HSBC Frontier Markets Fund Quarterly fund report Q Prepared by: HSBC Global Asset Management Date: January Investment Products:

Transcription

1 Prepared by: HSBC Global Asset Management Date: January 2015 Investment Products: ARE NOT A BANK DEPOSIT OR OBLIGATION OF ANY OF ITS AFFILIATES ARE NOT FDIC INSURED ARE NOT INSURED BY ANY FEDERAL GOVERNMENT AGENCY ARE NOT GUARANTEED BY THE BANK OR ANY OF ITS AFFILIATES MAY LOSE VALUE

2 Quarterly market performance Top 5 performing countries (%) Bottom 5 performing countries (%) Country Absolute return Contribution to reference index Pakistan Philippines Kenya Sri Lanka Tunisia Country Absolute return Contribution to reference index Nigeria (26.00) (2.47) Bahrain (22.93) (0.27) Colombia (22.89) (1.64) United Arab Emirates (21.64) (1.15) Ukraine (25.84) (0.04) Source: HSBC Global Asset Management data as of end of December The information provided should not be considered as a recommendation to purchase or sell a particular security or securities in the sectors, countries and regions shown above. The indicative index is a customized MSCI Frontier Emerging Markets Capped index until end of May 2014 and the customized MSCI Select Frontier & Emerging Markets Capped index thereafter. Past performance does not guarantee future results. Pakistan was the best performing market during the quarter. The country s government finances improved following the conditional loan worth USD6.7bn from the IMF. Pakistan s foreign reserves also saw a marked improvement and we believe its fiscal position is likely to continue to strengthen through expansion of the tax base and further tightening of government spending. Furthermore, as a net importer of oil, the falling oil price worked in the country s favor, putting downward pressure on inflation and giving way to rate cuts. The State Bank of Pakistan reduced the key interest rate by 50 basis points in November. In our view, all these factors bode well for Pakistan s equities market. Nigeria was the worst performing frontier market during the quarter. As a net oil exporter, it suffered as it bore the brunt of the oil slide, putting pressure on the Naira (against the US dollar) and impacting foreign currency reserves. Additionally, rising inflation and a high interest rate environment deterred the equity market from performing well. Political uncertainty also remains fraught ahead of elections on February 14th. As one of the biggest frontier markets by market capitalization, (accounting for 7.61% in the reference index), its marked decline accounted for the largest negative contribution to the reference index. However, our reference index fell less than the industry standard benchmark, the MSCI Frontier Markets Index, as it deliberately removes the concentration issues and regional skews, so is less exposed to Nigeria, by around 50% (as of December 31, 2014). Colombian equities suffered amid the sharp fall of the oil price, given that about 55% of the country s exports are related to oil and oil products. The Colombian peso also declined during the quarter, falling by about 15% against the US dollar over the quarter. Besides the oil issue, the rebel group popularly known as FARC kidnapped an army general and two other lower ranking officials in November. President Juan Manuel Santos immediately suspended peace talks with the rebel group. There were concerns that this move could derail peace negotiations for the medium term and launch another prolonged period of conflict in Colombia. UAE was negatively affected by falling oil prices and downward revisions within the energy sector. Investors appear to be wary of the governments capacity to continue large-scale spending to accelerate economic growth. Market participants also remain concerned over corporate governance and economic fears associated with the construction sector. Bahrain: Apart from the deterioration in the oil price which influenced this market, it also faces its own share of challenges. Bahrain does not have the sovereign wealth that many other Gulf states enjoy, meaning it does not have the luxury of financing deficits through its own resources in a low oil price environment. The political stalemate between the country s Shia opposition and the government remains in place, with occasional reports of violence. These factors depressed market sentiment and drove down performance. 2

3 Quarterly performance (%) Oct Nov Dec Qtr YTD 1 yr 3 yr Inception Class A without sales charge Class A with maximum sales charge Class I MSCI Select F&EM Capped Index MSCI Frontier Markets Index Source: HSBC Global Asset Management data as of December 31, Past performance does not guarantee future results. The indicative index is a customized MSCI Frontier Emerging Markets Capped Index until end of May 2014 and the customized MSCI Select Frontier & Emerging Markets Capped Index thereafter. The performance data quoted represents past performance and current returns may be lower or higher. The investment return and principal value will fluctuate so that an investor s shares, when redeemed may be worth more or less than the original cost. To obtain more current performance and other information, please call or visit emfunds.us.hsbc.com. Maximum sales charge: Class A: 5.00%; Class I: None. Expense Ratio (Gross/Net): Class A: 2.80% / 2.27%; Class