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The first process in Risk Management if you are a project manager is to Plan Risk Management.   I covered this process for the Global Risk Report 2014 by the post two days ago on the methodology of the report, which describes the way the data for the report was collected.

The next process in Risk Management is to Identify Risks, and that process is covered by yesterday’s post, which showed that the 31 global risks that were identified as the key factors that the respondents needed to consider for the next process, which is the process of ranking and prioritizing those risks.   The reason for prioritizing risks is simply to allocate resources towards risk responses in the most effective way possible.

1.  INTRODUCTION–THREE QUESTIONS OF QUALITATIVE ANALYSIS

The three questions that the respondents were asked about the 31 global risks were:

1. Which five of the global risks are of highest concern?
2. Which five of the global risks have the highest probability of occurring in the next decade?
3. Which five of the global risks would have the greatest potential impact if they were to occur in the next decade?

This post today covers the first of these three questions, the risks of highest concern.   Based on the answers from the respondents, the chart below contains the top 10 of the 31 global risks considered to be of highest concern.   (For a list of the 31 global risks, see the post for 02/04/2014.)   The list contains which of the five risk categories that risk belongs to:   economic, environmental, geopolitical, societal, and technological.

2.  ECONOMIC RISKS

From the above chart, you can tell that the category of risks that receive the highest number of votes for risks of highest concern is economic, followed by environmental.

One could argue that the fiscal crises, leftover from the Great Recession of 2008-2009, are closely linked to the risk of next highest concern, structurally high unemployment/underemployment.    The risk here is that even if there is an economic recovery, which appears to be the case in North America and Europe, the epicenter of the Great Recession, that the economy will not return to the same pre-crisis levels.

And the 4th highest risk, severe income inequality, can be understood from the observation that, as productivity continues to increase due to gains from technological, quality control, etc., the gains from that productivity will be heading mainly to the capital side of the economic interactions of society and not to the labor side.   This is borne out by the fact that real wages in the US (adjusted for inflation) have been stagnant.

It appears that the President Barack Obama understands the danger of the 10th highest risk, political and societal instability, and is trying to ease this danger by focusing on measures to alleviate structural high unemployment/underemployment (risk #2) and severe income inequality (risk #4).

3.  ENVIRONMENTAL RISKS

The extreme weather we are experiencing in the US is symptomatic of  risk #6 (greater incidence of extreme weather events).  It’s not the frequency and severity of snow storms east of the Rocky Mountains that I’m referring to, but that phenomenon coupled with the severe drought that is occurring in California and places west of the Rocky Mountains, to the extent of causing water crises (risk #3 above).

This imbalance of extremes of heat and cold in the depth of winter are, in turn, caused by an imbalance in the arctic jet stream (the so-called “polar vortex”) which in previously years has circumscribed the Arctic Circle but is now bulging asymmetrically downwards east of the Rocky Mountains.   If you ask why this is occurring, it probably has to do with the reduced ice cover over the arctic.   If all of these causal links aren’t necessarily proven within a magnitude of certainty, they certain are suggestive of how many of the environmental risks listed in the above chart are interrelated.

4.  SUMMARY

Economic and environmental risks seem to be those that worry most thought leaders who are in a position to know; the point of reviewing this list of 10 risks is not only recognizing that these two categories consume the majority of concern of leaders, but also that many of these risks can be seen as interconnected (a topic of a later post).   Although this may seem daunting, it is also a way to garner a sense of modified optimism, in that measures used to mediate even one of these risks may have a positive spillover effect on other risks in that same category.

The next post will deal with the second question of the qualitative analysis, those risks which have the greatest likelihood  of occurring in the next 10 years.

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`.  INTRODUCTION

The World Economic Forum puts out a Global Risk Report every year, and the report for this year 2014 they put out their report in January.   The first process in risk management is identifying risks.   The WEF has taken a different tack in 2014.   They started out with 25 risks divided into 5 categories, and then they increased that number to 50 risks in 2012 and 2013.  In 2014 they are streamlining the process to include any intermediary number of 31 risks, which are as before divided into 5 categories:  economic, environmental, geopolitical, social, and technological.

The definition of a global risk used is an occurrence that causes significant negative impact for several countries and industries, and that occurrence is something which expected to appear within the next 10 years.

Here are some examples of risks which manifested in 2013 in each of these 5 categories.

• Economic (fiscal crisis in the US)
• Environmental (Typhoon Haiyan in the Philippines)
• Geopolitical (Syria’s refugee crisis)
• Social (record income disparity in the US)
• Technological (Massive data theft from Target in the US)

The fact that I have included three examples from the US is related to the fact that I live in the US.   This shows an example of bias, in that the risks I pay attention to are those in my immediate experience.   The WEF has tried to avoid that geographical bias by asking 700 leaders from all over the world.

2.  IDENTIFIED GLOBAL RISKS

Here is a chart of the 31 risks divided into the 5 categories mentioned above.   This is taken from Appendix A of the Global Risk Report 2014.

3.  CONCLUSION

The majority of the 31 risks are practically equally divided between the four categories of economic, environmental, geopolitical, and social risks.   There are a relatively small number (3) of technological risks.

The next step in risk management is performing qualitative analysis, which assigns to each risk a probability, a potential impact, and a level of concern.   That is the subject of the next post.

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On January 16th, the World Economic Forum which meets every year in Davos, Switzerland, put out its Global Risk Report, which describes those risks which have the highest likelihood of occurring and which would have the highest impact on the world if they do occur.   During the next week, I would like to delve into the details of the report, which can be found at the following site:　http://www.weforum.org/reports/global-risks-2014-report.

1.  INTRODUCTION

Since I started this blog in April 2012, I have followed these reports in 2012, 2013 and now this year’s report because they give an insight into the pressing problems around the globe, and how they interact.   Understanding these global risks can give insights into the background behind the major events that will transpire during the year, and so studying this report has become an essential tool in being prepared for what lies ahead.

Posts during this week and next week will go into the following topics:

• Methodology of the Global Risk Report 2014
• The 31 global risks identified by the survey and the 5 risk categories they belong to
• Ten Global Risks of Highest Concern in 2014
• Global Risks Landscape 2014–maps risks according to their likelihood and potential impact
• Global Risks Interconnections Map–showing interdependencies of the 31 global risks
• Risks and Trends to Watch–recent trends in global risks, and risks may become more important in the future
• Three Risks in Focus–an in-depth discussion of economic insecurity, youth unemployment, and the integrity of the Internet
• Strategies for Global Risk Management

2.  METHODOLOGY

Because I go into what the report tells us, I wanted to start today with a different question on how it was done.

a)  Identify global risks, which are risks that are global in geographic scope, cross-industry relevance, uncertainty as to how and when they will occur, and high levels of economic and/or social impact.    31 global risks were identified.

b)  Categorize these 31 global risks into five Risk Categories: economic, environmental, geopolitical, societal and technological.

This became the basis for the Global Risks Perception Survey, which was sent in October and November 2013 to over 700 decision-makers and leaders, and questions were asked about 31 selected global risks.

c)  First the respondents were asked to choose the five risks of highest concern globally and to rank them from 1 (relatively highest concern) to 5 (relatively lowest concern)–new for the 2014 report

d)  Then the respondents were asked to assess the likelihood and potential global impact for each of the 31 risks.   This then became the basis for the Global Risks Landscape 2014 part of the report.

e)   To see how the 31 risks were interconnected, the respondents were asked to identify three to six pairs of risks they believed were connected.   The strength of the interconnection of each pair of risks was determined by the number of respondents that had cited them.    This then became the basis for the Global Risks Interconnections Map part of the report.

f)   Then two open questions were asked of the respondents

Which additional issue could potentially emerge as a risk of major global concern in the future?

The first question, as mentioned above, was the first time that respondents were asked to nominate their own risks as ones facing the world at present.   The second question forms a “watch list”, that is, risks which are both low in terms of probability and/or impact at the present, but which could migrate due to future trends of increased probability and/or impact to a position where they might become prominent global risks at some point.

For more technical detail into the composition of the respondents in terms of gender, age, geographical area, and stakeholder group (i.e., business, academia, NGOs, national governments, or international organizations), as well as details on how these responses were handled from a statistical basis, you can go to Appendix B of the report which is at the website mentioned at the top of the post.

3.  CONCLUSION

In the past two years, I have gone through the results in the Global Risks Landscape, but I think this year I would like to do a more in-depth study of every aspect of the Global Risk Report, because such a study will have benefit to myself in going through the material, and hopefully will have benefit to those readers of this blog who may benefit from my summary.

Having worked in the automotive industry and the insurance industry, and now having become a project manager, I have been fascinated throughout my career with the concept and practice of risk management.   Such a thorough study of this global risks report is an excellent exercise in understanding how to identify and analyze risks, but it also is an inspirational example of how risk management, rather than being just an academic exercise, can actually be of help to global leaders who are trying to cope with the world’s most intractable problems.     The more people that are informed about the nature of these problems, the less they will be tempted to react to them with a sense of passivity based on fear, and more with a sense of purposeful action.

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Today is February 2^nd, Groundhog Day, which in my childhood I knew as a quaint folk custom involving predicting winter weather based on a groundhog emerging from its burrow and then either staying out or retreating back into its burrow after seeing its shadow.

In 1993,the movie “Groundhog Day” directed by Harold Ramis quickly became one of my all-time favorite comedies, and so I celebrated the day with a viewing of the movie as I do every year.

1. Groundhog Day: From Imholc, to Candlemas, to American Folklore

I have learned that Groundhog Day had its origin in Candlemas. Candlemas is a Christian holiday which celebrated the presentation of Jesus at the Temple of Jerusalem. However, it was essentially a Christianization of the older pagan holiday of Imbolc, the day halfway between the winter solstice and the spring equinox in the Celtic calendar. Many Christian holidays including Christmas itself were celebrated on days of pagan holidays, and Candlemas seems to be part of this tradition.

Here’s an interesting folk legend of Candlemas:

If Candlemas be bright and clear,
There’ll be two winters in the year;
If Candlemas bring wind and rain,
Old winter shall not come again!

Now on Groundhog Day, if the groundhog supposedly sees its shadow, it will retreat back into its burrow, and the winter weather will continue for six more weeks. That’s literally the functional equivalent of the ancient legend of Candlemas, and is probably its origin as well, since Groundhog Day began as a Pennsylvania German custom in the 18th century, and they imported the Candlemas tradition from Europe.

So it went from being a pagan holiday to a Christian holiday to an American folk tradition.

2. Groundhog Day: The Movie

For those who are unfamiliar with the plot of the movie, it stars Bill Murray as Phil Connors, an egocentric weatherman from Pittsburgh. He is assigned to cover the annual Groundhog Day event in Punxsutawney, Pennsylvania, together with his news producer Rita (played by Andie MacDowell) and cameraman Larry (Chris Elliott).

He loathes the assignment and can’t wait to get back to Pittsburg when it’s over. However, due to a freak snowstorm they have to return to Punxsutawney and the next morning he wakes up … and it’s Groundhog Day all over again. He is stuck in a time loop, but nobody else is aware of it. Because of this he first takes advantage of the situation, robbing a cash truck, seducing the women of the town, and generally behaving in a selfish and arrogant manner. He then tries to seduce Rita, but to no avail because she’s “not that kind of girl.”

