For the closing of fiscal year 2017, GAS NATURAL FENOSA net profit remains within the target range (approximately between EUR 1.3bn and EUR 1.4bn) due to the fact that it is expected to offset part of these results advancing approximately EUR 100m after taxes restructuring costs related to its current efficiency plan, and due to the fact that the disposal of our Italian operations, which will generate approximately EUR 190m profit after taxes, could be completed during the first quarter of 2018 and not in the present year.

>>> US Close Dow -0.43% S&P -0.26% Nasdaq -0.15% Russell +0.40%


Closing Market Summary: Slim Losses Ahead of Thanksgiving Week

Stocks ended a rather uneventful Friday session modestly lower as investors turned their attention to the upcoming Thanksgiving holiday week.

The Dow lost 0.4%, while the S&P 500 and the Nasdaq dropped 0.3% and 0.2%, respectively. Small caps outperformed, sending the Russell 2000 higher by 0.4%.

Most of the S&P 500's 11 sectors finished Friday in negative territory, but losses were pretty modest overall. The top-weighted technology sector (-0.7%) showed relative weakness, as did the utilities (-0.7%) and real estate (-0.6%) groups, while the other laggards finished with losses of no more than 0.5%.

On the flip side, the energy sector advanced 0.4% to register its only win of the week. Energy shares climbed in tandem with the price of crude oil, which managed to retrace just about all of its weekly decline; West Texas Intermediate crude futures jumped 2.5% to $56.71 per barrel, ending the week with a slim loss of 0.1%.

Retail shares also advanced on Friday, thanks to an overwhelmingly positive batch of quarterly earnings.

Foot Locker (FL 40.82, +8.97), Abercrombie & Fitch (ANF 15.55, +3.00), and Shoe Carnival (SCVL 26.75, +6.12) were the top performers, adding between 23.9% and 29.7%, after all three companies reported better-than-expected profits for the third quarter. Abercrombie & Fitch and Shoe Carnival also provided upbeat sales guidance.

Similarly, Ross Stores (ROST 72.25, +6.56) and Gap (GPS 29.40, +1.92) added 10.0% and 7.0%, respectively, following upbeat results.

In other corporate news, 21st Century Fox (FOXA 31.15, +1.83) climbed 6.2% following reports that Comcast (CMCSA 36.16, -0.91) is interested in acquiring a substantial piece of the company and Tesla (TSLA 315.05, +2.55) added 0.8% after unveiling its new semi truck and next-generation Roadster.

U.S. Treasuries ended on a mixed note, pushing the 2yr-10yr spread lower by three basis points to 63 bps. The yield on the 2-yr Treasury note climbed two basis points to 1.72%, while the benchmark 10-yr yield slipped one basis point to 2.35%.

Elsewhere, equity indices in the Asia-Pacific region finished Friday mostly higher, with Japan's Nikkei and Hong Kong's Hang Seng adding 0.2% and 0.6%, respectively. Meanwhile, European bourses were weak on Friday, sending the Euro Stoxx 50 lower by 0.5%.

Reviewing Friday's economic data, which was limited to October Housing Starts and Building Permits:

  • Housing starts increased to a seasonally adjusted annualized rate of 1.290 million units in October (consensus 1.198 million), up from a revised 1.135 million units in September (from 1.127 million). Building permits increased to a seasonally adjusted 1.297 million in October (consensus 1.243 million) from a revised 1.225 million in September (from 1.215 million).
    • The key takeaway from the report is that it will be a positive input for fourth quarter GDP forecasts as the number of units under construction --1.096 million -- was slightly ahead of the third quarter average of 1.077 million.

On Monday, investors will receive just one economic report--October Leading Indicators--which will be released at 10:00 ET.

  • Nasdaq Composite +26.0% YTD
  • Dow Jones Industrial Average +18.2% YTD
  • S&P 500 +15.2% YTD
  • Russell 2000 +10.0% YTD