I’ve been getting a lot of inquiries as to my view of 2012. Well, strictly speaking my view of this year is more ambivalent due to the many things going on, particular in the world economy. 2011 was a very eventful year, ballooning deficit on the US side, debt woes in the European front and lack-luster economic growth in the Asian sphere, particularly the Philippines. The stock market performed very well, only to wipe out its gains towards the later part of the year.

On the Philippine front, the Aquino government went on a all out war against corruption and the irregularities, while there is a view that the anti-corruption measures improved our situation, a lot of under-spending resulted to a sluggish economy, with forecasts being down graded fairly often.

It is not only economic woes that concerned the beginning of the new decade, the political landscape in the Middle-East is in a precarious situation. As that region controls a precious commodity, oil — the whole world is at its toes in fearful anticipation. Further, natural calamities seem to be more rampant and the damages it brings causes incredible losses as well as grief.

So what do we see for 2012? I am generally a very positive individual but I am also a realist at the same time. While my general view is on the bright side, it will be irresponsible for me to wantonly say that everything will be fine and dandy for 2012. Since my views on the matter really don’t hold much water anyway, who am I to be giving them in the first place, I thought of compiling the views of people who are really competent on their subject matters and asked them for their outlook. I opted to collect their views on post a series in my blog for the readers to peruse.

I will make my notes on the outlook and probably make mine in the last installment of this series. However, what I was able to gather from the experts are extremely insightful and very helpful to those asking what’s in store for 2012. I only asked from people that I personally know and all of them I truly admire and respect.

Catch this series!

Italy is a first world country by any definition. This country is known for many things like architecture, history, Ferrari, Gucci and pasta. This is also a leading nation that employs many of our Filipino workers bulk of which are domestic helpers.  Recently, Italy has been in the center of a lot of talks with its ballooning debt & fiscal disarray. Many doom & gloom scenarios places Italy as a nation to follow the state of Portugal, Ireland, Greece and Spain (collectively known as PIIGS).

Just how risky is Italy? The worsening debt issue of Italy is scaring a lot of people, particularly financial institutions that owns a lot of Italian debt. Standard & Poors recently downgrades Italy from A+ to A but the downgraded rating still makes Italy’s debt ‘investment grade’. The economy of Italy is in a precarious state and the whole world is now looking closely as to how the Italians will handle their situation with much anxiety. Just recently, a new leader was elected in the Italian parliament, a technocrat who just might change the fate of a country rich in heritage.

The Philippines is considered an emerging market, a politically correct term for ‘third world’. Unfortunately, our country is considered a laggard even amongst Asia and not a favorite destination of foreign investments. Philippine sovereign debt is not a choice investment by many owing to many factors such as bad governance, debt issues, political instability, among others. The leading credit rating agency, Standard & Poors gives this Southeast Asian archipelago a rating of BB, two notches below ‘investment grade’.  The Philippines is one of those countries that send thousands of its workforce to work for Italians.

In investing, yield is always a function of risk – the higher the risks are, the higher the yields should be – at least in theory. Following the credit ratings of S&P and owing to the nature of the economy of Italy and the Philippines, it would be logical that our country is a much riskier one than Italy. If we are riskier than Italy, then it is only logical to assume that investing in Philippine debt should give a much higher yield than Italian sovereigns. That is not the case today. Italian sovereign debts now give a yield of about 7% p.a. (Yield to Maturity or YTM) while Philippine debts (popularly known as ROP) now yields about 3 to 4% p.a. While credit raters, economists and the media say we are a very risky nation, the market has declared otherwise. Price is a function of value – if Italian debt is now cheaper than Philippine debt, I would like to think that the market has made its judgment. Another question in my mind is just how credible and relevant are credit raters today? Raters have been giving the Philippines below investment grade (also referred to as junk) yet we continue to be faithful in the payment of our obligations, no scenario of default and our debt to GDP ratios are twice better than first world nations. Go figure!

When an investment grade country’s sovereign debt gives higher yields (ergo riskier) way above the sovereign debt of a below investment grade country (ergo less riskier) – that is the new normal in a new world order.

Investment:  The commitment of funds made in expectation of some positive rate of return. If the investment is properly undertaken, the return will be commensurate with the risk the investor assumes.

I like the above definition of what an investment really is – it’s not just about returns, it’s also about risks. If the investment is properly undertaken, the risks determines the return and vice versa. Before anyone parts with his hard earned money, he should first understand the relationship of risk and return which is very fundamental and states that:

Low Risk = Low Return

High Risk = High Return

Regardless of how people will claim, the fundamental truth about risk and returns will not change. No amount of financial engineering will alter the fact that returns will always be a function of risks. Further, to say ‘low risks’ does not mean ‘no risk’. I refuse to believe that there is any investment instrument that you can categorize as no risk at all. Recent developments have made the world realize that ‘no-risk’ instruments like debt of first world countries are not really ‘no risk’ at all, in fact many now question if they are in fact, ‘low-risk’ at all.

For purposes of discussion let me give examples of low risk instruments common in the Philippines.

Debt instruments: Savings, Time Deposits, Special Deposit Accounts, Treasuries, Corporate Bonds.  The most common financial investments being transacted in Philippines are debt securities, also known as creditor claims. In essence, one lends and another borrows for these types of transactions.

Savings Account and Time Deposits : Simplest and most common form of a debt investment. A depositor gives money to a bank and the bank guarantees that the money is there after a stipulated period of time; and in return, the bank pays the depositor for letting it use the money for operations (lending, treasury, etc.). Since these instruments carry the guarantee of the bank and most of these are very short term in nature, hence highly liquid instruments (cash or near cash), the interest one gets from these transaction are really low, quite negligible if you ask me. The risk of said investments are really low and if the bank is a reputable and stable one, the risk of capital loss is minimal and none at all if the amount is covered by the PDIC (up to P500,000). The stability of the bank largely dictates the amount of interest it can give so the bigger/stronger the bank is, the lower the interest you can get. Smaller banks need to compete with reputation so they need to entice depositors with higher returns. This is a clear example of risk and return. However, investments in these instruments are relatively safe. Further, the Central Bank ensures that banks are solvent and must meet all its obligations through reserve requirements and other regulatory measures. Unfortunately, even good systems can be flawed and quite a number of ailing banks slips in to the Central Bank’s watchful eye. For savings, the market rates ranges from 0.5 to 1.0% p.a. (yes, per year!) and about 2.0 to 4.0% p.a. for Time Deposits. Smaller banks like Commercial Banks and Rural Banks offer higher rates, from 3.0 to 6.0% p.a. ranges.

Catch for more of these in my next blogs…