Despondent, he now tries to escape the time loop through repeated attempts at suicide, but to no avail: he keeps waking up over and over again on the same day.  Finally he decides to reach out to Rita as a human being in a spirit of compassion and conquests, and tells her about what’s going on with him.  She is obviously skeptical at first, but his ability to tell her precisely what will happen at the next moment convinces her that something is going on.

Based on her advice to see this experience as a blessing and not a curse, he decides to reexamine his priorities and ends up helping the others in the town, rather than taking advantage of them. By the end of the film, he is the most popular guy in town, and Rita “buys” him in a slave auction after which he tells her as they lay in bed talking that he genuinely loves her.

Finally, the next day he wakes up … and it’s February 3^rd and the time loop has been broken! The last scene, he asks her to stay and live with him in the town of Punxsutawney, the town that he had been trying to escape from the entire movie.

3. Groundhog Day: The Interreligious Symbol

Heather Parton, the Santa Monica blogger who goes by the moniker of Digby in her blog Hullaballoo, related an article that ran a few years ago in The Independent about Harold Ramis discussing the reaction to the film that came from various spiritual leaders.

The largest reaction he got was from two religions that would seem very different. He got calls from Rabbis saying they were preaching the film as their next sermon.   The Rabbi of the New Shul congregation in Greenwich Village, Dr. Niles Goldstein, said that Murray’s character is rewarded for performing what Judaism refers to as good deeds, or mitzvahs.

Then the Buddhist monks chimed in and said it perfectly expressed the notion of samsara, the continuing cycle of rebirth that individuals try to escape.

Harold Ramis pointed out that many Buddhists in the US started as Jews, because there is a remarkable correspondence of philosophies and style between the two religions, which are focused more on redemption in life, rather than in the afterlife.

However, many Christians also found that the film contains themes within the Christian tradition, with the groundhog being an Easter-like symbol of hope for the renewal of life at springtime, whereas Catholics interpret the “time loop” as a symbol of Purgatory, which every soul must pass through before entrance into Heaven.

4. Groundhog Day: Cultural Legacy
Thanks to the movie, Groundhog Day has now become a symbol of two things in our culture. It can mean either an unpleasant, repetitive situation, such as when “Groundhog Day” became a term of military slang by those service members in Iraq to describe their tour of duty with its endless cycle of monotonous long periods of waiting between violent raids.

However, in its positive connotation, it has become a symbol of man’s spiritual transcendence of selfish and egoism to a state of selfless service towards others. The important thing is, you can’t escape that negative repetitive experience of your own Groundhog Day of your life until you make that journey.

Harold Ramis really touched upon a powerful image to turn a comic masterpiece into a cosmic one.

Note:  This is a repost from one year ago, which given the movie Groundhog Day, seemed a fitting way to post on this momentous day.

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1.  INTRODUCTION

This webinar is part of the Advanced Project Management series of webinars sponsored by Project Insight, which produces Project & Portfolio Management Software.  The webinar today is about validating requirements, a technical but vital subject for project managers, especially those in the IT field.  It is presented by Janelle Abaoag, who is the Marketing, and Public Relations coordinator, as well as Diane Altweis, the CEO of Core Performance Concepts. 

The Advanced Project Management series is to designed to

• Expand knowledge of more complex tools & techniques
• Build leadership skills to manage people more effective
• Identify practical methods to begin using advanced techniques
• Explore other methodologies and/or techniques that enhance PM competency

Here are the objectives of the webinar:  by the end of this webinar, you should be able to

• Define what validation means as it relates to project delivery
• Define team roles and responsibilities as it relates to requirements
• Identify the types of validation necessary for your project
• Develop action plans to validate key components of the project

2.  REQUIREMENTS GATHERING

Collecting the requirements is a matter of defining the business need for the project.  You need to ask yourself some basic questions.  What is the project we are working on, why are we doing it?  What is the need we are trying to fulfill?

To fully understand the problem, you need to know not just what you are doing, but WHY you are doing it.  The project should be something that is needed in the organization to respond to a problem that needs to be resolved.

Understand what your expected outcome is.  Let’s say you are manufacturing facility and you take 10 days to produce product, and the competition can do it in 7 days.  Is the problem really that you need to reduce your cycle time to 7 days or less?  Let’s say the problem is that the competitor has a larger capacity.  To reduce cycle time you need to understand what the problem is, and how you solve it.  You can’t ASSUME that solving the problem requires reducing cycle time; maybe it’s because you have a higher quality product than competitors.  If you reduce the cycle time, are you willing to trade product quality in order to do so?

Requirements gathering need someone who has excellent interviewing skills, has persistence, and can chip away at getting to the requirements.  Sometimes we plan for one session to take care of requirements gathering, but in reality, most people can’t disseminate or regurgitate all the information in one session.  One week later you may think of new ways to look at problem.

3.  PRODUCT DOCUMENTATION

These are the elements of product documentation that are needed on the front end of the project:

• Project charter
• WBS
• Business requirements
• Functional requirements
• Non-functional requirements—performance of a new system.  does it have to perform 24/7.
• Requirements traceability matrix
• Design requirements

These elements of product documentation should come AFTER requirements are spelled out clearly.

• Technical Specifications
• Use Case with Diagrams and Descriptions
• Test Plans
• Training Documents

4.  VALIDATING REQUIREMENTS

The definition of validation is “a technique of evaluating a component or product during or at the end of a phase or project to ensure it complies with the specified requirements.”

To do that we need to understand the following:

• the needs of the business,
• the problem that is being solved,
• the expected outcome.

All of the above is what we are trying to validate.

Let’s use an example of a website.  There is a screen with fields.  You may validate that the fields are there in the right place, and that all the data put in the field has the right attributes.  But you need to check to see that the screen ITSELF solves the problem, the underlying business need.  Does it meet the needs of the users?  You need to look at requirements with a microscope and a telescope, from details to big-picture issues.

This requires excellent analytical skills, an ability to visualize the solutions, and the proactive identification of requirements gaps.

Who writes the requirements on the project?  The project manager or a business analyst?  Or even the client (as a first pass)?  Who typically writes test plans?  If the person who writes the requirements and the person who writes the test plans are two different people, are those two parties talking to each other to see what is being tested and whether the tests validate the requirements?

You can’t put a test plan together in a vacuum.  The people writing the test plan need to be aware of the details of the business plan so they can validate whether the problem is actually being solved, and not just testing the details of the solution.  Does the screen capture all the information?  Is it easy to use?  Both the business analyst and quality assurance people need to work side by side.

5.  ROLES & RESPONSIBILITY FOR VALIDATION

6.  TECHNIQUES FOR VALIDATION

• Use a requirements traceability information as a starting point.
• Develop methods for validating business requirements and project objectives
• Budget as part of project the efforts associated with validating
• Identify who is responsible for measuring the solving of the business problem.

Less than 40% of all projects succeed.  As a profession, we still don’t have high success rate for projects in general.  We aren’t focused on solving the business problem.  The product of the project doesn’t always meet the expectations.

7.  VALIDATING YOUR PROJECT OBJECTIVES AND REQUIREMENTS

Share your goals, objectives, and business problem with your BA and QA team.  You want to make sure that your project achieves your goals and objectives.

It’s more than just meeting requirements.  We have to assess the probability of achieving the goals and objectives of the project. Let’s take the earlier example of cycle time.  Assumption:  the 10 days that we are currently taking to deliver products is the problem.  We want to get it down to 7 days.  Do we validate during the course of the project that we are actually reducing cycle time.  We want to, say, streamline this process, so that it should reduce it to 7 days.  You have to PROVE that it is reduced to 7 days.

Many people are in IT.  When you are under the gun to deliver on time, you jump to reducing scope.  When we do that, we increase the probability of us not achieving our goal because you are taking some level of scope that was needed to actually deliver on objectives.  By reducing scope, we are ADDING RISK of achieving our ultimate goals.  This is why 60% of project continue to fail.

Let’s take an example of building a website for a wine bar.

The project is to create a website to increase product revenue for a wine bar within one year of website launch.

Are objectives are:

• to increase revenues by at least 10% within one year.
• to increase customer base by at least 5%
• maintain or increase EXISTING customer purchases by 5%

What happens if you don’t have a separate person doing the PM, BA, and QA roles?  Sometimes it is more important that you know what SHOULD be happening in the real world than it is to get that extra person on the team.  It could be that the BA can do the work on the QA portion as well.  You need to recognize the role that you are playing.  Separating out the roles is important in getting more resources, but you may have to wear more than one hat.

Out of three primary measures of success–time, cost and quality–time might be the most important issue with most products, but with medical devices, it might be quality.  Define it in project charter which of these measures of success are most important.  .

In the case of the wine bar, when it launches is not important.  But when it does launch, revenue should increase within one year.

Here’s an example of the requirements for this project.

The BA and QA have to come up with tests that show that the purpose is fulfilled.  If information or a data baseline do not exist, you need to create it as part of the project so that the results can it can be measured against the baseline through the course of the project.

The question is, how can you prove that the website is the cause of increased revenue as opposed to some other cause.  If only thing you are changing is offering food products, the increase in food products should give you an indication that website is effective.  It’s hard to prove causality if you change too many things at once.

How do you validate requirements for new products?  You need to do market research:  what is the company expecting for that new product?  If it is a new product, you have a marketing team that is tracking revenues of that new product.  As PMs ,you normally aren’t following the lifetime of product after launch; however, you SHOULD maintain relationship with marketing to let the project team know that the product is doing well, to let team know that it made a difference.

8.  VALIDATING THE SOLUTION OF THE BUSINESS PROBLEM

The ultimate objective of the project needs to be achieved, so you need to think of measuring things beyond the end of the project, so that you know that the product was a success for the organization.

What we do as PMs is critical to the strategic growth of organizations.  Projects need to be delivered on time, on budget, with specified quality levels.  That is a contribution to the organization.  If we don’t deliver it on time, the company cannot achieve those goals.  So you have to be conscious of the business need.  You need to PROVE that project was delivered at the level it should be.

For example, if revenue growth year after year is the business problem, then the validation can include the following elements:

• Goal:  10% revenue growth annually baseline:  $1,000,000
• Responsibility:   Accounting department to report to CEO
• Timeline:  within one year

So the validations developed for goals and objectives can be used as tools for the overall business problem.  You need to make sure that the company can measure success, however, with the current reports and tools available.  If not, you need to develop them.

In summary,

• An objective should be defined to solve the business problem.
• Every requirements should point back to address an objective.
• Every requirement should be able to be validated.
• Every requirement in the requirement traceability matrix should have an owner.

You should be able to PROVE at the end of the project that all requirements have been met.  You may not be able to prove it perhaps when the product is launched, but you need to get everything in place so that you CAN prove it, say, one year from now.   It usually does take time beyond the project delivery to determine success.

Use requirements traceability information as a starting point.  What about requirements that were met but in a way that didn’t meet the project owner needs?  Having iterations and involvement throughout the project life is very important.  Many times it is difficult to get through requirements meetings, anything like prototypes, design layouts, will help get the project owners on board.

