Welcome to the May edition of the Generate KiwiSaver Scheme Newsletter.

April was a good month for your KiwiSaver Scheme. First up, global share markets continued on their recent upward march. Second, research firm FundSource released its March quarter performance tables. The tables confirmed our strong performance against our peers. The Generate Growth and Focused Growth Funds were first and second placed for 2 year returns out of 25 diversified growth funds. In addition, the Generate Conservative Fund was placed second for its 2 year return out of 23 diversified defensive funds.

We are delighted we have achieved these results for our members and are working hard to try to maintain this performance.

After 50 years at the helm of Berkshire Hathaway (which is currently one of our largest investments for both of our growth funds) Warren Buffett has become widely regarded as the world’s greatest investor. In his annual letters to shareholders, and in various interviews he has given, he has shared many of the lessons he has learned during his career. This month:

"My successor will need one other particular strength: the ability to fight off the ‘ABCs’ of business decay, which are arrogance, bureaucracy and complacency. When these corporate cancers metastasise, even the strongest of companies can falter."

There has been much speculation as to who will finally replace 85 year old Buffett at the helm of Berkshire Hathaway when he moves on from the business (and most likely this world!)* Buffett has already chosen his successor, although who it is has not been publicly released. Safe to say that whoever he has chosen will have the resolve to fight off the ‘ABC’s’.

*After seeing him in video footage of the recently held Berkshire Hathaway Annual Shareholders’ Meeting we were encouraged by his spritely form.

Risk versus Return – the Trade Off

The link between risk and return is the most fundamental rule of investing. Low levels of uncertainty (low risk) are associated with stable and low potential returns, whereas high levels of uncertainty (high risk) are associated with high potential – albeit far less predictable - returns.

Because of the risk-return trade off, you should be aware of your personal risk tolerance when making investments and fully understand the inherent riskiness of a particular investment.

Risk can have a negative meaning for some people. But it is not necessarily a bad thing - as long as the degree of risk is well understood.

If an investor has a long term investment horizon (which is usually the case with KiwiSaver) the risk tolerance will typically be higher as a longer time period gives the investor the ability to “ride out” a down turn in markets.

The goal is to find an appropriate balance - one that generates a satisfactory return in the medium to long term, but still allows you to sleep at night!

As mentioned above global share markets advanced throughout the month of April – continuing the positive share market momentum seen since the market “bottomed” in mid-February. The MSCI All Country World Index gained a more subdued 0.6% throughout the month compared with the 5.3% gain seen in March (in local currencies).

We have been encouraged by the U.S. earnings season where more than two-thirds of US corporations in the S&P 500 have now reported their revenues and earnings for the March 2016 Quarter. Three-quarters of companies reported earnings above the (admittedly down-beat) average market forecast, whilst only one-fifth of companies have undershot analyst estimates. With oil prices stabilising and weakness in the USD providing a tailwind for U.S. exporters, earnings growth now appears to be troughing, though a rapid rebound in corporate profitability seems unlikely.

This – combined with other factors we have mentioned in previous newsletters (very low interest rates, reasonable economic data, a financially sound U.S. consumer) – leads us to remain cautiously optimistic about share markets. This is not to say we are ignoring the clouds on the horizon (Brexit, the potential for ‘America to be made great again’ by a trash talking reality TV star, and China’s monumental accumulation of debt to name a few). As a result we have positioned the Funds more conservatively than our long-term target asset allocations.

Following is a recap of market movements in April.

Despite some mediocre data such as soft US productivity gains, the US share market held on to gains from its surge in March with the S&P 500 returning 0.3% in April. The rebounding price of oil and a dovish US Federal Reserve (Fed) outlook continued to support investor sentiment.

European share markets rose in April, advancing for a second month in a row. The EuroStoxx 50 index ended the month up 0.8% as the European Central Bank (ECB) released further detail of its corporate bond purchase programme. Data at the end of April showed economic growth accelerating in the euro-area, and inflation dropping further, highlighting the inflation challenge facing the global economy including Europe.

In the UK the FTSE 100 returned 1.1% during the month. Data showed the UK economy to be growing at a sluggish pace. However, the stock market again took its direction from global events - particularly from oil and mining commodity prices.

