Commentary for August 2025
Market Overview
Global equities continue to grind higher, rising a further 0.5% in August. Markets in the US and the UK once again recorded new highs, advancing by 0.2% and 1.5%, respectively. The positive mood was amplified by a strong earnings season and expectations of a resumption of the interest rate cutting cycle in the US. Small-cap stocks finally showed signs of life with their strongest relative performance in nine months, surging 5%. This segment of the market is typically more interest rate sensitive and has significantly underperformed in recent years. Elsewhere, European markets rose 1.5%, while Asia closed 1% higher, driven by a 3% gain in China.
Data in the US remains noisy, which makes gauging the true direction of the economy a challenge. Second quarter GDP was revised upward to 3.3% from the initial 3% estimate, with business investment showing particular strength, reflecting the boom in AI-related spending. Yet consumer sentiment painted a different picture. The consumer confidence index dropped to 97.4 in August, but the expectations index fell further to 74.8. Historically, readings in the 70s and below signals a higher risk of recession. July’s employment data also confirmed that a slowdown is underway, with further downward revisions to the May and June figures, showing the weakest growth since 2011. Inflation held steady at 2.7%, raising hopes that the US Federal Reserve could cut rates more aggressively through the second half of the year, as President Trump has been demanding. Markets interpreted the combination of sticky but cooling inflation and softer employment as supportive of lower interest rates. The US central bank kept rates on hold in August, but Chairman Jay Powell’s Jackson Hole speech signalled a pivot toward growth concerns and a more accommodative stance ahead. This was confirmed in early September, as policymakers delivered the first cut of 2025, lowering interest rates by 0.25%. The bond market reacted decisively, with US Treasury yields moving sharply lower. The US dollar continued to weaken, falling to its lowest level in over three years.
The UK economy remains fragile. Growth for the three months to the end of July stood at a paltry 0.2%. The Bank of England lowered interest rates from 4.25% to 4%, as expected. However, a further tick up in inflation to 3.8% from 3.6% meant that market expectations for future rate cuts were scaled back for the second half of the year. Towards the end of the month, the return from the parliamentary summer recess saw attention turn to the forthcoming Autumn Budget, which has been delayed until Wednesday 26 November. Commentators appeared to engage in a race to publish the bleakest forecast, with the think tank NIESR leading with talk of a £50bn ‘black hole’. The result was that more domestically focused stocks sold off, with the small and mid-cap indices notably underperforming large-cap, more globally focused names. The market is telling the Government exactly what it thinks of the fiscal situation the country finds itself in. Government borrowing costs have spiked to 27-year highs as investors bet that Labour will need to borrow more as the economy slows and MPs clamour for more spending. As a result, government bonds sold off, with yields on the 10 year and 30 year bonds rising to 4.65% and 5.7%, respectively, the highest level since May 1998.
After a strong start to the year, European markets have stalled in recent months; the region has struggled to make new highs since May. Slower growth, downward earnings revisions and political uncertainty have created a headwind. France finds itself in need of a new Prime Minister once again, after the incumbent Francois Bayrou lost a vote of no confidence after just nine months, having failed to agree essential spending cuts. He succeeded Michel Barnier, who managed just four months. The odds are that Macron will not call an election, as his party would probably lose. A continued muddle through, characterised by political stalemate is therefore likely. Britain’s Deputy Prime Minister Angela Raynor also resigned after underpaying stamp duty on a second home – a breach of the ministerial code. Moreover, concerns have been raised about how much faith Keir Stamer has in Chancellor Rachel Reeves, after he hired new experts to help formulate policy. Neither government needs to face voters for a while, but both are in trouble as their policies have failed to stimulate growth, while deteriorating finances have prompted a run on long-term bonds.
Gold has remained one of the main beneficiaries of the excessive level of government deficits and outstanding debt in the West. The price surged by a further 5% to new highs and is on course for its strongest annual showing in more than three decades. The share price gains in the miners have now moved ahead of the gold price, after several years of lagging, along with the price of silver, which surged a further 8%. The US has just added silver to its list of critical minerals, underlying its investment case as both a precious metal and a strategic industrial material facing structural supply constraints going forward.
