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Notes by EMA: Credit Suisse Asian Investment Conference 2017 – Part 2

Credit Suisse Asian Investment Conference 2017

(Part 2)

Enrique Aboitiz Mendieta

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HOW IS TECHNOLOGY SHAPING OUR FUTURE

Sebastian Thrun

Founder and President, Udacity

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ARTIFICIAL INTELLIGENCE IS TO BE THE MOST DISRUPTIVE AND IMPORTANT TECHNOLOGY OF OUR TIME.

It will enhance our IQ and will replace the repetitive work that humans do. It cannot, however, replace the innovative and creative occupations – it cannot replace things that are done for the first time.

To understand AI, you need to understand how computers work. In the past, long programs were used, or recipes, so to speak. This entailed the use of millions of lines. Now, computers are taught by example, like how we teach children. Deep learning is involved.

Gaming is one area where AI can be used to its full potential. Just like how Deep Blue was able to defeat chess player Kasparov, or how Google’s AlphaGo was able to beat Go player Lee Sedol. Computers have the capacity to go way beyond in situations where man can calculate.

Another area where AI can excel is medicine. Computers can replace doctors in their capacity to diagnose, as their accuracy levels are way above doctoral diagnosis. A third area where AI can be applied to is transportation, specifically for self-driving cars. All of the repetitive moves and routes can be learned and can be done better by computers. The technology is already here and is safer than man.

Source: futureoflife.org
Source: futureoflife.org

In the past 150 years, only 1% has been invested in compared with what actually is technologically possible. Self-driving cars can save up to 65% of the cost, without the driver, and there will be less pollution. Technology can free us and give us more time. Farmers can become investment bankers, and IQs will shoot through the roof.

THE CREATIVE IS TO BE DONE BY MAN, WHILE THE REPETITIVE CAN BE DONE BY AI.

WE ARE SHORT OF TWO THINGS. TIME AND ENERGY. ANYTHING THAT GIVES US MORE. WITH VIRTUAL REALITY, YOU WILL SIT IN A ROOM AND VISIT AUSTRALIA FROM THE AIR AND FEEL LIKE YOU ARE THERE FOR PEANUTS.

We have an error in our educational system. We are taught to memorize. We need to be taught to learn and to be curious. Public education will be relatively worse, which spell disaster for the lower classes.

VIRTUAL AND AUGMENTED REALITY

Virtual and augmented reality is yet another technology that has a lot of potential. The virtual reality theme essentially has four parts: interaction, hardware, content and finance, and there are a number of companies that cater to these parts, like Lead Motion, 500 Mobile Collective Microfund and Penrose Studios.

Challenges for virtual reality however can be found in our education system. It is not being taught and is not included in curriculums. The poor will likely not have access to this technology, leading to learning and enjoyment gaps. Further, there has to be bulk usage for the technology to be economically viable. It needs at least 100 million users. Virtual reality has no frame. It integrates sense or presence. What might drive the use of the technology is pornography, since it will drive bulk usage, making it more economical.

THE TAYLOR RULE

Why it is a better guide for Central Bank policy?

Is it still applicable?

John Taylor

Professor of Economics, Stanford University; and Senior Fellow, the Hoover Institution

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Economists have been interested in policy rules since the emergence of serious economists like Adam Smith. They were interested in policies that did not cause its own shocks and helped reduce or manage the economy.

At that time, it was so important to economic models that eventually, we ended up with very complex situations with too many variables. Simplicity had to be introduced.

John B. Taylor (Source: U.S. Department of the Treasury)
John B. Taylor (Source: U.S. Department of the Treasury)

The Taylor model is a guide as to how central banks should control interest rates in response to inflation levels and other economic conditions. In coming up with the Taylor rule, economists decided to let asset prices and exchange rates be, and tested it in a span of 25 years – from the 60s to the 90s. When the Fed did well using the policy and when it did not fare so well when it did not follow it, it proved the rule worked. They learned that it applied to other countries as well.

