Commentary on August 2014
After a nervous start to the month markets focussed on two pints half-full; encouraging signs of stronger growth in the US including second quarter GDP growing at an annual rate of 4.2%, and hopes that the deteriorating economic profile in Europe would force the ECB to add further monetary stimulus to the markets.
Both bonds and equities reacted well to strong hints that the ECB were preparing to buy assets (bonds); Government bond yields fell further (causing prices to rise) and equities rose by between 1% and 6%. The US S&P 500 index closed above 2000 for the first time, a gain of 5% on the month.
In the UK the MPC’s forward guidance policy continued to puzzle. The Quarterly Inflation Report appeared to signal no change in interest rates until 2015, but subsequently minutes from the latest MPC meeting showed the first split vote in three years with two members voting for a rise in rates.
Russia, and to some extent Germany, continued to lag other markets due to the ongoing conflict in Ukraine.
Bond yields continued to fall across Europe as fears of deflation persisted. German 10-year bunds hit a new record low below 1% on expectations that the European Central Bank would announce its own version of Quantitative Easing (QE), possibly in early September.
We are happier to believe in the UK growth story than in most other economies. There’s a greater consistency of economic data pointing towards an expanding economy with, as yet, few signs of inflationary pressures. We expect this momentum to build going into the general election next May.
The UK equity market is hard to call; on the one hand even with the US hitting new highs the FTSE index is struggling to return to its May high. On the other hand although shares briefly closed below support at 6600 they rallied back above the line the following day. We still believe that the greater risk lies in a more meaningful correction and would look to use this opportunity to buy shares at the lower levels.
We remain cautious on valuation levels in the US; this market continues to hit new highs and stronger economic data is suggesting that perhaps the previous weaker growth numbers were weather-related. However, a lot of good news has already been priced in and there’s a lot of borrowed money pushing prices higher, which makes the market more vulnerable on a change in sentiment.
There’s a likelihood that an ECB stimulus programme pushes bond yields lower, but in our view yields are already too low to compensate for the risk of capital loss.
How are we currently positioned?
We remain under-weight fixed income funds, preferring the higher yield offered on commercial property and the lower volatility of absolute return funds.
We have continued to change the composition of our fixed interest content, reducing our strategic bond position on our lower-risk portfolios in favour of bonds that will benefit from rising interest rates.
In equities we prefer the larger companies with a consistent dividend-paying record to the smaller growth-related firms.
Our core Asian fund significantly out-performed the sector, falling by less than 1% against an index fall of 5.7%. Although the emerging market sector might suffer some turbulence as the US Federal Reserve brings its quantitative easing to an end, we believe that it still represents good value over the longer term.