9.  INTEGRATING REQUIREMENTS VALIDATION WITH AGILE METHODOLOGY

You will always have a problem with not being able to measure things until after the project.  For example, if there is an ease of use or usability requirements, with agile, you can get feedback from user groups to make sure your requirements actually solve the problems.  People like to throw extra requirements in there that don’t meet the project objectives.  Your role as PM is to make sure that EVERY requirement that is being proposed is tied to one of the objectives.

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Ana Nichols, the Managing Editor of the Industry Briefing at the Economist Intelligence Unit, gave a talk on January 30^th, 2014 on the forecasting the trends in the Healthcare industry in 2014.   The full report on all six industries—automotive, retailing, energy, healthcare, financial services and telecoms, is to be found at

http://www.eiuresources.com/Industriesin2014

This report has been published for the past four years, and includes an annual survey of confidence and opinions among business executives.

1.  INDUSTRY SURVEY

The survey done in November 2013 of 647 executives, a third of whom were at the C-suite level, asked about their expectations in 2014 in relation to the global economy as a whole, their particular industry, and then their company.  Did they think that conditions would be better in 2014 than in 2013, worse in 2014 than in 2013, or about the same?  Historically, the sentiment is always much more positive when it comes to specific companies than it is for the global economy as a whole.  Obviously, more executives think that their particular company is going to outperform the market.

If you look at the balance of sentiment, which is defined as the percentage of those who believe that the economy will do better in 2014 than in 2013 minus the percentage of those who believe that the economy will do worse in 2013 (and ignoring the percentage who believe it will remain the same), you get the following figures for the various industries:

As you can see from the chart above, the healthcare industry had the lowest balance of sentiment of all six industries, although the figure listed above of 17% is higher than the negative figure that existed last year.  This is partly due to the pressure that the market has been under.  Overall, the respondents were more positive in the Middle East, and far less positive in Latin America and in Europe, with Europe scoring slightly higher than Latin America.

One of the other questions we asked, to which we got some very interesting responses, was “which country outside the BRICs (Brazil, Russia, India, China) offered the greatest growth  prospects?”  When we’ve asked this question in the past four years, people have always said “developing or emerging markets”.  However, this year overall the respondents starting citing quite a few developed markets.  Although what you would call developing markets came on top of survey, there were quite a few appearances of Japan, USA, Germany, and Canada.  From the healthcare respondents, here were the responses:

Which country offers greatest growth prospects (outside the BRICs)?

Mexico was offered by far as the best growth prospect, followed by a selection of quite a lot of Asian countries (Vietnam, Indonesia, Singapore), one in Latin American (Argentina), but some developed countries as well (Japan, USA, Germany).  Overall, considering all six industries, Indonesia came out on top, so it was unusual to see Mexico on top of this particular list for healthcare.  South Africa also came up higher on the all-industry list of greatest growth prospects.

Regarding the issue of the relatively low balance of sentiment of respondents with regards to healthcare, this is the case despite the fact that overall spending on health care is rising steadily.  This is part of a growing industry, and yet respondents were not very positive about prospects this year.

The one caveat is that this is nominal spending; this means that rapid growth in some countries reflects rapid inflation or population growth, which are some of the factors that is driving spending, particularly healthcare inflation.  There is inflation in healthcare partly because of new products being developed and the need to incorporate more advanced medicines.  But population growth is also quite a large driver of healthcare costs, particularly in emerging markets.  The other drivers we need to talk about are an aging population:  we calculate that about 10% of the world’s population is going to be over the age of 65 over the next five years.  In some countries, that percentage is extremely high, so for example, in Europe it’s around 20%, and in Japan it’s getting near 30%.  This is obviously a big driver of health care costs, because of the sheer amount of care that the elderly need and when they have health problems, they tend to be complicated ones which need a lot of investigation and often a long hospital stay.  This is not just restricted to developed markets; obviously, China has quite a very similar aging problem, although it is not quite to the level of Germany and Japan, which have the highest percentages of population over 65%.

One factor that is not massively driving health care spending growth is economic growth.  We actually calculate that, having undergone a massive boost as a percentage of GDP in 2009, when the economy dropped, the percentage of GDP devoted to health care spending has been lagging behind.  It’s expected to continue tapering off as a percentage of GDP.

Over the world, there is a huge range in how much countries spend on healthcare.  Overall, healthcare spending now swallows about 10.6% of global GDP.  However, the percentage of GDP ranges from 2.4% in Pakistan to 18% in the US.  There are some regions of the world where, despite not being particularly wealthy, health care spending is really quite high.  Latin America’s health care spending, for example, is about 8%, which is not too far from the 10-11% spent in Western Europe.  The transition economies spend a relatively large amount of their GDP on health care, but Asia is a bit low, with the Middle East and Africa being the lowest of all.

In all countries, however, the basic pattern is that the demand for health care is insatiable, which means that the spending on health care will continue to rise.

The next part of the webinar which I will continue tomorrow deals with some of the basic issues in the healthcare field.   Due to commitments today, I was not able to finish the webinar today, so please return to this site later for a complete summary.

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Jason Sumner, Lead Telecoms Analyst at the Economist Intelligence Unit, led a webinar on Wednesday, January 22^nd from London regarding the outlook for the telecoms industry in 2014.  He looked at an industry-wide survey to gauge the sentiment of industry leaders, after which he discussed three key issues that will be facing the telecoms industry worldwide in the coming year:  4G network rollout (particularly in China), M&A activity, and the net neutrality issue in the US.  Finally, he talked about Telco operator strategies during the coming year, where they will be positioning and where EIU thinks they should be positioning in order to take advantage of the global trends in the industry mentioned above.

1.  INDUSTRY SURVEY

Out of the six different industries analyzed by the Economist Intelligence Unit, the telecoms industry was the one that was the most positive in terms of outlook for 2014.  Most respondents think that the conditions for the industry in 2014 will be the same or better than those in 2013.

If you look at the balance of sentiment, which is defined as the percentage of those who believe that the economy will do better in 2014 than in 2013 minus the percentage of those who believe that the economy will do worse in 2013 (and ignoring the percentage who believe it will remain the same), you get the following figures for the various industries:

As you can see from the chart above, the telecoms industry had the highest balance of sentiment of all six industries.  The figure above is the average for all global respondents.  Part of the reason for the upturn in the telecoms industry is because of the upturn in the global economy as a whole.

Here are some sector-specific questions that were asked of the various respondents to the survey.

Most notably of the responses to these questions is the fact that about two-thirds of respondents believe that telecoms will be able to monetize their investments in 4G networks, and in a related question, three-quarters of respondents believe that revenue from data services will make up for lost voice and SMS revenue in 2014.  EIU tends to agree with the respondents on the issue of monetizing investments for the 4G networks.  However, although data service revenue is looking very positive, with companies such as AT&T and Vodafone looking at double-digit growth rates, it is still debatable whether they are going to start making up for lost bread-and-butter revenue of voice and text as early as this year.

Looking at some of the other results, not surprisingly emerging markets are seen overwhelmingly as having the best opportunities, but an interesting caveat to this is that some of the bigger operators are not always looking to expand in emerging markets, potentially because some of those emerging markets are relatively closed to telecoms, such as China, or perhaps relatively uncertain, such as India.

Looking at “big data”, it is definitely believed that it’s going to be exploited this year by telecoms, with about 71% thinking that telecoms will sell more “big data” products and services.  EIU thinks that this is not necessarily an opportunity on the consumer side for operators, but more on the B&B side with anonymized data providing valuable market insights for other businesses such as location-based advertising.

On regulation, respondents are split, so we are looking at a third who agree that regulatory agencies will change rules to allow telecoms operators to monetize more of their customers’ data in 2014I, a third who disagree, and a third who neither agree nor disagree.   Jason Sumner thinks this reflects the various regulatory environments around the world.  There are no clear global trends; there are more regional trends.  So, for example, in the US, as far as operators are concerned, regulations are headed in the right direction.  We will discuss the issue of net neutrality later on in the webinar (see paragraph 4 below).  Europe is a perennial question mark over which way they are going to go.  The EU seems to believe in the need to loosen regulations and allow for consolidation, but national regulators are less sure.

2.  4G—GREAT EXPECTATIONS

The first of the three issues we wanted to look into a little more detail is that of 4G and 4G revenue.  Just as a reminder of the survey question regarding 4G, two-thirds of the respondents believed that telecoms operators will begin to monetize their investments in 4G networks in 2014, and three-quarters thought that data services revenue will make up for lost voice and SMS revenue in 2014.

In terms of the global situation, let’s look at how the 4G network has grown.  As of January 15^th, there were 263 LTE networks commercially launched in a total of 97 countries, a growth of 112 networks  from  the 151 networks launched by the end of 2012.  This number is estimated to grow from 263 to 350 networks in service by the end of 2014, which does include MVNOs (mobile virtual network operators).  This represents about a 33% rise in the number of networks, so the networks keep proliferating

In terms of countries to watch, the EIU is looking quite closely at China.  It is currently in a race to rollout 4G networks and offer 4G services.  Of the three major suppliers in China, China Mobile is definitely in the lead in terms of infrastructure; it’s allocated $3.2B for what will be the largest LTE network in the world when and if it is completed. The Chinese government late last year favored China Mobile’s TV standard and gave them that headstart.   Its competitors, China Unicom and Telecom must wait for the FDD (frequency duplexing division) standard and are resting on their laurels.

So, for example, China Unicom, which is the2^nd biggest operator, did get a TV license, but is not planning to build a whole new network based on that.  It’s actually pursuing a hybrid strategy, by not building its new network but rather upgrading 3G speeds in selected cities, and by doing that it’s able to advertise close to 4G speeds crucially with 3G prices for subscriptions and the devices.  So far, given some of the issues that China Mobile has had with its rollout, they seem to be holding on to their high-end customers.  China Telecom is actually not taking much action and appears to be waiting for its FDD licenses before it moves forward on things.

The situation as it stands in January 2014 is that licenses have been issued, 4G has been launched, but in terms of China Mobile, take-up has been somewhat tepid as compared to expectations.  It also recently launched the iPhone, and that too has been rather subdued compared to other iPhone launches, part of that reason perhaps being because of the price point, but also because iPhones have been in China for quite a while now.  So we think that in the long term, China Mobile is going to be poised to take advantage of the switch to 4G with its big network, but in the short term, the market may favor that hybrid approach by China Unicom.  This all has huge implications for what is or what will soon be the largest M-commerce market  in the whole world.

Just staying on the topic of 4G networks, looking more broadly in terms of pricing and whether returns are being made, 4G pricing is tending to favor operators at the moment; there seems to be less “all you can eat” packages in 4G than there were in 3G.  As previously mentioned, operators like AT&T and Vodafone have seen double-digit rises in data revenue and South Korea has seen some encouraging signs in ARPUs (average revenue per user).

Looking at some data from the GSMA this time, they’ve looked at the situation, and where 4G has been deployed in developed countries, ARPUs are rising from between 10 and 40%, so there are some positive signs early on.  I would emphasis this is at the early stages of take-up, so in the US for example  19% of connections are on LTE, whereas only 2% are on LTE in Europe.  So in the early stages, we are seeing signs of price wars in some developed countries.  There is some price competition going on in the US, where all four operators now have the iPhone.  France is pretty much in a full-fledged price war for 4G.  Here in the UK,  EE is arguing based on some early success that it can differentiate based purely on the network, but we’re going to see 4G competition heat up here to test that.