Looking Forward
Markets have enjoyed a powerful move higher so far this year and it would not be surprising to see a pullback at this point. However, the overall environment for risk assets remains positive, hence we would view any such weakness as a potential buying opportunity.
The US Federal Reserve has resumed its policy easing cycle, despite core inflation running a full percentage point above the official target. Leadership in many markets has started to switch to more recovery-orientated stocks in anticipation of a cyclical upswing. This is likely to extend to small and mid-cap stocks should this trend continue.
Lower interest rates are clearly good news for markets over the next 12 months. President Trump has made no secret of his desire for a significant reduction from current levels and is likely to use the opportunity to replace Jay Powell with a much more dovish alternative when his current term expires next May. The risk is that easing aggressively at this stage of the cycle could prove counterproductive, more likely to stoke inflation and a further sell-off in the bond market. The winners in this case would be commodities and precious metals, along with oil and mining companies.
As a result of the recent recovery, equity valuations in the US have returned to historically high levels and trade at a significant premium to multiples in other major markets. US companies are still the best in the world, but valuations arguably more than reflect this. History tells us that stocks trading at these valuations rarely deliver the returns needed to justify their price tags. A strategy based on buying undervalued assets has proved the best way to ensure superior returns over the long term and argues for a more globally balanced approach to asset allocation.
It is a welcome change to see the UK moving up the leader board this year. Despite a moribund economy and much gloom over the current direction of policy, UK plc is in much better shape. Listed companies are less reliant on the domestic economy, with over 70% of FTSE 100 revenues derived from overseas, falling to a still significant 50% for mid-cap stocks. Moreover, while there is much focus on the level of government debt to GDP, the corporate sector has reduced its debt ratio from 145% in 2011 to just 74% today.
Our Strategy
The opportunities for active long-term investors are expanding globally, supported by a broadening out of growth drivers away from excessive concentration on a handful of mega cap technology stocks in the US. Within equities, our preferred regions are the UK, Japan, Asia and emerging markets.
UK equities remain undervalued and under owned despite their recent strong performance. The market offers exposure to global earnings, solid balance sheets, a high yield and valuations that remain low by international standards, suggesting there is still value to be unlocked. This is supported by the level of take-over activity, which has continued to accelerate. The cheapest valuation opportunities exist further down the market capitalisation spectrum, where the small-cap discount is standing at a 25 year high.
Emerging markets are the best performing region this year and offer an attractive combination of historically undervalued valuations, an improving economic backdrop and stronger profits growth. Chinese equities are back in a bull market at last. Monetary and fiscal policies are as stimulative as they have ever been. The economy is also reaping the rewards of a highly productive workforce and large-scale investment in value-added sectors such as electric vehicles, engineering and increasingly AI.
While equities remain our preferred asset class, the prospect of lower rates means that bonds should outperform cash. From an income perspective, yields are now attractive in both absolute and real terms (relative to the level of inflation). Bonds also provide diversification in the case of slower growth but will not protect portfolios from the possibility that inflation remains higher for longer (except for index-linked bonds). Upside may also be capped by concerns over the sustainability of government debt, as policymakers lack the will to cut spending.
The current environment argues for broader diversification, including inflation hedges such as energy and commodities and geopolitical hedges like gold, in addition to recession hedges such as government bonds, alongside core holdings in equities. As well as reducing risk, incorporating additional asset classes allows us to capitalise on wider opportunities that exist outside of traditional equities and bonds.
We continue to view gold as essential portfolio insurance. We have held the view for some time that gold is resuming its role as the global reserve asset as a result of higher geopolitical risk, rising inflationary expectations and deteriorating fiscal trends. This is driving a powerful bull market, where multiple pockets of global capital, led by central banks, are diversifying away from dollar assets into gold as a safe monetary asset. For gold mining equities, current prices are translating into record profit margins and the highest growth rate of any sector in the broader equity market. Despite this, the sector currently trades at a reasonable multiple of 12X earnings.
Overall, we continue to manage investments in a manner that allows us to capture the upside in financial markets while also effectively controlling risk to dampen volatility and smooth the path of returns.