I: 2.45% / 1.92%. Fund inception date is September 6, Returns include the reinvestment of dividends and income. Returns greater than one year are annualized and returns less than one year are aggregated. Performance for other share classes will vary. The performance above reflects any fee waivers that have been in during the applicable periods as well as any expense reimbursements that have periodically been made. Absent such waivers and reimbursements, returns would have been lower. Currently, contractual fee waivers are in from March 1, 2014 through March 1, Reflects the expense ratio as reported in the prospectus dated February 28, Global frontier markets showed some weakness during the fourth quarter, with the MSCI Frontier Markets Net Index falling by 12.46% compared to a decline of 4.50% for the MSCI Emerging Markets Net Index. The most evident cause was the rapid fall in the global oil price, with Brent Crude down by 40.15% in US dollar terms over the quarter. While only a handful of the 24 markets in the industry standard MSCI Frontier Markets Index are net oil exporters, the two biggest countries by index - Nigeria (17.4%) and Kuwait (25.2%) - fall under this category. Nigeria appears to be more at risk, given its currency vulnerability, whereas Kuwait s currency is pegged to the US dollar. Several other frontier markets, such as Pakistan, Kenya, Sri Lanka and the Philippines actually benefit from the lower oil prices, which has provided some relief to the external balance and inflation in these countries. In fact, all of these markets remained resilient and delivered positive returns over the quarter. From our perspective, local investors the prime driver of frontier flows - seem to be have lost this perspective and overreacted to the falling oil price and much of the hot money that came into the asset class earlier in the year from international investors has been redeployed, thereby driving flows out of the asset class and dampening returns. We believe that this offers a good entry point to capture the meaningful growth potential of these pre-emerging countries, as valuations remain attractive in our view despite the strong returns generated by the asset class in The fund declined in absolute terms over the quarter but outperformed its reference index (the MSCI Select Frontier & Emerging Markets Capped Net Index) which fell by 10.79%, while the industry standard MSCI Frontier Markets Net Index fell by 12.46% over the same period. Our reference index fell less than the industry standard benchmark as it deliberately removes the concentration issues and regional skews, so is less exposed to Nigeria and Kuwait. The fund s outperformance against the reference index during the quarter was predominantly due to strong stock selection. The Fund s strongest positive contributor to performance was our over exposure to Pakistan, where good stock selection added to relative returns. Improving political situation and a lower oil price helped to drive the market up by 3.83% in US dollar terms over the quarter. Our over exposure to companies within the materials sector made the largest contribution to relative performance. The top contributor to relative returns was D.G. Khan Cement, which rallied on higher 1QFY15 earnings, concerns about a price war subsiding and planned expansion in the South being delayed. Over position in Engro Corporation, the country s largest conglomerate with diverse interests in fertilizer, dairy, power generation, and petrochemicals, also contributed to relative returns as the company benefitted from the lower oil price and positive developments in its fertilizer business. Engro Fertilizer performed well as it was confirmed that the company would continue to receive dedicated gas flow. Since gas is the main feedstock used in the manufacturing of urea fertilizers, this is expected to improve margins significantly for the company. Our over exposure to Engro Fertilizer thus added to relative performance. 3

4 Stock selection in the UAE also made a positive contribution to relative returns. However, the gains were mostly mitigated by our over exposure to country allocation, as the market fell by almost 22% in US dollar terms over the quarter amid falling oil prices which had a negative impact on equities in oil exporting countries. Our under exposure to Colombia also benefitted the fund as the market fell by 22.89% in US dollar terms mainly due to the fall in the oil price and the pressure this has placed on the country s currency. The under exposure to Kazakhstan also supported relative performance. Kazakhstan s currency remained stable but the country s equity market declined, pricing in investor fears of another round of devaluation after the 19% devaluation in February Elsewhere, stock selection in the Philippines and Argentina also aided relative performance. Detracting from relative performance was stock selection in Saudi Arabia and Vietnam. In Saudi Arabia, our position in Yanbu National Petrochemical suffered markedly as the oil price retreated sharply over the quarter. We sold this position in December due to a lack of confidence in the company with its dividend coming under pressure. In Vietnam, our over position in Petrovietnam Drilling, Vietnam's biggest listed oilfield services provider, impacted relative performance