Following March’s strong performance, global emerging share markets steadied in April with the MSCI Emerging Markets Index returning -0.2% (in local currencies). Again Latin America was the best performing region, followed by EMEA (Europe, Middle East and Africa), with emerging Asia being the laggard. Reinforcing positive sentiment was a further rise in commodity prices and a weakening US dollar.

In China economic indicators for March were stronger than expected, suggesting that recent fiscal stimulus and monetary policy easing were starting to be reflected in economic activity. Despite this the Shanghai Stock Exchange Composite fell 2.2% in April.

Over the ditch and the Australian share market was the star performer of the markets we closely monitor rising 3.3% in April. Further gains in commodities prices again drove mining and energy shares higher. Bank shares also made gains.*

Back home and the NZ50G chugged along with a more moderate 1.0% gain as the ‘search for yield’ continued to lend support to valuations. The reporting season gets under way in earnest in May so we await the earnings results from various stocks in our universe with interest.

*As at 30 April all three of Generate’s three funds held between 28% and 36% of their investments in Australasian (predominantly New Zealand) shares and so have benefited from the recent stellar performance of these markets.

The Conservative, Growth and Focused Growth Funds returned        0.80%, 1.40% and 1.44% respectively for the month (after fees and before tax). As per the ‘Market Update’ share markets generally advanced over the month. Some of the gains made by our offshore investments were again tempered by the New Zealand dollar, which rose against the USD and AUD.

The best performer out of the Funds’ property and infrastructure investments in April was Z Energy (Z) with an impressive 16.2% return. In late April the Commerce Commission cleared Z’s acquisition of Chevron NZ (which amongst other things operates Caltex petrol stations). This provides Z with a new medium term growth platform. We believed the deal would be cleared by the Commerce Commission and were positioned accordingly.

Aged care provider Arvida also put in a strong performance gaining 10.3% over the month after a second local broker initiated research on the company and slapped an “Outperform” rating on the stock.

For the second month running the weakest performing property and infrastructure stock was NZ Refining (NZR) with a 3.6% fall. Refining margins and the NZD/USD are key determinants of NZR’s profitability and both moved against NZR in April.

The top performing International Equities Manager (IEM) in April was Montanaro UK Smaller Companies Investment Trust (MUSCIT), with a 4.8% return in NZD terms. It appeared fears of a ‘Brexit’ eased in April especially after U.S. President Obama warned the British public on the potential perils of voting to leave the EU.

The weakest IEM performance was from the Magellan Global Fund (MGF) with a -2.3% return in NZD terms. During the month the NZD/AUD rallied 1.7% accounting for a fair slice of this return.

Throughout April new issue activity continued in the bond market. This was beneficial for the Funds given our overweight fixed income position. We participated in two new bond issues one of which was Chorus. This was the telecommunication infrastructure provider’s first foray in the NZ bond market.

The Magellan Global Fund.

Magellan Asset Management (‘Magellan’) is a specialist funds management business based in Sydney, Australia.

Magellan manages global equities and global listed infrastructure strategies for high net worth, retail and institutional investors. The principals, Hamish Douglass and Chris Mackay, are two of Australia’s leading investment professionals. Their long involvement in M&A activity and corporate advisory work has resulted in invaluable experience and expertise in valuing companies, as well as assessing the macro environment and risk management.

The Magellan Global Fund is a quality-focused, long-only unit trust that invests in a concentrated portfolio of global equities. The investment objectives of the Global Fund are to achieve attractive risk-adjusted returns over the medium to long term, while reducing the risk of permanent capital loss.

As of March 31, 2016 the Magellan Global Fund had AUD$7.7 billion in funds under management and a 5 year return of 19.3% p.a. - outperforming its benchmark (MSCI World Net Total Return Index AUD) by 6.3% p.a. Some of its largest holdings were in Microsoft Corp, Visa Inc, and Yum! Brands

Next month: Platinum International Brands Fund.

If you have any questions after reading your newsletter, give us a call on 0800 855 322 or email us at info@generatekiwisaver.co.nz and we would be more than happy to help.

We thank you for your support,

The Generate Team