Looking long term, its hard to see why 4G won’t eventually be commoditized like 3G networks, and the big question is whether you can actually differentiate on network quality; certainly operators are trying, and it’s an open question.  Some of the strategies surrounding this we’ll look at in more detail a little bit later.  They are definitely trying to differentiate through partnership, through their own branding, and then through technology as well.  There’s a lot of research going on trying to speed up networks using existing infrastructure which would obviously safe money on capital expenditure.

3.  MERGER DRIVERS STRONG FOR 2014

Let’s turn to the second issue, which is mergers and acquisitions in 2014.

Taking a step back, let’s look at the mergers and acquisitions that took place in 2013.  Based on data from Mergermarket, in terms of total TMT M&A activity, it went up from $320B in 2012 to about $510B in 2013, a 54% increase over the previous year, and also the highest annual value since 2006.  There were so-called 14 megadeals that were above $5B each, and that has been the highest number of those so-called megadeals since 2007.

The Vodafone-Verizon deal  was, of course, a huge part of this, when Vodafone sold its 45% stake in Verizon for $124B; that made up a quarter of the total TMT M&A activity for 2013, and represented 5% of all global M&A.  Without that one deal, TMT M&A values would still would been up 16% from 2012.

In terms of looking at the M&A activity in the sector of Technology, Media, and Telecoms or TMT, it was particularly strong in the Telecoms subsector.  Looking strictly at Telecoms, it was actually up over 100% on the previous year, of course, based largely on the Verizon deal.  It would have actually only have been about 3.8% on the previous year looking if that particular deal was stripped out.

There are reasons to believe that this momentum will carry over in 2014 because of some of the drivers we’re seeing.

• Eliminating competition–There’s a need in some developed markets in terms of competition and price pressure to consolidate and to be able to raise prices.
• Building scale–But there’s also a need to expand internationally, which relates to boosting  top-line revenues,  to building scale for leverage in some of the content partnerships these companies are engaging in, and adding spectrum.
• Cost synergies–There is as well as the ever-present need to achieve cost synergies.
• Favorable economy/market—This last factor is perhaps the most important, with a rebounding global economy, increased deal activity, and the appearance that equity markets are more friendly, we think this is going to carry deals forward into 2014.

There is just one caveat to that:  on the counter side of that, regulators are still wary.  Especially in Europe there is a test case that is coming up, but it’s still unclear that regulators in this part of the world are going to be open to consolidation on a national level.

There are several potential deals in the cards for 2014.  Sprint and T-Mobile are in talks at the moment, but I want to look a little bit more closely for a moment at the potential deal between AT&T and Vodafone.  AT&T is the largest operator by revenue in the US, and it is in increasing competition with other operators in a maturing smartphone market.  It’s at the top of the tree, but there are worrying  signs in terms of revenue.  Vodafone has an enterprise value of about $228B, so if AT&T were to actually buy Vodafone, it would give AT&T the scale to drive up their stock price and earnings per share, which has been relatively flat as of late.  As far as AT&T is concerned, it would give it access to lucrative markets which we believe are relatively saturated such as the UK and Germany; they don’t seem to be interested in developing markets.  The reason why they are interested in Europe is because of that figure I mentioned earlier, that only 2% have LTE connections.  So Europe has yet to adopt 4G on the scale of the US, and AT&T definitely sees this as an opportunity.  The main reason why 4G has lagged is arguably because of underinvestment, and also arguably because the national regulators are keen to keep competition high and consumer prices low.  It’s a bit unclear at this point how AT&T is going to reverse that trend, especially if you add on the complications around some of the privacy issues under consideration, and some of the international politics going on, where some of the national regulators in Germany and elsewhere are likely to question, if only to use it as a political bat to hit AT&T over the head, their involvement in surveillance operations by the NSA.

4.  NET NEUTRALITY TESTED IN THE US

The last issue we will discuss before go into detail regarding strategy is the whole issue of net neutrality in the US and where it might be headed for 2014.  First a little bit of background.

The FCC established the current net neutrality rules in 2010 to prevent AT&T, Comcast, and all of the operators from giving preferential treatment to their own web traffic or hampering competitors.  Verizon challenged that policy in Federal Court late last year, and the situation now is that the decision has come down by a lower Federal Court in early January ruling in favor of Verizon saying that FCC may not impose those rules on ISPs (internet service providers).

So the result is that advocates of net neutrality are fearing that we are seeing a watering down of the whole concept of the open Internet, which would ultimately lead to less consumer choice.  Now Verizon on its part says that it allows them to “innovate,” which reading between the lines means offering tiered pricing for speed, for quality of service, and even going so far as pricing content on the back end for the content provider.

In reality, we think that this is just one skirmish in the wider war over net neutrality in the US.  2014 is going to see quite a few big decisions from the key players:  the operators, the regulator, and even the content providers.  For the operators, I think the question is what to do in light of this small victory.  To us, they seem unlikely to move very quickly to take any radical action like charging the content providers in any major way.  This is for fear of perhaps upsetting the regulator, who is in the midst of deciding which way they are going to go forward, as the case hasn’t yet been heard by the Supreme Court, and also for fear of upsetting the consumers at this point.

Tactically in the short term it does give impetus to proposals similar to AT&T and its sponsored data package proposal which was just announced prior to the court decision.  If you’re not aware of that, it allows third parties to subsidize tariff-free content for AT&T consumers.  Now this proposal was actually made before the ruling, and to us it could indicate some relatively conservative action that operators might take with the fixed Internet because the sponsored data applies to the wireless Internet which technically net neutrality didn’t cover.  To us the operators are looking to a consumer-focused strategy to take advantage of this if they do go forward by making something free rather than losing that PR battle in terms of shutting things down, especially the biggest and most popular content providers.  It would not be good from a public relations standpoint, or even a business standpoint.

So we have yet to see the content providers speak out on this in a big way; I’m sure they are really against it, but are waiting to see how it plays out.  Now the ball is in FCC’s court.  They have a decision to make about whether they are going to rewrite the rules.  There is some hope on the part of net neutrality advocates that the actual concept is still OK but the way they went about it wrong.  One of the judges who made the ruling did say the fears are justified, and acknowledged that powerful incentives do exist for telecom companies to offer preferential access.  So that does give some hope to net neutrality advocates that there is a way to rewrite the rules to bring this concept back.  They could appeal it to the Supreme Court, and if they do end up rewriting the new rules, they need to consider erasing that distinction that they had before between the fixed and the mobile internet, and also coordinating it with the rewrite that is currently going on in Congress of the Telecoms Act.

5.  STRATEGY:  CONNECTIVITY ORCONTENT OR BOTH?

Looking beyond 2014, and some of the strategies that operators might employ, I’ve divided this into three issues.

The first issue is the core business of connectivity.  We’ve heard a lot about OTT (over-the-top:  delivery of video and audio over the internet) taking over and ARPUs declining, and the “dumb pipe.”  In reality, if you look at it, the business of connectivity is not such a bad business to be in, just because it is set to explode.  If you look at developed markets, where our SIMs, although perhaps not LTE, are getting saturated, there is huge potential for M2M (machine-to-machine:  technologies that allow both wireless and wired systems to communicate with other devices of the same type) and all sorts of devices becoming connected and having SIM cards.  And then if we look in developing markets, there is huge potential still for mobile phones to be connected.  And then following that, the M2M trend will keep continuing or even happening simultaneously in developing markets.

This is a good segue into the second issue, which is mobile content and applications.  Another opportunity is the fact that software is actually going mobile.  In the short term, this is causing a lot of fear and panic:  no one can quite tell who the winners and losers will be.   But holding the connectivity trump card is quite an advantage in the new mobile environment.  In order to really accelerate those revenues, though, it will be about partnering up.  We’re already seeing some exclusive deals of the operators with especially popular content such as music.  We’re seeing AT&T partner up with Beats (music streaming service) in the US; Vodafone has done a similar deal with a music streaming service in the UK.  This goes a long way to avoiding the commoditizing of the network.  It’s really about competing in consortiums, even in the B2B (business-to-business) space.  We see some operators partnering up with healthcare software providers; they have found that they are able to really share ideas and create something new with those partners by mixing up software and the idea of making software mobile.  The software companies don’t necessarily have the expertise to think about the potential for connectivity and what it can bring to their service.

So we’re going to see small bets across the ecosystem start to pay off.  Right now the operators are in the midst of making loads of little bets; we’re kind of a stage where there’s uncertainty around what customers are ultimately going to accept.  But we are starting to see the outlines of where M2M is going to be headed.

The third and final issue is, we hear a lot about data analytics potential.  Our survey respondents are quite bullish on the idea that telecoms are going to be able to exploit this opportunity.  Clearly there’s potential, it’s unclear exactly where and how the opportunities will emerge.  There’s a lot of data being generated, you have to think that a lot of it is going to be worthless, so you can’t just think that every piece of data is going to be interesting.  I think we are just at the early stages of figuring that out.

Having said that, I think there are a lot of positive trends, at least positive for those holding the data, in the fact that consumers seem to have accepted that bargain of data in exchange for free services.  On the positive side for telecoms, the industry is actually very good at using internal data to understand its customers and usage patterns.  But it does need to get better at utilizing it and monetizing it externally.

Some of those promising areas are in the B2B space, where we are looking at location-based advertising, with some interesting things being done around logistics, city planning, transport solutions for big events, etc.

QUESTIONS AND ANSWERS

1.  What is outlook for GOOGLE? 

Google is creating fiber networks in several US cities.  Will it become direct competitor to AT&T?  You can never say never, but they are unlikely to go full-scale into the fiber business, but in a limited way, it serves purposes.  It is a great experimenter, they can experiment on superfast networks in this way.  It does put pressure on the operators like AT&T and Verizon to roll out faster networks.  AT&T has argued that the demand is not there for superfast connections.  But with pressure from Google, it is reconsidering.

2.  What about rural areas and emerging markets?

It is growing opportunity.  Overall main opportunities is in urban areas, but it is spreading to ever smaller cities as they are connected by broadband.  It depends on a few factors, such as connectivity, device prices, and user knowledge.  These last two factors are getting less important.  Some companies are looking at satellite market in rural areas.

All of those things apply in Africa.  One thing that makes Africa unique is that they are a 2G continent.  There is great potential there, but for the operators it is about taking things slowly in terms of technology.  Making applications for feature phones (2G), and educating public about mobile phones is promising.  In these places where there is a gap, there is massive mobile penetration albeit 2G.  There is a push towards 3G smart phones, but there is a great push towards services.  There is a huge opportunity to provide services over mobile devices.  The impetus is coming from governments mostly, but operators need to show the way in growing how it can be tied to development goals in Africa.

3.  Could you say more about net neutrality?  Will telecoms starts charging YouTube and Facebook for bandwidth?
Things are in limbo in the short term, it does give operators are a tactical advantage because regulations are beginning to go their way.  The conservative court Supreme Court may go the way the previous appellate court already went.   The operators won’t go full bore at this point. 