and was the top detractor from returns. Its relatively high correlation with the oil price worked against it during the quarter. The under allocation to Kenya also detracted from relative performance as that market gained during the quarter, supported by the lower oil price. Key purchases and sales over the quarter Over the quarter, the Fund added three new stock positions and sold four stock positions. In October, the fund made no new purchases. We made a disposal of Saudi Dairy & Foodstuff as it exceeded our price target. We also sold Philippines-based conglomerate SM Investments Corporation and used the proceeds to add to existing holdings in the Philippines, namely Energy Development Corporation and Vista Land & Lifescapes, exposures to power reform and infrastructure project progress, respectively. During November, we initiated three new positions. We added Nishat Mills (NML), which is the largest integrated textile company in Pakistan. We believe that the textile industry is turning around in Pakistan and NML has generated positive net income over the last 5 fiscal years and ranks highly within our frontier universe due to its low valuation. Despite the pullback in the fourth quarter, frontier markets delivered a strong return for the year, with the MSCI Frontier Markets Index up 6.84% and outperforming Emerging Markets (-2.19%) by a good margin. For the calendar year 2014, the fund delivered a positive absolute return, but lagged the reference index which was up by 5.70% and the industry standard index return of 6.84% (on a net-of-fees basis). Stock selection helped returns over the year, supported by strong stock selection in Pakistan, the Philippines and Argentina. Our under position in Colombia also added value to relative returns as this market fell by almost 20% in US dollar terms over the year amid higher inflation, lower-than-expected GDP growth figures, currency weakness and low oil prices. Detracting from relative performance was the UAE, partly due to the MSCI s decision to upgrade the country to emerging markets status in June (along with Qatar). Initially this created a rally among lower-quality UAE companies, where we were under. However, following the index change, the markets pulled back on local retail investors concerns following five months of very strong market gains, with the strategy suffering from maintaining its over exposure to this market. The fund also suffered from exposure to Omanbased Renaissance Services which provides services to the oil and gas industry. The lack of exposure to Bangladesh impacted relative returns as it experienced strong performance over the year on improved political situation and a stable currency. We remain reasonably upbeat about the prospects for the frontier markets asset class as the long-term growth story remains a source of support and we continue to look for high quality companies with reasonable valuations that have the ability to generate sustainable returns. Another purchase was Ooredoo Oman, which is a mobile telecommunications company and subsidiary of the Qatari telecom company Ooredoo. We believe the company should be a beneficiary of rising mobile data penetration in Oman and gaining market share. We also added Attijariwafa Bank, which is the largest bank in Morocco and has interesting exposure in West Africa. In December, the fund made no new purchases. We made a disposal of Saudi-based Yanbu National Petrochemical, due to a lack of confidence in the company with its dividend coming under pressure. We also exited First Bank of Nigeria on concerns about the company s capital increase in a tough environment. 4

5 Largest 5 stocks by active (%) Stock Country Active Bank of Georgia Georgia 2.97 Robinsons Land Philippines 2.75 Banco Davivienda Colombia 2.32 Vista Land & Lifescapes Philippines 2.16 John Keells Holdings Sri Lanka 2.01 Smallest 5 stocks by active (%) Stock Country Active KazMunaiGas Kazakhstan (2.11) Maroc Telecom Morocco (1.91) Kuwait Finance House Kuwait (1.89) KRKA Slovenia (1.53) Telecom Argentina Argentina (1.45) Source: HSBC Global Asset Management data as of end of December Portfolio data is subject to change. The information provided should not be considered as a recommendation to purchase or sell a particular security or securities in the sectors, countries and regions shown above. There is no assurance that securities remain in the Fund s portfolio or that securities sold have not been repurchased. Active is the difference between the of security in the actively managed portfolio and its in the benchmark portfolio. Bank of Georgia: The bank is one of the dominant market players in Georgia and we believe it is well positioned to benefit from the emerging mass retail market, given that its market share is approaching 50%. We expect the bank to get a boost from the performance of its healthcare and insurance operations. As these businesses grow in prominence, we believe the bank should start to see a re-rating. Robinsons Land: This is a Philippines-based real estate company involved in the development and operation of shopping malls, hotels and mixed-use properties. The company is attractively priced and has a growing property portfolio. Banco Davivienda: It is one of Colombia s top three banks, with the leading position in the country s mortgage