During the time of Alan Greenspan, the U.S. Central Bank decided not to follow the Taylor rule. The bank lowered interest rates, which then drove demand for housing. Interest rates went from 1997 at 5.5% to 1% in 2003. There was excess speculation. The crash came in 2008 during the subprime crisis.

Now that things are normalizing, they are going back to the Taylor Rule slowly. Some legislation should be added to reinforce rules based on central bank monetary policy. It works better if it’s rules-based. There is talk of lowering equilibrium rates to 1% plus inflation. There is no evidence that this should be done. Rules-based does not have to be formal. Sometimes, formal gets you into trouble.

The Japanese did not follow the Taylor Rule. As a result, first their economy tightened. Then they eased too much 30 years ago. The bubble came and they are still there.

CAN GLOBAL POLITICAL TENSIONS BE SETTLED?

John Major

Former Prime Minister of the U.K. and Senior Adviser, Credit Suisse

Robert Kaplan

Senior Fellow, Center for a New American Security; Senior Adviser, Eurasia Group

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Major: The first Democrat America is pathetically anti-globalization. All wanting to be first will soak up trade. It is time to make the case everywhere about globalization, and keep making the case. X years ago, 40% of the world was in dire poverty – today it is 10%. 40% was illiterate, and now it is down to 10%. Many people are being pulled out of dire poverty everyday. Globalization is messy, it has drawbacks and it is misused.. Benefits are not distributed properly and some are dodging taxes. But the NET BENEFIT HAS BEEN HUGE. A billion people each year cross international borders. Millions migrate.

Kaplan: Three areas of risk. 1. North Korea 2. South China Sea 3. East China Sea. The U.S. will defend the East China Sea before it does South China Sea. Japan is a more important treaty partner than the Philippines. It is harder to stay out of a conflict in the East China Sea.

China does not want to see a united Korea that is ruled out of Seoul and under American influence. However, North Korea may not be as subservient to China as China may want.

Chinese priority is the South China Sea, as it is the same to them as the Caribbean was to the United States. Right now, they cannot protect China beyond a 200-km range. The Indian Ocean is more important to them that the East China Sea. U.S. and China have a multifaceted relationship. U.S. will not sacrifice that for the South China Sea but it may for the East China Sea – or will.

Source: zoominkorea.org
Source: zoominkorea.org

Major: added to above another risk, which is the danger around the trade disputes of China and the U.S. They can stumble with some careless action or careless talk.

BUT THE CHINA-U.S. RELATIONSHIP IS MUCH BETTER THAN USSR-U.S. RELATIONSHIP. China does not like the idea that the U.S. could give South Korea missile shield capability if North Korea keeps misbehaving.

The Obama pivot was because the U.S. has always retreated after a war. It was Korea that brought about NATO. Without Korea, there may have been no NATO, or it could have been formed at a later date. Obama did not want the U.S. to retreat.

Japanese wanted Trans-Pacific Partnership (TPP) not so much for trade with the U.S., but to get ASEAN into TPP so that ASEAN could become a stronger block.

Lee Kuan Yew said years ago: America is in Asia because it wants to be and not because it has to be. The day may come when they may not want to be in the continent as much as they do now.

Major: suspicious of pivots here and pivots there. The market is Asia, and the U.S. can’t stay away from it, and ultimately, the market decides.

Kaplan: the American democracy was an incredible success in the typewriter and print age, but not so sure it will be so for the digital age. Today, it’s not just presidents tweeting; the media has also changed. The U.S. success has all hinged on the personal character of the president because those he appoints to get things done, depending on his character. Today, we have a president with a problematic character. He may adjust but he will not change. Global stability has had to do with the U.S. and its liberal democracy of the past 75 years.

DIGITAL AGE AND DEMOCRACY????

Major: European Economic Union (EEU) will not break up. Le Pen will not win. Even if she does, she needs a parliament to leave the EEU, and it will not agree. Greece will remain – the cost of letting her go is much more than the risk of others leaving. The EEU will need to reform. It would have begun had some southern states not been in bad shape. As things improve economically, change will enter. The reason it will stay together has as much to do with politics as it has with economics. Individually, all countries are just too small economically and politically. The EEU is beginning to recover, and as it recovers less noise will come about and then it will begin to reform.