4.  Can Telcos beat Facebook and Google?
No, they can’t, and they don’t need to.  For a huge Telco, it is not going into an advertising model, but keeping with subscription model.  They can’t overthrow Google, but the market for information is huge and growing, and there is no reason why they can’t enter that market in intelligence ways, starting with B2B data.  It gets around current regulations, AT&T is hoping that there will be relaxation of regulations regarding use of consumer data in new Telecoms Act.  Their data is good vs. Google regarding location.

5.  How successful will EU be to unifying telecoms market?

It’s anyone’s guess.  There are chances to achieve portions of ambitious plan to unify the market.  But some aspects:  roaming fees, for example.  It is about providing something to operators in return to giving up fees for consumers.  Consolidating the market or having underlying infrastructure is a more difficult task.  National regulators need to be convinced; there will be testing of individual markets to see what direction telecoms regulators are going in this area.

6.  How big is M2M opportunity for operators or is this just hype?

There is hype about it, but operators are already making money in this area , and it is growing fast although from a low base.  It is about B2B services rather than consumer side.  Crucially there are government incentives to go green and the consumer wants to save money, so smart meters and connected cars will face increased demand.

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On Wednesday, January 22nd, the Economic Intelligence Unit sponsored a webinar on their forecast for the Energy Industry in 2014, part of a series of six industry-wide webinars that the EIU is putting on based on their industry reports that came out at the end of 2013.   I already did a post on three of those other webinars, on the retail and consumer goods industry, the automotive industry, and the financial services industry in 2014.

This webinar is on the Energy Industry in 2014, was presented by Martin Adams, the Editor for Energy based in Hong Kong, with additional commentary by Peter Kinnan, Lead Analyst for Energy based in London.

1.  UNEVEN EXPANSION

Global energy consumption is forecast to grow by 2.9% in 2014, up from 2.7% growth last year.  This means steady growth in this sector, but it is an uneven expansion.  There are significant differences between sub-sectors:   the growth in natural gas, nuclear power, and hydroelectric power are growing by around 3%, whereas coal and petroleum products will experience slower growth at around 2%.  Non-hydro renewables, on the other hand (solar, wind, geothermal) are experiencing 17% growth.  In terms of market share, however, the tables are turned, as renewables are as yet a very small percentage of the total global energy consumption.

2.  SURVEY RESULTS

The disparity of growth  rates in the various subsectors goes a long way in explaining the marked difference in mood among the various respondents who were surveyed by the EIU.

These survey results will be referred to from time to time during the rest of the webinar to illustrate various points.

Next, Martin Adams will discuss each sub-sector individually, starting with oil.

3.  OIL

Although many respondents believe the oil price will dip below US$100, the EIU does not:  it believes that Brent oil price will average above US$100, probably close to US$105.  This represents a fall from US$109 in 2013.

One of the biggest factors effecting the price of oil is whether we will see significant new tensions in the Middle East and North Africa.  Based on the survey results (see chart in paragraph 2), only about a fifth of respondents believe that Middle East tensions will be greater in 2014 than in 2013.  This is partially because the survey was done in November, as a diplomatic breakthrough took place in the talks by the West with Iran regarding its nuclear program, leading to an interim agreement.

In any case, whatever happens to the political risks in 2014, the market is going to be comfortably supplied this coming year, and that accounts for the slight slip in prices for Brent crude oil from US$109 to US$105.

Where will the new oil production come from to meet the consumption demand?  New oil production activity will be centered on Iraq, Brazil, US and Canada.  In particular, US energy security and oil supply infrastructure continue to improve.  Iraqi oil production is being impacted by the situation in Syria, but nevertheless EIU expects that their production will be among the fastest growers  in 2014.  Brazil will experience growth, as drilling in ultra deep water continues.  A lot of the excitement in the oil and gas world is centered, however, in North America.  The oil tar sands in Canada and in the US there is a shale gas and tight oil boom.  The International Energy Agency (IEA) came out yesterday saying that in 2013, the US increased oil supply more than any other country has done in the last two decades.

Already, the US, which is already the second biggest energy consumer in the world, has benefitted in terms of its energy dependency.  Its net oil import dependence is at 34% in November 2013, according to the US Energy Information Administration, down from its peak in 2005 of 60%.  A lot of what the US imports is from the oil sands in its friendly neighbor Canada.

All of this means that non-OPEC oil production growth has been outpacing that in OPEC.  The oil output in 2014 will increase a little over 3% from last year in non-OPEC countries, whereas the growth in oil output for OPEC countries will be a little less than 2%.  There has been some disruption in production in OPEC countries such as Libya due to political turmoil.  In Iran, it is the sanctions which have had an impact.

In the US, which is at the heart of the non-OPEC growth story, although the supply situation is much improved, things have been held back by a pipeline network that is struggling to keep up.  In 2014, there will be some improvements in infrastructure that will start to kick in.  As a result, the gap between the two main oil price benchmarks, the West Texas Index (WTI) and Brent, is going to narrow.  There has been a lot of focus on the mismatch between the two benchmarks in recent times.  But as supplies start to move more smoothly around the US, we’ll start to see WTI edging up slightly even as Brent falls, thus narrowing the gap.  Its also worth noting that the IEA yesterday drew attention to how fast demand in the US has been growing.  It grew faster in the US than in China for the first time since 1999.  The WTI/Brent differential is going to be slice in half, to just under $6 in 2014.

Another factor influencing the US oil supplies in the long term is the decision on whether to let the Keystone XL pipeline, which would carry oil from Alberta’s oil sands down to the US, be built or not.  That decision, which is controversial especially with environmentalists, has been long-delayed, much to the frustration of the oil and gas industry, particularly in Canada.  However a decision is expected in 2014, perhaps even in the coming months.

3.  NATURAL GAS

EIU thinks that natural gas is the fossil fuel that is going to do better this year, certainly in terms of consumption growth.  A lot of this is thanks to Asia.  In places like China, Taiwan, India and South Korea, the appetite for gas is growing quickly.

In China, you’ll see that there is going to be a substantial dip from 20% growth in 2013 to about 15%.  In India, Taiwan and South Korea, the change will be positive, from about 2-4% growth.  These trends will continue into 2015, as growth increases to around 5-7% in those countries.

This increasing Asian gas demand is keeping gas prices higher there than in the rest of the world.  Where are the supplies going to come from?  Once again, it is the US that is pivotal when it comes to the supply of natural gas market because of the shale gas revolution.  One of the biggest questions is “what is the US going to do with all of this new gas?  Will it start exporting it to Asia in the form of LNG?  It’s not just a question about what the US is going to do, it’s also a question of what will happen in Canada.  Those two countries are going to be increasingly competing for energy markets.  On the EIU energy website , they argued there that, although Canada has been giving more initial approvals for LNG, it is the US that is better placed in the long run to catch the larger slice of the Asian market.  There may be  more approvals in North America in the coming months.  However, in the long term it is Australia that will grow the most in terms of LNG capacity in the coming decade, overtaking Qatar as the world’s top LNG exporter by the end of the decade.

Like gas from the US and Canada, Australian gas is mainly targeting the Asian market.  This year, two giants projects, Gorgon and Queensland Curtis LNG projects, will start up, boosting the supply by an amount that is roughly equivalent to the annual capacity of Malaysia, which is in itself another important LNG player.

When the US and Canada get their acts together, they are going to face some pretty stiff competition from Australia.  It will be interesting to see how they proceed with approvals in the coming year.

4.  COAL

Coal is another area where the US is pretty much in the center of things.  Like many countries around the world, coal has been a mainstay in the US for energy generation.  However, the regulatory environment is getting much harsher for the coal industry.  What happens this year could change the face of the American coal industry forever.  Despite the strong opposition in Congress to signing climate change legislation, Barack Obama has been pushing  the Environmental Protection Agency (EPA) to take regulatory steps to clamp down on emissions.  And in 2014 the EPA is due to finalize what look like stringent emission standards for new power plants that could go so far as to effectively make it impossible for new coal plants to be built.  Any measure that would be that strict would face legal challenges, causing the process to become more drawn out.  There will also be rules for existing coal plants that are going to follow the rules for new coal plants.  These are viewed with even more trepidation by the coal and electricity industries.

So far, US producers have been able to find overseas markets to export more to.  In the past this has included Europe.  As Europe’s economic recovery remains somewhat fledgling, coal is still going to look like an attractive option in European eyes because it is relatively cheap.  However, it is really China that is underpinning global coal demand and supply, as it accounts for almost half of each.  The Chinese government has been making a push to do something about the awful air pollution problem that affect many parts of the country.  Coal suppliers are worried about the impact of new measures that are designed to slow coal consumption and cut down on emissions.  Recently, we have seen the air pollution reduction targets that the central government has agreed to in recent weeks for China’s 31 provinces.

Nevertheless, China will have a very hard time weaning itself of coal.  Coal is cheap as well as plentiful in China.  The country has the world’s third largest reserves of coal.  Another reason why coal demand in China is going to be sticky is that the main alternative, which is to import more gas, is pretty costly compared to sticking with coal.  Even the latest regulations governing provincial emissions are not necessarily that ambitious.  So Chinese and global coal consumption is going to continue to keep edging upwards.

5.  NON-FOSSIL FUELS:  NUCLEAR AND RENEWABLE ENERGY

The topic of China is a natural segue into the next topic of non-fossil fuels, because the Chinese government has been trying to push its economy towards less-polluting fuels.  It has put up more nuclear reactors and wind turbines.  As far as atomic energy is concerned, four new reactors are going to come online in 2014.  However, it’s not just China:  South Korea, Russia, and India are all going to add a few new reactors each this year.  This will push global nuclear capacity to grow much estimated 373 gigawatts (GW) in 2013 to about 381 GW this year (growth of 8 GW).  That’s not the kind of explosive growth that the nuclear industry experienced before the Fukushima nuclear accident in Japan in March 2011; on the other hand, it’s not the collapse that was predicted by some people after that incident.  In the US, the growth of natural gas is the factor that is constraining possibilities of nuclear expansion, with some nuclear power plants even being shut down.

Plentiful supplies of cheap natural gas also crimp the opportunity for the growth of renewables, given that renewables remain expensive.  Despite that and the other problems that renewables face, they are achieving remarkable growth.  To be fair, although still expensive, the prices of wind turbines and solar panels have fallen in recent years.  China has helped to push things along by making such equipment cheaper with large-scale production.  Pollution has been a driver of China’s progress on renewable energy, especially given the growing impatience of the general population with the problem.  Also, there is a desire to give China’s domestic equipment makers in the wind power and solar sectors more of a market at home.  Energy security concerns feature into this as well, as do concerns about global climate change.

Speaking of action regarding global climate change, we don’t see an awful lot of reasons for optimism when it comes to international climate change negotiations.  These were supposed to lead to a treaty to replace the Kyoto Protocol, and that successor treaty is meant to be signed in December 2015.  Our survey respondents, like us, are pretty skeptical that we’re going to see much progress on that front this year.  Only about a fifth of them expect a breakthrough over the next 12 months.

Suffice it to say that there are many barriers to renewables, including the lack of direction in global climate change policy that was just mentioned.  There are low carbon prices in Europe, and we are expecting the EU to announce today its strategy for long-term climate and energy targets policy to 2030.  It looks as if the EU is not going to include renewable energy targets in its policy, but rather it will rely on carbon emissions targets.

Despite all of those dampening factors for renewables, they are going to make remarkable progress, with 17% growth projected in 2014, double-digit growth albeit a little less than last year’s growth of 22%.