sector. Investing in Davivienda gives us exposure to consumer finance in Colombia, particularly the mortgage market, as well as the management s efforts to achieve an acceptable Return on Equity (ROE) on the newly acquired Central American operations. In the longer-term DaviPlata (the bank s mobile banking operation) could become an important source of revenues. Vista Land & Lifescapes: It is a residential property development holding company involved in the low, middle and upper income segments in metro Manila and the rest of the Philippines. Since its inception, the company has acquired, developed, sold and replenished a large landbank of about1900 hectares,. We believe the stock offers significant upside due to land price appreciation driven by economic growth and urbanization, historically low mortgage costs and transport (road) infrastructure investment. John Keells: Is a diversified holding company with interests in transportation, leisure, property, consumer food and retail, financial services and IT. The company is well positioned to benefit from the fast-growing Sri Lankan economy and we see value in this name. KazMunaiGas: It is the largest listed oil producer in Kazakhstan. We do not hold this position on concerns of poor future production data. Maroc Telecom: We do not invest in this company due to high valuation. Kuwait Finance House: We do not invest in this stock due to lack of transparency and the lack of access to company management. KRKA: We sold our position during the third quarter of 2013 as we saw no upside on company fundamentals. Telecom Argentina: It is one of the country s three mobile operators. We do not invest in this stock as we see no upside on fundamentals from the current level. 5

6 Quarterly stock performance attribution (%) Positive Country Average active Allocation Selection Relative impact D.G. Khan Cement Pakistan Engro Corporation Ltd Pakistan Engro Fertilizer Ltd Pakistan Ecopetrol Colombia (1.17) Robinsons Land Co Philippines Source: HSBC Global Asset Management data from end of September 2014 to end of December Portfolio data is subject to change. Past performance is not indicative of future performance. The information provided should not be considered as a recommendation to purchase or sell a particular security or securities in the sectors, countries and regions shown above. There is no assurance that securities remain in the Fund s portfolio or that securities sold have not been repurchased. Average active is the average of difference between the of security in the actively managed portfolio and its in the benchmark portfolio. Allocation measures the investment manager s ability to ively allocate their portfolio s assets to various securities. Selection measures the investment manager s ability to select securities within a given segment relative to a benchmark. D.G. Khan Cement: The stock rallied on higher 1QFY15 earnings (in October) and benefitted from a lower oil price during the quarter. Furthermore, subsiding concerns about a price war and a delay in the planned expansion in the South supported performance Engro Corporation: The country s largest conglomerate with diverse interests in fertilizer, dairy, power generation, and petrochemicals, also contributed to relative returns as it benefitted from the lower oil price and positive developments in its fertilizer business Engro Fertilizer: The stock performed well as it was confirmed that the company would continue to receive dedicated gas flow. Since gas is the main feedstock used in the manufacturing of urea fertilizers, this is expected to improve margins significantly for the company. Our over position in Engro Fertilizer thus added to relative performance Ecopetrol: The fall in the oil price and the pressure this placed on the Peso impacted the stock negatively, and our under exposure added value to relative performance Robinsons Land: This Philippines-based real estate company involved in the development and operation of shopping malls, hotels and mixed-use properties. The stock performed well, supported by an increase in land prices, lower oil price and the country s market doing generally well 6

7 Negative Country Average active Allocation Selection Relative impact Petrovietnam Drilling & Well Services Vietnam 2.68 (0.72) (0.01) (0.72) Yanbu National Petrochemical Saudi Arabia 1.43 (0.55) 0.00 (0.55) Gulf Marine Services Plc United Arab Emirates 1.22 (0.41) 0.00 (0.41) Zenith Bank Plc Nigeria 1.05 (0.27) (0.01) (0.27) Grupo Financiero Galicia Argentina (1.07) (0.22) 0.00 (0.22) Source: HSBC Global Asset Management data from end of September 2014 to end of December Portfolio data is subject to change. Past performance is not indicative of future performance. The information provided should not be considered as a recommendation to purchase or sell a particular security or securities in the sectors, countries and regions shown above. There is no assurance that securities remain in the Fund s portfolio or that securities sold have not been repurchased. Average active is the average of difference between the of security in the actively managed portfolio and its in the benchmark portfolio. Allocation measures the investment manager s ability to ively allocate their portfolio s assets to various securities. Selection measures the investment manager s