Kaplan: The Philippines is troubled. The north has managed to lord over the Muslims and the south. U.S. military helped with south Myanmar with multiethnicity and its divisions, and the lightening up of the military is exposing these cracks. Malaysia has its problems with corruption but it has come a very long way. So Southeast Asia has its problems above, but these are not new and are containable.

Major: He pointed out tensions within states. Inequality particularly in the U.K. and the U.S. He emphasized people not having the skills to continue to be employable. At 14, the educational system has to decide if you are to go to the academic world or the manual world. If not, people will be left behind. Many countries are unhappy with their politicians because they have not cope with the change, hence all this anti this and anti that.

Kaplan: He talked about two countries.

Kaplan: He is concerned that Yemen would become a site for a proxy war of the U.S. and Iran. Syria is worse than we think. Assad is against the rebels, and within his group, there are two fighting groups: his people and those he subcontracted to fight the rebels.

Map of the Middle East
Map of the Middle East

TO INVADE IS TO OWN – THIS IS THE REASON WHY BUSH SR. DID NOT GO INTO IRAQ AFTER THE KUWAITI WAR.

Major: The entire Middle East is in trouble. Iran’s nuke deal with the U.S. alienated Saudi Arabia and Israel. The Gulf is normally united, now there is tension. Nowhere is there stability in the horizon for the region. Oil will stay down in price.

Kaplan: It is not autocracy nor democracy that worries him, it is governance. Liberal autocracy with good governance (i.e. Singapore) can work better than liberal democracy with bad governance (like the Philippines). He did not mention the countries, I did.

Major: Democracy takes time to get things done. Autocracy moves faster.But in a democracy, you are free. In the last 10 years, democracy has not retreated. It is quite resilient.

CHINA

In terms of development, China is past the worst. Cities are integrating like in Metro Manila. Rust belt cities are also happening in China. Examples of these cities are the areas that lived off mining. Even during the bad times, there was no reduction in the investment pace in the country. When foreign direct investments in real estate fell, domestic trusts and insurance picked up the slack.

In terms of land, more people are keen to buy this year. Funding costs better than a couple of years ago. Hot cities are reluctant to release land supplies. More people are keen to buy this year. Investing in China was never a leverage nor an underlying asset value game. In Japan, however, it’s all leverage and not about the underlying asset.

Twenty years ago in Hong Kong, there were 100 developers. Now, they are down to 10. Land value is really high and therefore one needs: expertise, balance sheet and brand. China will eventually go down to 20 brands in 10 years.

Hong Kong skyline (Source: theseuniversities.com)
Hong Kong skyline (Source: theseuniversities.com)

Chinese people have an ‘owning’ culture. Before they marry, they need to own a property. They move up in the tier of cities when they have children, because the kids need to go to school. The older people, too, are moving to the cities. Hong Kong is a first-tier city in China. Prices are chasing each other. The comparison is Hong Kong and Shanghai. The price is HKD200 per square foot; Shanghai is about a third of that.

The rich and the educated in China move to first-tier cities, and first- to third-tier cities are booming. Prices have risen by 100%.

It is an Asian phenomenon – the desire to own. For example, Indians like gold. Hard stuff that are seen to retain value no matter what. In the most recent years, the conversation was about overheating, now it’s about opportunity; before it was about ghost cities, now it’s about opportunity.

TRUMP VS BEST ROE FUNDAMENTALS IN SIX YEARS

Sakthi Siva

Head of Asia Pacific Equity Strategy, Credit Suisse

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Earnings growth revision is up 12% from expectations and maybe even 15%. This has been the highest revision since 2010. In the Asia-Pacific, except Japan, ROE is up from 10% to 10.2%. While this might seem low, it’s important to note that this growth has a broad base. In the region, three countries are up, and two states are showing signs of rising. Cyclicals are up, compared with previous years’ defensives. Overweight financials are evident.

HER FOCUS IS ON ROE AND NOT GDP. LOOK FOR RETURNS AND FORGET ABOUT THE GDP GROWTH OF A COUNTRY. WE NEED GREAT STOCKS, NOT GREAT COUNTRIES. LIKE WINE, LOOK FOR A GREAT BOTTLE.