If climate change negotiators were able to agree on a framework for forceful global action, the prospect for renewables would be much different.  Emissions on fossil fuels will reach nearly 160% of the level that were at in 1990.

6.  PREDICTIONS SUMMARY

• Average Brent oil price in 2014:  US$104.75/barrel
• WTI-Brent spread to narrow to US$5.78 in 2014
• Chinese coal demand to rise by 4%
• Non-hydro renewables to surge 17%
• Fossil-fuel emissions to hit 159% of 1990 levels

7.  QUESTIONS AND ANSWERS

1.  You said you are not optimistic about the outlook for climate change talks in 2014.  Why is that? 

We’re pessimistic that we will any major progress this year.  At the most recent set of talks which were held in November 2013 in Warsaw, we had the usual sort of 11^th-hour compromise hobbled together, which didn’t bode well for progress in the next round, which will be held in Peru in December 2014.

Before that, we expect to see developed countries being pressured to lay out their own contributions to carbon emissions cuts.  Negotiators have avoided the word “commitments” which would be overly concrete so they call them “contributions.”

Even in Europe, which is a traditional leader in this area, we are seeing willpower being strained a little bit.  The European debt crisis, of course, has raised many questions about how Europe can pay for its climate commitments, particularly its subsidies for renewable energy.  The German Energy Minister just  yesterday said that his country was at the limits of what it could pay for green energy.  You’ve got utilities complaining about subsidies for renewables and the impact its having on them.  They are closing down some conventional plants which they say are not economical to run.  The industry is complaining that the energy costs in the EU are higher than in China and also higher than in the US.  In the US, you have brakes on any climate change legislation getting through Congress.

On international talks, the big problem is that there is an impasse between the developed economies, particularly chiefly the US on one side, and the developing economies, chiefly China on the other side, where each points the finger at the other and there is no agreement on who should bear responsibility for carrying the costs of any future cuts.  I am pessimistic about identifying a way of getting around that before the next meeting in December of this year.

2.  Do you see the shale revolution spreading further outside of the US in 2014?

The shale revolution has been talked about a lot in the past four to five years, and we’re seeing a pretty dramatic increase in total US gas production.  If you look at what people were forecasting five or six years ago, it would be that the US would become an importer of LNG.  However, what we are actually seeing is that by the end of the decade, US will become a net exporter of LNG, largely due to the increases in gas production and the ability to direct supplies to international markets other than the US.  This has created a chain reaction of other countries exploring their unconventional gas potential.

In most other regions such as Europe, Asia, and Latin America, shale gas will develop much slower than in the US.  The countries that are likely to see development in shale gas output will be China, Australia, and perhaps Argentina, although the resources are more liquids driven, in that they are in the form of shale oil rather than shale gas.

Some countries in Europe have started the exploration phase, but have shown quite little progress so far, such as Poland.  The UK is getting more interested.  Ukraine has awarded exploration licenses for shale gas exploration and development.  However, some countries in the EU have issued an outright ban on fracking, such as Franc, or have put in place a moratorium on shale gas development until they get more knowledge  on the potential environmental impacts.

So there has been quite rapid growth in the US in the past five years, which will set the stage for the US to be an exporter of LNG.  There is one terminal already under construction, and another four have been approved for export to non-FDI countries.  However, we won’t see US LNG on the market until towards the end of the decade, when you’ll see a fairly substantial impact on supply in the 2020s.

China is another country that takes shale gas very seriously, mainly because of its acute dependence on coal.  Its gas consumption is growing rapidly, and to avoid too great a dependence on gas imports, whether it’s pipeline or LNG; they want to develop their own unconventional gas assets.

I would expect that, outside of North America, the pace of the development of shale gas to be fairly slower than that experienced in the US in the past five years.

We have seen a lot of hype over the past couple of years about China’s potential.  No doubt there are some big resources there, and you’ve got Shell and some other majors there exploring, in addition to some ambitious government targets in place.  However, people have really woken up to the barriers to shale gas production since that initial surge of hype, such as:

• a different kind of geology than you have in the US
• water shortages in many of these regions where the resources lie
• service industry is not in place
• no access to pipelines
• gas pricing reforms needed

It’s going to take a long while for things to pick up in China with regards to shale gas production.  That being said, there have been interesting figures that came out recently that said that shale gas production shot up 600% last year in China, but it’s still from a very small base, only 200 million cubic meters.  The target for 2015, which is just next year, is 6.5 billion cubic meters.  It’s really a lot to expect China to meet those targets.

3.  What are the forecasts for Japan, given its total dependence on energy imports?

Japan saw a great disruption to its energy supplies following the Fukushima nuclear accident in March 2011.  Since then, they’ve had to import more fossil fuels, a lot more LNG, wood, and coal.  We anticipate that, in accordance with the policies of the current government under Shinzo Abe, Japan is going to gradually try to bring back those nuclear plants.  We think that in the end that many of the nuclear plants that have been mothballed will have to be put online again in order for foster economic growth, but this has proven very difficult politically.  We will therefore continue to see a high degree of fossil fuel dependence.  Because the nuclear plants that were shut down, its imports such as coal, oil and LNG have increased, so we are likely to see that situation continue for some time.

Japan reneged on its emission reduction targets in recognition that, while some nuclear plants will come back on line, some never will.  Unfortunately for Japan, it is very heavily dependent on energy imports because it has few natural resources of its own.

4.  What impact will the expansion of US oil and gas production have on developing suppliers in sub-Saharan Africa, such as Angola, Nigeria, and Mozambique?

We’ve already seen impacts on exports from African countries to the US, and as the shale oil revolution continues in the US, you are going to see those impacts.  The natural reaction of those African countries is to look to other markets, probably in Asia.

The most severe impacts of the reduction of US dependence on crude oil imports has not been on Middle East oil producers, but more on exporters from West Africa and also Algeria.  If you look at the direction of oil trade figures in terms of volume, suppliers such as Nigeria, Angola, and also Algeria have seen their exports to the US fairly substantially cut, so they will have to find replacement markets elsewhere.  The obvious destination for that crude oil is markets in Asia, especially China.  In the longer term eventually, if the US maintains lower levels of oil import dependence–which is what we are forecasting—eventually you will see impacts on Middle East OPEC exporters as well.

The most direct impacts of the reduced US oil dependence has been on West Africa exporters, mainly because of the kind of oil produce is the kind of light, tight oil that we are seeing produced in greater volumes in the United States.

5.  How will LNG exports from Russia compete with US, Canadian, and Australian supplies? 

All of those are going to want to focus on the Asian market.  The situation in Russia is that most of its gas exports have been directed to a pipeline to Europe.  As with oil, the growth market in terms of consumption for gas will be Asian markets.  Since there have been new suppliers, and suppliers that have scheduled to rapidly increase their capacity in recent years, such as Australia, and the likelihood that North America will start to be an LNG exporting region as well, you are starting to see Russia look towards the Asian market as well for both pipeline and LNG exports.  There  is already is one terminal from which Russia exports LNG in Sakhalin and that goes to Asia.  It’s small in terms of total volumes.  There is another LNG project that is just being sanctioned, and that’s Yamal LNG which is intended to supply both Europe and Asia.  There are another two which could get sanctioned over the next couple of years.  Russia is realizing that if it doesn’t get on the “LNG train” so to speak, it may miss out on its ability to capitalize on the growing Asian market for gas

There has been a reorientation of Russia’s gas export policy.  Gazprom will no longer have its monopoly on gas exports.  There have been some tax concessions that have been given for Arctic offshore development which would include gas, but the sanctioning of the Yamal LNG project is quite significant as it indicates that Russia sees one of its future intensive growth demands for its gas will be in Asian markets, and that includes LNG.

6.  Why do you feel that the US is better placed than Canada for long-term LNG exports? 

Both Canada and the US have these large shale gas resources.   Canada has 573 Trillion cubic feet, and the US has 665.  Both are going to try and capitalize on those resources and ship LNG to Asia.  They both have their own advantages.  Canada is a little closer to Asian markets.  In our judgment, the infrastructure in the US is just closer to being in place:  its import facilities can be converted into export, and you’ve got a more developed pipeline network.  In both countries, there are some pretty big regulatory hurdles which will cause questions in the minds of investors.  The advantage for the US is that its LNG won’t be oil-indexed, so it priced off US natural gas prices, which are currently very low compared to what LNG costs in Europe and even more so to what it costs in Asia.  So the advantage is that LNG from the US is likely to be much cheaper than what could be gotten elsewhere from others exporters that index their price of LNG to oil prices, which are still fairly high.  There is a certain price advantage, even if you take into account the cost of production and transport to the Asian markets, which Asian consumers can take advantage of.

At the same time, there is concern that Australia will get there first and carve out a share of the Asian market.

7.  Will the US government legislate for crude oil export this year, and if not, when?

There has certainly has been growing clamor from some in the industry for exports to be allowed, at the moment they are not allowed generally.  At the same time, there is going to continue to be reluctance on the part of government.  Those IEA figures that came out yesterday showed that demand in the US is also growing even as its supply is.  That implies that official reluctance is only going to be strengthened.  There is already a lot of debate over whether the US should be exporting LNG or whether it should just keep its gas supply for the domestic market.  The export of oil is allowed under certain circumstances, but to open it up for general export would raise issues of energy security.

8.  Are you skeptical regarding China’s new provincial-level approach to reduce air pollution that was released recently?  Do you think these measures will have much impact?

It’s one of those situations where the glass could be considered half full or half empty, depending on how you look at it.  It’s definitely a step forward.  You’ve got 11 provinces out of 31 that are now obliged to reduce PMT.5 by a certain percentage, which varies on the province, by the year 2017.  “PMT.5” measures small particle pollution.

The other provinces will be judged based on their PM.10 reduction, which deals with larger particles.  From a human health standpoint, it’s a positive development, when you bear in mind that perhaps half a million people each year die in China due to air pollution.  But even the very ambitious PMT.5 cuts that they’re talking about in the case of, say, Beijing, which is committed to reducing its PMT.5 by a quarter, will only bring Beijing to double the legal limit that exists in the US.  Even so, China has still got to achieve these new targets; the current ones have been ignored quite a lot in the past.  Doing so will require strong national oversight and it’s not really clear that you’re going to get that, although the public pressure is certainly getting stronger.  If you ask what they means for coal producers, for example, it’s a sign that figures such as 10% coal consumption growth which we saw in recent years are behind us.  Although coal consumption growth is currently edging up slowly, it will begin to taper off later in the decade.

Current coal consumption levels in China are clearly unsustainable.  Even though it has contributed to its vast economic growth, it has also contributed to its air pollution and emissions problems.  There is a little bit of a tug of war there between the vested interests behind China’s emission standards.

Even before China came up with more concrete measures recently, it had stopped granting approvals for new coal-fired plants in the East of the country.  Certainly coal is recognized as a big problem, but not so much for reasons related to climate change, as for to the problems with health effects due of air pollution, such as lung cancer rates which have risen a great deal in Beijing.