ability to select securities within a given segment relative to a benchmark. Petrovietnam Drilling & Well Services: Petrovietnam Drilling, which is Vietnam's biggest listed oilfield services provider, was the main detractor from returns. The stock s relatively high correlation with the oil price worked against it during the quarter Yanbu National Petrochemical: The stock suffered markedly as the oil price retreated sharply over the quarter. We sold this position in December due to a lack of confidence in the company, with its dividend coming under pressure Gulf Marine Services: This energy company suffered due to the deterioration in the oil price and our over exposure detracted from relative performance Zenith Bank: Nigerian equities, in general suffered over the quarter, negatively impacted by the falling oil price which put downward pressure on its currency. Our over exposure to Zenith Bank suffered in such an environment Grupo Financiero Galicia: We are not exposed to Grupo Financiero, which is a holding company active in banking (via Galicia), low income credit cards, consumer financing and insurance. Our under position detracted from relative performance as this stock returned positively during the quarter. We see no upside on fundamentals and have questions about the company s capital position 7

8 Country positioning (%) The tables below show the largest over and under country positions as of end of December Over Fund Reference index Active United Arab Emirates Pakistan Saudi Arabia Georgia Turkmenistan Under Fund Reference index Active Morocco (4.78) Colombia (3.69) Kenya (3.55) Qatar (1.95) Slovenia (2.20) Source: HSBC Global Asset Management data as of end of December Portfolio data is subject to change. The indicative index is a customized MSCI Frontier Emerging Markets Capped index until end of May 2014 and the customized MSCI Select Frontier & Emerging Markets Capped index thereafter. The information provided should not be considered as a recommendation to purchase or sell a particular security or securities in the sectors, countries and regions shown above. There is no assurance that securities remain in the Fund s portfolio or that securities sold have not been repurchased. Active is the difference between the of security in the actively managed portfolio and its in the benchmark portfolio. Our thematic exposures within the UAE changed to much less cyclical in mid-2014 but they remain diverse and we continue to maintain a large exposure to the country. As arguably the least oil-reliant economy in the region, we think the UAE can weather the current oil storm and we find valuations attractive. Pakistan remains our favored country with cheap valuations, a high dividend yield, an IMF deal in place, the government making progress on necessary reforms and now the added advantage of being an oil importer. The political protests of last year have given way to a more united front in the face of recent Taliban atrocities. We continue to believe that there are many well-run companies across many market sectors with good levels of disclosure, combined with a compelling political economy that has the potential for significant positive change over time. We reduced our large exposure to the off-index market of Saudi Arabia. The first reduction was made in the autumn of 2014, on a valuation spike following the announcement that the market be opening up to foreigners, and again more recently on the back of the drop in the oil price. Resilient budgetary spending should continue to support the consumer and banking sectors, where the strategy is still invested. We have exposure to two banks in Georgia and one energy company in Turkmenistan as we find value in these companies. We have exposure to one bank in Morocco. We remain under Colombia due to valuation but the recent weakness may persuade us to change our stance in future. Kenya has been a bright spot in Africa and continues to fair well but it is more than reflected in stock market valuations; the fund took profits in early 2014 and is under with just one holding. In Qatar, profits were taken on valuation grounds in the summer of 2014 after a very strong stock market run from early in We have no exposure to the small illiquid market of Slovenia. 8

9 Quarterly country performance attribution (%) The tables below show the major sector contributions and detractions from performance for the quarter. Positive Average active Allocation Selection Relative impact Pakistan Kuwait (1.18) Argentina (2.25) (0.19) Colombia (4.88) Kazakhstan (2.07) 0.31 (0.04) 0.26 Custodian and administration fees are not considered in the statement and will have a negative on the investment performance. The detailed actual price and requirements can be obtained from the bank s schedule of prices and services. Pakistan: We have been positive on Pakistan and our stock picking and over allocation to that market added the greatest value to relative performance. Over the quarter, Pakistan was the best performing frontier market. Our stock selection, particularly within the materials sector, helped relative returns. A common factor benefitting our key holdings was the lower oil price. Apart from the lower oil price, strong quarterly earnings and reduced concerns about a price war helped the rally in D.G. Khan Cement, where we are