Taiwan corporates’ net cash are unleveraged. ROE across the board exhibits good signs. Countries with current account deficits, which present exchange rate risk, should be avoided. Bank price-to-book ratios are low everywhere. For Singapore banks, nonperforming loans come from commodities, and these have bottomed out. Nonperforming loans are now turning. For South Korea, their concern is about North Korea tension, but they should also look at ROE.

FUNDAMENTALS WILL TRUMP TRUMP.

KEYNOTE ADDRESS

Nicolas Sarkozy

Former President of the French Republic (2007-2012)

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Brexit was a big mistake on the part of the U.K. The country is the financial capital of Europe and English is the main language of the world. The divisions in the EEU push us apart, and it takes time to repair the relationships.

Former French President Nicolas Sarkozy (Source: Reuters)
Former French President Nicolas Sarkozy (Source: Reuters)

To fix the EEU, its model needs to be rebuilt. A new treaty will have to be signed and Britain will need to vote once more. The way Cameron has put it, they are bound to lose. The choice is between business as usual or a new EEU. Before, the U.K. and the U.S. were the focus. Today, it’s Asia. Tomorrow, it’s Asia and Africa. Why? Because of their demographics. There are 800 million people in the EEU and the U.S., which is around 10% of the world’s population.

Trump’s election is not the problem. It is the symptom of the problem. The U.N. would have to change the composition of the Security Council to include India, China, Latin American countries and Africa. Russia will have to work with them whether it likes to or not.

It would be a different world for democracy. The media is different now – all criticism, all sensational. It’s now a question whether De Gaulle or Thatcher would have risked what they did in their decisions in this kind of atmosphere. Maybe not. The European democracy was designed for reasonable people to lead, not for unreasonable people with the loudest voice.

THE EEU WILL HAVE TO BE REBUILT AND REDESIGNED.

We have never had so much media that cannot explain to the people properly what is at stake, and systemic destruction could result. There is a new world order, with new institutions. The role of the IMF is not to criticize what Benin pays its civil servants. There should be less organizations and more communication among them.

Unanimity in the G30 needs to be stopped. All agree that the majority must decide so things get done. The EEU was not listening to Britain.

PRO-GROWTH ANTI-GLOBAL WORLD – OUTLOOK ON ENERGY

Oil is global, gas is not. Several regional markets are beginning to go global. Now, more and more stronger dynamics are present everywhere.: the Middle East, Latin America, the Carribean.

Source: Shutterstock
Source: Shutterstock

The cost of shale has come down. Reserves are up to 100 billion. It’s here to stay for a long time. Production is ramping up 1.5 million more in the next few years. It’s like the North Sea of the 80s when the price dropped; they found a way and it lasted. The same will happen to shale.

Upstream oil sector investments are dropping. Gas is moving more and more to transport,

to vessels, to motorcycles in India. Emission controls are tightening. This will be what will disrupt the industry – emissions control.

Low-carbon energy through renewables are also on the rise. Solar, gas and battery combinations are slowly making their way into off-grid consumption. Disruption will not come from the big end, specifically solar or battery versus coal. Maybe in time this could be a reality, but it won’t happen overnight. A great deal of capacity has to be installed for renewables first. Emissions control is also disruptive to traditional fossil fuel sectors.

However there are challenges for renewables. In Europe, solar land use is becoming an issue. In the U.S., migratory birds are conflicting with the wind. Solar power will take 2 billion people coming into the world and consuming more and will take longer than we think. For electric cars, there’s currently 1 million in the world of 1 billion cars. It still has some ways to go.

As far as oil is concerned, demand will peak, but not production. Oil demand will grow through 2040.

FOR EMISSIONS, A SOCIAL LICENSE TO OPERATE IS NEEDED.

IT IS STILL A NEW CONCEPT.

YOU MAY HAVE THE ECONOMICS AND THE PERMIT, BUT SOCIETY MAY STOP YOU.

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(Read Part 1 here)