9.  Can you provide some more information on China’s key role in non-hydro renewables? 

China has pursued a fairly aggressive policy since the mid to late 2000s on non-hydro renewables, starting with wind power.  It has set some very gung-ho targets with respect to installation, more recently doubling its target.  We’ve seen a surge of investment into manufacturing capacity, we’ve seen a lot of installations going up, but over capacity has become a problem.  You’ve also got problems such as installations that aren’t hooked up to the grid, and even if they are hooked up to the grid, they are underutilized because the grid doesn’t like taking all of this inconstant renewable power.  The policy makers have been trying to find an answer to that, and continuing to up your targets is one approach.  The benefit to the rest of the world is, although China has come in for a lot of criticism for giving state support to the industry through subsidies, production has greatly increased for wind power and solar, (although in the case of solar its due to a large part to European subsidies), and that has driven down the price of solar panels and wind turbines.

This concludes the webinar, the one I will post tomorrow will be on the telecoms industry.  

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On Thursday, January 16^th, the Economic Intelligence Unit sponsored a webinar on their forecast for the Financial Services Industry in 2014, part of a series of six industry-wide webinars that the EIU is putting on based on their industry reports that came out at the end of 2013.   I already did a post on two of those other webinars, on the Retail and Consumer Goods Industry in 2014, and on the Automotive Industry in 2014. 

This webinar on the Financial Industry in 2014, was presented by Steven Leslie, the lead analyst for Financial Services in the EIU.

1.  MAIN TRENDS IN 2014

First of all, there is a synchronized upturn in the major developed economies.  The US recovery is deepening, and is broad-based, despite the disappointing job report for 2013 Q4.  Europe is still struggling to recover, but at least is now showing positive growth.  Japan’s economy is finally on the move and is looking stronger.  Outside of the developed economies, however, there are tighter financial conditions.

In the world overall, however, there are tighter financial conditions.  China, India, and Brazil all need economic reforms to stabilize their growth.  Some capital will be fleeing developing economies; they had an inflow of capital before because of their highest interest rates, and their good economic performance.  Now there are doubts about policy choices, and the interest rate spread between the developing economies and the developed economies is tightening.

All around the world, the eyes are on the Fed, which is cutting down its money printing as it tapers off the so-called quantitative easing program.  On the interest rate side, there will be no official rate hikes in US before the third quarter of 2015.

2.  THE FED, TAPERING AND THE RISK OF BUBBLES

Ben Bernanke says the Fed will reduce its bond buying as part of the quantitative easing program by about US $10B/month, to US $7.5B/month, with further cutbacks in store.  Janet Yellen who takes over the Fed in 2014, has stated that she intends to pursue the same policies as Ben Bernanke, at least for the time being.

The Fed was concerned about instability in asset markets.  The question everyone is asking is:  is another asset bubble forming?  There is certainly some froth in some markets; for example, US equities rose by 30% in 2013.  But there is plenty of spare capacity and workers looking for employment in the US.

The inflation rate remains low.  Tighter Fed policy would push rates higher, curbing asset prices.

The monetary exit strategy was always going to be complicated in any case.  Janet Yellen must balance support for economy with concerns about asset bubbles.  Some capital will flow out of emerging markets.

However, the scaling back of quantitative easing in December 2013 did not produce the same run by investors that was seen back in June 2013, as if the market has already factored it in.

3.  POSITIVE FACTORS in 2014

The following are the positive factors in 2014 that will be helping the global economy.

• Rising asset prices, particularly for equity and real property
• Steeper yield curves following the rise in Treasury yields
• Resolution of legacy issues of the financial crisis, especially in the US
• Developed countries equity index is higher than the emerging markets equity index
• Sluggish economies like Brazil are still creating increases in property prices.

There will be short-term pain for those holding bonds with lower yields and steeper yield curves.  The interest rate spread should be positive, which is good for fixed-asset holders like insurance companies, and pension funds.

In recent months, there has been settlement of lawsuits and resolution of issues regarding mortgage financing and mortgage bond issuance in US.  Mortgages are less of an issue in Europe and Asia.  There they were investors rather than originators of the mortgage debt.

4.  NEGATIVE FACTORS IN 2014

The following are the negative factors in 2014 that will be hindering the global economy.

• Regulatory headwinds:  Basel III and G-SIBS, the Volcker rule in US, and the MiFID in EU
• Weak economic growth in some key markets, including developing economies
• Continued losses on portfolios of existing bonds

The Basel III rules are largely in place and are going to be completed by 2019.  Regarding G-SIBS, some institutions have been designated but have not yet had to put on a capital buffer yet, which will come in future years.  Certain non-bank G-SIBS have been designated by the board in Switzerland.

In US and Switzerland, there are additional national regulations.  The Volcker rule in the US tries to manage proprietary trading.

The new basic law MiFID in EU will change how the securities industry works, and will control the impact of derivatives market in line with the last G20 summit of leaders agreement to reduce risk.

EU will sustain growth, but at very low level.  Japan not much better but at least sustained from last year.

This weakness will begin to turn around with the growth in developed markets, but will not reach the high point that had been reached before 2008-2009.  There are continued losses on portfolios of existing bonds.  Fixed-income mutual funds in 2013 had single-digit losses in US.

5.  SURVEY RESULTS

Based on a survey of 152 respondents in the financial services industry, the positive sentiment outweighs the negative.  77 respondents felt that the business conditions for their company would be better in 2014 than in 2013; 61 felt that the business conditions would be the same in 2014, and 12 felt that the conditions would be worse than current conditions (2 respondents were not sure).

70% felt that banks in their market would be less likely to fail (vs. 15% who said they would be more likely to fail).

66% felt that investors would favor low-cost investments, as opposed to 11% who disagreed.

59% felt that key financial markets will lose ground to upstarts, as opposed to 24% who disagreed.

41% felt that the global market for IPOs would roar back, as opposed to 31% who disagreed.

6.  INTERNATIONAL FINANCE BECOMES TRULY GLOBAL

The global crisis in 2008-09 was an inflection point for emerging market catch-up.

Developing countries went from about 28% of GDP involved with the financial services industry to a forecast 40% this year.  The industry remains concentrated in relatively stagnant OECD countries, with the concentration being even starker in insurance and fund management.  In insurance market, developed market has 85% of all premiums, with developing countries having 15%.

So not all markets are as global.  Current financial firms are still concentrated in more stagnant economies of the north.

7.  CUSTOMERS USE MOBILE TECHNOLOGICIES INSTEAD OF BRANCH BANKS

Mobile banking and payments are on the rise, since many more people have phones than banks accounts.  Tablets are increasingly popular, as is depositing checks by taking a picture.

Internet access is allowing banks to reconcile accounts from remote locations.  Payments systems allow increasingly going cash-free or cash-light payments.

Banks are scaling down branch network in US; this is not true, however, in emerging markets where branches are underbuilt.

The rest of the webinar was devoted to questions & answers.

1.  What about US Bank results in 2014?

These are a bit of a bellwether.  Mixed bag as you would expect.  Economy is sustaining growth, but still weak.  Banks have paid out for the most part TARP bailout funds.  Some of them did well, some did poorly.  Economic expansion is helping certain segments, e.g., in automobile lending, credit card lending, and activities tied to consumer purchases.  Banks have started to take hit in mortgage refinancing.  In US mortgage rates are tied to 10-year treasury yield.

Wells Fargo had a very good Q4, which is aligned to consumer and mortgage lending.

Banks aligned with commercial lending had a much harder time.  Trading desks had a tough year and a tough quarter, due to the change in the interest rates.  Commodities and currencies will face difficulties ahead.  Realignment of costs and staff in US banks.

2.  How QE might effect emerging markets such as those in India and Latin America?  Are there any measures that could moderate this effect?
We are heartened to see in May, Ben Bernanke started to indicate that Fed was going to wind down QE in the so-called “tapering”.  There was a run in emerging markets with currencies falling and investors pulling out assets.  However, this was an overreaction to a normalization in the interest rate cycle.  That has been priced in and there was no such recurrence in December 2013.  In general we have a bullish outlook on emerging markets.  Some countries are in bad position because of fragile current account deficits or trade deficits:  Brazil, India, Indonesia, Turkey and South Africa are most at risk.

East Asian countries have built up very large currency reserves so markets like China and SE Asia nations are in a strong position to resist financial crisis.

3.  How do you see microfinance in 2014?

There will be a special report on microfinance around the world later on this year at EIU, by the way.

Expectations of the microfinance market depend a lot on the policy framework, which is currently up in the air.  It’s pretty stable in Latin America; Peru and Bolivia have markets that are continuing to grow.  India suffered a big setback in microfinance sector in the state of Uttar Pradesh a few years ago.

There is an ongoing debate whether microfinance will be regulated at a national level in India.  Legislation has not advanced and will not advance until after the election later on this year.

4.  Can banks get on solid footing with stress tests?

Cautiously optimistic outlook on banks in EU.  Should be helped by economic recovery.  They have fewer legacy issues but haven’t dug themselves out yet like the US Banks have.  Some of the policy issues are really important.  They need to keep a close eye on them.

Policy framework has lost influence, because past stress tests that passed later failed banks.  Stress tests will be stricter and closely watched.  There is a lot of concern about performance of EU banks.

5.  Bubbles bursting in property markets

No signs of that in recent years.  If anything, developed country banks pulled back from property in emerging markets.  There is not much exposure beyond their own economies.  Recent regulation has cracked down on any of those exposures.  Little chance of collapse in Latin America having any spillover effect in global economy.

Regulations are pretty tough, and there are a number of chances to measure their impact on bank profitability and GDP.  International level Basel III rules, EU rules, and national rules add up to a heavy burden.  That said, they will probably have a long-term net positive effect on sustained economic output because of the damage that previous financial crises had, although there will be a short-term deleterious effect on economic output.

Regulatory changes in developing countries:  focus has been previously on changes in US and Europe, such as Dodd-Frank or MiFID.  Liberalization in China is occurring with the opening of capital accounts.  More local changes in insurance regulations in Latin America as they go to more risk-based systems of regulating insurers.

6.  Will the trend towards a price cap on consumer credit stifle demand?

I’m not an expert.  Expectation would be that it would stifle demand.  Most jurisdictions have restrictions on so-called “usury”.  Payday lenders have restrictions in the US, for example.

7.  Emerging markets—are they truly important for business?
Finance as opposed to other businesses are seen as a network business; it is less open than the consumer goods business, for example.  Access to markets is more difficult.  On the other hand, despite WTO and other agreements, a lot of growth in emerging markets is not open to global  competition.  Securities markets is the most open.  In other areas, they are not open because of the market structure but because of rules which are difficult to change.

Regarding some initiatives to opening, Central Bank in India is considering allowing global banks to have branches in India if they set up subsidiaries in India.  In other places such as Indonesia, there are troubling signs of a clampdown on operations of banks in terms of domestic ownership.  DBS in Singapore is giving up its effort to take over a large bank in Indonesia, for example.

Financial activates are much more restricted because of the network nature of the business.  This was highlighted by the financial crisis in 2008-2009.

8.  Are banks of developing countries seeing opportunities in China’ liberation of renminbi trading?

They are taking up opportunities and that market is booming.  Part of gradual liberalization or capital controls in China.  No “big bang” like in Russia, but very gradual.

It’s worth pointing out the quite extensive expansion of Chinese banks overseas.  Hong Kong bank just received approval of opening branches in US.  ICDC, the largest bank by capitalizationk, is opening up in Argentina and other places.