over. Our exposure to Engro Corporation, the country s largest conglomerate with diverse interests in fertilizer, dairy, power generation, also contributed to relative returns, benefitting from positive developments in its fertilizer business, Engro Fertilizer. Engro Fertilizer performed well as it was confirmed that the company would continue to receive dedicated gas flow. Since gas is the main feedstock used in the manufacturing of urea fertilizers, this is expected to improve margins significantly for the company. In addition to these three names which made the largest contribution to relative returns, exposure to Hub Power added value to relative performance. It was supported by strong 1QFY15 results mainly due to better efficiencies, higher generations and lower repair and maintenance costs. Another stock which helped relative performance was Bank Alfalah, benefitting from a downward interest rate cycle as the receding oil price reduced inflationary pressures. Colombia: Our under exposure to Colombian equities worked in the strategy s favor as the market declined by almost 23% in US dollar terms. This was mainly due to the fall in the oil price and the pressure this has placed on the currency. The lack of exposure to integrated oil company, Ecopetrol, contributed to relative performance as its shares fell by almost 45% in US dollar terms, driven primarily by falling oil prices. Kuwait: Over the quarter, stock selection in Kuwait aided relative performance. However, no individual holding contributed significantly to relative performance. Kazakhstan: Our under allocation to Kazakhstan worked in the Fund s favor as geo-political risks, stiffening global headwinds and weaker oil prices impacted that market negatively. Argentina: Good stock picking in Argentina also helped relative performance during the quarter. Over exposure to one of Argentina s largest banks, Banco Macro, made a positive impact on relative returns. The bank released strong 3Q14 results, reporting strong growth in its loan portfolio as commercial and consumer loans expanded during the period. Our under to YPF, an Argentine energy company also had a positive impact on relative performance as this name suffered primarily due to the negative sentiment generated by the falling oil price. 9

10 Quarterly country performance attribution (%) (continued) Negative Average active Allocation Selection Relative impact Saudi Arabia 6.91 (0.84) 0.00 (0.84) Vietnam (0.99) (0.90) Kenya (3.63) (0.42) 0.05 (0.37) Oman (1.37) 0.06 (0.33) (0.27) Georgia 3.18 (0.27) 0.00 (0.27) Source: HSBC Global Asset Management data from end of September 2014 to end of December The indicative index is MSCI Frontier Emerging Markets Capped Net Index. For illustrative purposes as the fund has no official benchmark. Past performance is not a reliable indicator for future performance. Custodian and administration fees are not considered in the statement and will have a negative on the investment performance. The detailed actual price and requirements can be obtained from the bank s schedule of prices and services. The information contained herein is provided for illustrative purposes only and neither constitutes investment advice nor a recommendation to buy or sell any specific securities within the countries shown. Saudi Arabia: Exposure to off-index company Yanbu National Petrochemical, which is involved in the manufacture of petrochemicals, was the key detractor from relative performance over the quarter. The stock suffered markedly, falling by about 34% in US dollar terms, as the oil price retreated sharply over the quarter. We sold this position in December due to a lack of confidence in the company, with its dividend coming under pressure. Apart from this holding, no other individual holding detracted significantly from relative performance. Vietnam: In Vietnam, our over position to the country s leading oilfield services provider, Petrovietnam Drilling & Well Services, had the greatest negative impact on relative performance. Its relatively high correlation with the oil price worked against it during the quarter. Kenya: Kenyan equities ended the quarter up by 1.75% in US dollar terms. Being a net importer of oil, the falling oil price worked in its favor. Our under allocation thus detracted from relative performance. Oman: No individual holding detracted significantly from relative performance. Exposure to Bank Muscat weakened relative performance as the bank disappointed slightly on its third quarter results. Exposure to Renaissance Services, which provides services to the oil and gas industry, had a modest impact on relative performance, due to the negative sentiment generated by the falling oil price. Georgia: We have exposure to two holdings in the off-index market of Georgia, namely Bank of Georgia and TBC Bank. Neither of these banks detracted significantly from relative performance over the quarter. Bank of Georgia experienced a decline as it announced a new share issue in December to fund its acquisitions. We believe both of these holdings are attractively valued and well positioned to capture growth, given their strong franchise, and robust capital position. Short-term investment outlook We remain upbeat about the prospects for the frontier markets asset class as the long-term growth story remains a source of support and we continue to identify high quality companies with reasonable valuations that have the ability to generate sustainable returns. In our view, local investors the prime driver of frontier flows seem to be have lost this perspective more recently and somewhat overreacted to the falling oil price, thereby driving flows out of the asset class and dampening returns. In our view, this offers a good entry point to capture the meaningful growth potential of these pre-emerging countries, as valuations remain attractive despite the positive returns generated by the asset class this year. Furthermore, from a portfolio positioning standpoint, frontier markets continue to serve as a useful diversification tool, with low correlations not only to other major asset classes but amongst the constituent countries themselves. This cross-country diversification can help reduce portfolio volatility. In the near-term, we expect uncertainty to continue around the oil price, but assuming it does find some stability and global growth responds positively to this, we expect to see markets recover with a rebound in investors confidence. Beyond the oil price issue, the first half of 2015 should see companies releasing their year-end results, which are expected to be good across most of the frontier world. Dividend payments, which retail investors like, particularly in the Middle East, where there are some great yields to be had which are US dollar pegged, are also expected. 10

11 Short-term investment outlook (continued) As of the end of December 2014, the fund was over to UAE, Pakistan, Saudi Arabia and Georgia and under to Morocco, Colombia and Kenya. Whilst sector ings are largely an outcome of our stock views, the current sector tilts relative to our reference index see the largest over positions in consumer discretionary and utilities with under positions in telecommunications, financials and energy. Regional outlook As of the end of December 2014 our regional positioning (%) was as follows: Region Portfolio Benchmark Relative Asia Eastern Europe (0.85) MENA (0.66) Sub Saharan Africa (SSA) (3.67) Latin America (5.74) Source: HSBC Global Asset Management data as of end of December The benchmark index is a customized MSCI Frontier Emerging Markets Capped index until end of May 2014 and the customized MSCI Select Frontier & Emerging Markets Capped index thereafter. The information contained herein is provided for illustrative purposes only and neither constitutes investment advice nor a recommendation to buy or sell any specific security within the regions shown. Portfolio is the percentage composition of a particular holding in a portfolio. Benchmark is the percentage composition of a particular holding in a benchmark. Relative is the difference between portfolio and benchmark. Asia: Pakistan remains our favored country with cheap valuations, a high dividend yield, an IMF deal in place, the government making progress on necessary reforms and now the added advantage of being an oil importer. The political protests of last year have given way to a more united front in the face of recent Taliban atrocities. We continue to believe that there are many well-run companies across many industry sectors with good levels of disclosure and a compelling political economy that in our view has the potential for significant positive change over time The Philippine economy continues to perform well and should get an extra lift from lower oil prices. Much of the stock market is expensive but over the past year the fund has steadily increased exposure to power companies on the back of expected sector reform and to less well researched real estate assets where we believe there is hidden value Valuations in Sri Lanka and Bangladesh still look unattractive in our view Eastern Europe: The exposure to Eastern Europe remains relatively small in absolute terms, the fund having avoided much of the region in the last few years due to concerns about the troubled Eurozone countries None of our country allocations amount for more than 3% of the Fund, the largest being Georgia followed by Romania and then Croatia. All of our stocks give exposure to domestic growth opportunities through the banking and consumer sectors We are not exposed to Ukraine and at this stage do not believe the on-going crisis with Russia to have an impact on Georgia and Estonia MENA: The Arabian Gulf markets were very volatile in 2014 with nine months of strong returns on improving fundamentals and the noise surrounding the MSCI upgrades (Qatar and UAE) followed by weakness due to the falling oil price. However, the Fund still has significant exposure here mainly due to attractive valuations and sustainable returns, and the added benefit of the markets' US dollar pegs and high yields Our thematic exposures within the UAE changed to much less cyclical in mid-2014 but they remain diverse and the ing large. As arguably the least oil-reliant economy in the region, we think the UAE can weather the current oil storm and we find valuations attractive In Qatar, profits were taken on valuation grounds in the summer of 2014 after a very strong stock market run from early in 2013 Our large exposure to the off-index market of Saudi Arabia has been cut; first, in the autumn of 2014, on a valuation spike post the announcement that it would be opening up to foreigners, and again more recently on the back of the drop in the oil price. Resilient budgetary spending should continue to support the consumer and banking sectors, where the fund is still invested We see only a few attractive growth opportunities in Kuwait, and find the liquidity risk and oil reliance of Bahrain and Oman excessive for most of the valuations on offer 11