It’s part of the growing trends towards global expansion of emerging market banks.

I thank the EIU for putting on such an informative webinar and I hope to look back in December 2014 to see how closely their forecast came to the actual performance in the coming year!

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EIU Webinar—Automotive Industry in 2014

On Thursday, January 16^th, the Economic Intelligence Unit sponsored a webinar on their forecasts for the Automotive Industry in 2014, part of a series of six industry-wide webinars that the EIU is putting on based on their industry reports that came out at the end of 2013.  I already did a post on one of those other webinars, the one on the Retail and Consumer Goods Industry in 2014, on January 18^th.

This week I intend to do a series of posts on the other 5 industry webinars, starting with this one.  The webinar was presented by Ana Nicholls, a Managing Editor at EIU covering the automotive industry.

1.  INDUSTRY SURVEY

Some of the data that the EIU used to gauge the prevailing sentiment within the industry came from a survey done with respondents from the various industries covered by the series of EIU reports (including the automotive industry).  They were asked about their expectations for 2041 for

• The global economy in general
• Their particular industry
• Their particular company

There were three basic categories, those who felt that the industry would be doing better off in 2014 than in 2013, those that felt that the industry would be doing worse off in 2014 than in 2013, and those that felt that the industry would be doing about the same in 2014 as in 2013.  The EIU took an “index of sentiment” by taking the percentage of respondents that thought the industry would be doing better minus the percentage that thought the industry would be doing worse.

As a point of comparison, let’s take a look at the index of sentiment for the various industries that were asked about in the survey.  These are listed in the chart below in order from those with the most optimistic outlook to those with the least optimistic outlook.

Note that the automotive industry, with an index of sentiment, is less positive than some industries and in addition is less positive than the average across all the industries.  However, although less positive than the average, it is still better than a shift from a negative index of sentiment that prevailed last year.  This is a sign of confidence in the global economy as a whole, although you cannot say it is the level of a “ringing endorsement.”

If you look at the index of sentiment for the automotive industry listed above (32), that is the average across the various respondents from different parts of the globe.  If you look at where in the world the index of sentiment was the highest with regard to the automotive industry, that would be the Middle East.  The place in the world with the lowest index of sentiment towards the automotive industry was Latin America, followed by Europe.

Another interesting question that asked in the survey was “which country offers the greatest growth prospects outside the BRIC (Brazil, Russia, India, and China) countries?”  In the previous years, the answer focused on emerging markets, but this year there was a mix between emerging and developed markets; about 2/3 answered that emerging markets would have greater growth prospects, and 1/3 answered that developed markets would.  One of the BRIC countries, China, was receiving a more bearish assessment from the respondents, in that 2/3 of them were worried by an overreliance on the China market, in case the economy overshoots and there is retrenchment.

2.  REASONS TO BE CHEERFUL

The EIU has some reasons to be somewhat cheerful about the automotive industry in 2014.  First of all, 2013 was a record year for global car sales, and it looks like 2014 will be a record year as well.  The world passenger car market will grow by 4.7%, as compared with 3.6% in 2013, with the commercial vehicle market growing by 5.2%, as compared with 1.6% in 2013.

But there are risks that the automotive industry faces in 2014, among which are:

• The gap between developing and developed markets is narrowing
• Shift in monetary policy in developed markets
• Structural problems in developing markets
• Possible credit bubble in China

One of the underlying reasons for these risks is in the flow of money:  in the past, low interest rates in developing countries caused investment to flow there.  With interest rates there rising, and China deliberately attempting to slow the credit bubble, the funds to the developing countries may be flowing back to the developed countries.

Out of the BRIC countries, in only one of them (China) did automotive sales rise; they fell in the other three (Brazil, Russia, India).

The US automotive market was predicted to be stronger than the China market, but the actual figures show that the sales figures in the US turned out weaker than predicted.  In fact, Asia is no longer the faster growing region:  North America is.

3.  EUROPEAN RECOVERY?

Out of the respondents questioned, 69% felt the European market is likely to stay subdued.  Some European markets are recovering more strongly, but growth even there will still be on the order of 1%.  There may be a few markets like Italy and Portugal that declined so much because of the Euro crisis that they will report strong growth in 2014 by comparison.  In fact, if you look at the performance of all the various countries of Western Europe, the growth figure depends on how far they fell during the Euro crisis.

4.  SHIFTS IN MONETARY POLICY

Since passenger and commercial vehicles are big-ticket items that often require loans to purchase, the automotive industry is strongly effected by shifts in monetary policy because this effects how readily available credit is for those loans.

As mentioned in paragraph 2, money flowed to developing markets because of better returns, but there may be reduced capital flow to the emerging market because of shifts in monetary policy in developed countries.

Another factor which has a big effect on the automotive industry is the price of oil.  46% of the respondents said that rising fuel prices would dampen car sales.  Oil prices will soften in 2014, and fall to US $93/barrel by 2018 (by BRENT measure).  It could fall even faster, as demand is falling and supply constraints are easing.  There has been a trend towards increasing fuel efficiency of vehicles, but the impetus to buy fuel-efficient vehicles dies down as oil prices case.  For example, in the US you can see sales of 4X4s or SUVs are picking up, showing that the American public has less concern about fuel efficiency than before.

In some developing markets, however, oil prices will rise as subsidies are removed by the government.  This is already a factor in the Indian market.

5.  CHINESE PLAYERS

Will Chinese automobile manufacturers such as Geely, Chery, and SAIC follow the successful path of South Korean carmakers such as Hyundai?  The Chinese carmakers are losing market share domestically, and are increasing their exports.  54% disagreed that Chinese and Indian carmakers would start to penetrate developed markets, however.  69% agreed that emissions and safety standards played to the advantage of western carmakers.  Since those standards are not as high in the Middle East and Latin America, those markets are easier to penetrate.  However, one of the notable things that happened in 2013 was a Chinese car got a 5-star rating for safety, the first time this has happened.  Although Chinese players are not yet in a position to make an assault on Europe or North America, it will be interesting to see their performance in the developing countries in the coming year.

As for the European market, however, 69% of the respondents agreed that it would remain subdued, forcing further job cuts and further consolidation.

That is the main portion of the presentation.  The rest was taken up by questions and answers from those attending the webinar.

6.  QUESTIONS AND ANSWERS

1.  What about the high-end market for automobiles?

This has been doing extremely well throughout the slump, with Rolls Royce, Audi, Jaguar, and Land Rover reporting records sales, even in Europe.  It is a mixed picture going forward, however.  There are signs that some luxury brands aren’t doing as well as others.  There is much more worry about branding, and that is particularly noticeable in China.  The Chinese attitude towards luxury brands is changing as more and more people can afford them.  Ferrari is deliberately restraining sales in China to retain the air of exclusivity.

The luxury market will not outperform the regular market as it has in the past few years.  The oil price index may affect this, particularly at the top end of the market, because many of the extremely wealthy derive their income from the energy industry.  As oil prices drop or ease back, therefore, there is less wealth in the Middle East and in Russia to be spent on luxury goods, including luxury automobiles.

2.  What about trends in Indian auto registrations?

The Indian economy as a whole is growing; however auto registrations are on the decline because of other factors holding back the market.

3.  Which car makers are benefiting from the upturn in the global economy?

Carmakers doing the best are the ones doing well in China and US, the largest markets: GM, Ford and Volkswagen.  Volkswagen is doing well in China and has topped GM, although it is not doing as well in the US.  Ford is not as big as GM and Volkswagen in China, but is obviously doing well in the US.

Fiat has suffered in Brazil where the car market is dropping, as it is in Latin America as a whole.  The biggest loser is Peugeot, because it is focused on Europe; in addition, it has not had the product lineup that Renault has.

One of the other factors that affects auto industry is where production is, based on currency shifts and demand shifts.  Toyota has experienced a drop in sales, because they were affected by flooding in Thailand, the tsunami, and strong yen.  As these factors disappear, they will affect all Japanese carmakers, including Toyota.

Given the long-term horizons that production planning has to undergo, it’s a delicate balancing act.  Production in W. Europe will continue to fall; carmakers are heading to production in China, Brazil, and Mexico.

4.  Any data are on which countries have the greatest potential in car sales relative to GDP?

EIU did a study a few years ago, China had the most potential based on forecast for GDP growth and relatively low car stock.  China has caught up a lot of that gap; car stocks are where they should be based on GDP/capita.

There is potential for catch-up growth in Indonesia.  One of the other areas of potential is the US, which has surprisingly low car stocks relative to wealth levels.  That is the reason behind rise in car sales there.

There are some countries where there is greater car stock than needed.  For example, in Malaysia, a lot more people have cars due to local production, and so growth levels won’t be high there.

5.  What is the situation in Central and Eastern Europe?

They had a particularly bad slump after 2008-2009, partly because it had had such a huge surge up to 2007, and pent-up demand had gone.  Car sales in Ukraine are still down 60% compared to 2007.  There is potential for catchup growth in theory, but economies are not particularly strong.  Forecasts for Russia, for example, are not particularly bullish; their economy will grow only slightly in 2014 (it declined in 2013). Central and Eastern Europe should see a recovery based on how far it dropped during the global slump.  The exception is Poland; it will remain relatively strong over the forecast period.

6.  What is the situation in Latin American countries?

One of the biggest surprises recently is that Brazil  has been overshadowed by Mexico, across all figures:  GDP growth, car sales, and car production.  Mexico was extremely strong in 2013, with Brazil turning in a disappointing performance.  The same will be true in 2014.  That is partly due to the relation to the growing US economy through NAFTA, but demand is growing within Mexico itself.  In Brazil, however, demand remains subdued.  The economies that will be strong in Latin America outside of Mexico will be Argentina, Peru, and Venezuela.

7.  What is the biggest differentiator between India and China in terms of car sales and growth?

In terms of wealth alone, China is richer.  There is a much better spread of wealth there than in India, and it has more sustainable growth potential.

Another differentiator is demographics.  China has an aging population. The number of people within car-buying age is shrinking.  India, on the other hand, has a huge under-15 population that is getting close to car-buying age in 5 to 10 years.  India is a stronger one in terms of growth in the medium-term, whereas China is a stronger one in terms of growth in the shorter term.

8.  What is the effect of the investment in infrastructure on car sales?

In developing markets, infrastructure has a powerful effect on car sales.  Commercial vehicles are used in building the roads themselves.

9.  What about the alternative-fuel vehicle market?

The sales of electric vehicles has been relatively poor, perhaps due to the declining oil prices.  The growth was strong in 2013 but from lower levels.  Outside of urban areas, infrastructure is crucial to the growth of purely-electric vehicles (the so-called “chicken-and-egg problem”).

Hyundai is launching the first mass-produced hydrogen fuel-celled vehicle.  Sales will be small.  Toyota will launch theirs 2015.  That is starting to become a real prospect by 2020.  Although they are extremely expensive compared to regular vehicles, these have much more potential than electric vehicles because of their much better range.   You will start to see a shift from electric to hydrogen fuel-celled vehicles by 2020.

NOTE:  Thanks to the EIU for putting on such an informative series.  I appreciate the fact that they take questions from the webinar audience; sometimes the most interesting details of the webinar come from the answers to those questions!

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