12 In North Africa, where most countries are oil importers, we have added exposure to Morocco, as we believe the macro headwinds should abate somewhat. We have also added exposure to Egypt, where the political environment seems to have stabilized and the authorities have an opportunity to move forward on a range of reforms. We believe the current political environment should help drive capex and corporate earnings growth. We continue to have no exposure to Tunisia, Jordan and Lebanon due to either high valuations or low liquidity. The unfolding events in Iraq instigated by jihadist group ISIS have caused market volatility across the GCC and we continue to closely monitor the situation. We have reduced exposure to one company with meaningful assets in the country. Sub-Saharan Africa (SSA): The fund began cutting its SSA exposure 2 years ago and has been under ever since despite it being at the top of many investors' list of priorities. In Nigeria, the fund has its lowest exposure since inception despite adding to the banking sector on weakness in 2Q Unfortunately, since then the outlook for Nigeria has deteriorated with political in-fighting and party defections making the upcoming elections very difficult to predict and a falling oil price putting pressure on revenues and the currency. Kenya has been a bright spot in Africa and continues to fair well but it is more than reflected in stock market valuations; the fund took profits in early 2014 and is under with just one holding. Latin America: We remain under Colombia due to valuation but the recent weakness may persuade us to change our stance in the future; the fund has more exposure to Peru which is not particularly reliant on oil revenues so we expect it to fare better in the current environment. We initiated exposure to Argentina early in 2014 after a much-needed devaluation was pushed through by the new Central Bank governor. There were many headlines on debt negotiations throughout 2014 and, although no real progress has been made, the general elections, which are hoped to bring policy change, are now on the horizon. We took profits in our only holding in Panama in the summer of 2014, but are looking for new ideas there now. 12

13 Disclaimer The views, opinions and statements of financial market trends herein are based on current market conditions are those of HSBC Global Asset Management and are subject to change without notice. We believe the information provided here is reliable but should not be assumed to be accurate or complete. The views and strategies described may not be suitable for all investors. These views do not necessarily reflect the opinions of our affiliates and may differ by product or fund. Returns include the reinvestment of dividends and income. Performance for other share classes will vary. The performance above reflects any fee waivers that have been in during the applicable periods as well as any expense reimbursements that have periodically been made. Absent such waivers and reimbursements, returns would have been lower. Currently, contractual fee waivers are in from March 1, 2014 through March 1, The performance for the benchmark does not reflect the deduction of expenses associated with a mutual fund, such as investment management and fund accounting fees. The Fund s performance reflects the deduction of fees for these valueadded services. Investors cannot invest directly in a benchmark index. Indices are unmanaged and are not subject to fees and expenses typically associated with managed accounts or investment funds. Investments cannot be made directly in an index. The MSCI Frontier Emerging Markets Index (capped) is a capped version of the MSCI Frontier Emerging Markets Index. There is an initial cap of 25% for the combined of the 5 cross-over countries. There is an initial cap of 10% for any other country. The capped index is maintained and calculated by MSCI. The MSCI Select Frontier & Emerging Markets Net Index is a version of the MSCI Frontier Emerging Markets Index (capped) which also includes raises the initial cap of the 5 cross-over countries to 30% and includes Qatar and UAE. MSCI FM Index is a free float-adjusted market capitalization index that is designed to measure equity market performance of frontier markets. The index consists of 26 frontier market country indices. Contact us for a fund prospectus or download it from the website. Investors should carefully consider the investment objectives and risks as well as charges and expenses of the mutual fund before investing. The prospectus contains this and other information about the mutual fund. Read the prospectus carefully before investing. For more information please call the HSBC Funds at For Institutional clients or Advisors, please call Investment Considerations: There is no assurance that a portfolio will achieve its investment objective. 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