March 2020 Market Report
During one-month period to 29th February 2020, major equity markets registered large falls, rising initially and then falling sharply, mainly on growing coronavirus concerns. The FTSE ALL-World Index dropped by 9.62% over the period. The VIX index rose sharply (+160%) to end the period at 46.22, a level reflecting elevated investor concern. Fixed interest product displayed mixed performances with core government bonds receiving some “safe haven” buying, while more speculative issues fell in price terms. The yen strengthened while the pound dropped a little, the latter moving on more adverse Brexit news. The Chinese Renminbi was relatively stable as was the local equity market on the perception that the virus was contained locally. Commodities displayed a significantly weaker trend, the exceptions being part of the PGM complex.
Aggregate world hard economic data continues to show 2020 expansion of below 3.0%, although forecasts of future growth continue to be reduced by the leading independent international organizations. The estimates of the economic damage caused by the coronavirus, vary enormously. Demand, and supply, disruptions could cut anything from 50 bp to 400bp from an already weaker global economic estimate. Related corporate profit warnings are rapidly increasing. Compared with other “shocks”, there is debate about the actual immediate effectiveness of monetary policy in easing the situation when companies and individuals can’t / won’t conduct their normal activities.
There appears to be a growing chorus of further longer-term action on the fiscal front e.g. infrastructure spending, as other instruments e.g. interest rates, may have limited potential from current levels. Fluctuating currencies continued to play an important part in asset allocation decisions, sterling/yen being a recent example, while some emerging market currencies have been exceptionally volatile e.g. Turkey. Movements in the $/Yuan are also taking on increasing significance.
European economic indicators continue to show very anaemic growth, even before corona virus adjustments, German 2019 GDP, for instance rising at just 0.6%, the lowest rate of growth since 2013. Political events have featured further signs of discontent in Germany and France (pension and other reforms). The backdrop for the current European Budget debate is far from encouraging.
US market watchers focussing on more domestic issues have been watching the race for the Democratic leadership (Super Tuesday March 3rd), while Trump’s impeachment issues have disappeared, for now. US economic data indicated a somewhat softer than expected end to the year with provisional 2019 growth of 2.3%. Corporate results/forward looking statements so far have been mixed and the corona-virus effect on both demand and global supply chains, is being increasingly discussed. Official interest rates have been reduced three times to a range of 1.5% to 1.75%, much as expected, and a “pause” was indicated by Fed Chairman Powell at recent meetings, including that held in the last week of January, although recent events (softer US data and growing corona-virus concerns) are likely to reactivate more dovish rhetoric and action.
In the Far East, China /US trade talks dominated the headlines for the first couple of weeks of January, but this was quickly followed by news of the corona virus emanating in China, and now affecting much of the region, especially South Korea at the time of writing..
Japanese annual economic growth slowed markedly in the fourth quarter of 2019, the autumn VAT increase, typhoons and coronavirus all contributing to the reduced activity. Recent political
appointees, plus the fundamentals mentioned above, indicate a continuation of the dovish economic stance.
The UK continued to report somewhat mixed economic data with stable developments on the labour front, more buoyant January retails sales but poor corporate investment, inflation higher than expected (1.9%), and public finances deteriorating again. Business and market attention, both domestic and international, is clearly focussed on ongoing BREXIT process under new Prime Minister, Boris Johnson, where at the time of writing, the UK and their EU counterparts are starting to discuss the thorny details of the UK’s departure. The Bank of England Governor has made frequent references to the unsettling effects of any unsatisfactory Brexit outcome, as have a growing number of business leaders and independent academic bodies. Political factors aside, economic and corporate figures will inevitably be distorted over coming months. GDP growth of around 1% for full year 2019 looks likely, with a similar projection for 2020.On 30th January, Mark Carney officially reduced the Bank’s estimate of annual GDP growth to 1.1% for the next three years.
Equities
Global Equities showed very large moves over February 2020, a month of two distinct halves. The FTSE ALL World Index registered a fall of 9.62% over February to a level of 338.41 and now down 8.65% since the year end. The UK broad and narrow market indices, both fell by over 9% during February, underperforming the sterling adjusted world index by over 7.5% since the beginning of the year. Ironically, Chinese equities were one of the few areas to show a positive return over February. The VIX, now at a value of 46.22, is at a level considerable above that prevailing in recent years though down on the extreme levels see at the time of the 2008/2009 market meltdown.
UK Sectors
A very mixed month for UK sectors with oil and mining bearing the brunt of the falls on global growth concerns while utilities were relatively stable and in fact are one of the few sectors still showing a year to date positive return.
Fixed Interest
Gilt prices rose 0.8% over the month, the 10-year UK yield standing at 0.44% currently. Other ten-year yields closed the month at US, 1.16%, Japan, -0.16%, and Germany, -0.61%. UK corporate bond prices fell over the month, as did more speculative and emerging market debt prices. Interestingly, emerging market debt now yields LESS than an ETF of UK high yielding shares See my recommendations in preference shares, convertibles, corporate bonds, floating rate bonds, speculative high yield etc. A list of my top thirty income ideas (many yielding around 7%) from over 10 different asset classes is also available to subscribers.
Foreign Exchange
FX moves during February featured a weaker pound (partly on re-emerging Brexit concerns) and a stronger Yen(safe haven?),the cross rate moving 3.6%.In sterling adjusted terms both the Nikkei and the S&P,the better performing major regions, are off about 6.5% year to date versus the FTSE 100 down 12.8%
Commodities
A generally poor month for commodities on corona virus, global growth concerns. Gold, silver and palladium bucked the trend, the latter now up over 40% so far this year! Have you checked under your car recently?
Looking Forward
Over the coming quarter, health concerns, geo-political events and Central Bank actions/statements meeting, will continue to dominate news headlines while the brunt of the corporate reporting season will also add stock specific catalysts, both positive and negative. Calls for more fiscal response on the part of governments opposed to limited Central Bank monetary fire power will intensify, in some cases allied to environmental issues.
US watchers will continue to speculate on the timing and number of further interest rate moves during the 2020/2021 period while longer term Federal debt dynamics, Iran ,corona virus effects, election debate and trade” war” winners/losers (a moving target) will increasingly affect sentiment. Corporate earnings growth will be subject to even greater analysis, amidst a growing list of obstacles and over 20% of US companies have already made coronavirus “adjustments”.
In Japan market sentiment may be calmer after recent political and economic events although international events e.g. exchange rates and tariff developments, will affect equity direction. More equity specific issues e.g share buy-backs, ETF developments, TOPIX constituent changes, should also be monitored.
There is increasing speculation that China may announce more even stimulative measures, as the coronavirus effect,though moderating now, struck an economy that was already weakening, and key $/Yuan exchange rate levels are being watched closely.
European investment mood will be tested by generally sluggish economic figures, corona virus arrival, and an increasingly unstable political backdrop, now encompassing France and Germany, Spain and Italy.
Hard economic data (especially final GDP, corporate investment, exports) and various sentiment/residential property indicators are expected to show that UK economic growth continues to be lack-lustre (1% ish) and recent coronavirus concerns have soon dampened any post Brexit/election enthusiasm. It is highly likely that near term quarterly figures (economic and corporate) will be distorted (both ways), and general asset price moves will be confused, in my view, by a mixture of currency development, political machinations, international perception and interest rate expectations.
In terms of current recommendations,
Depending on benchmark, and risk attitude, first considerations should be appropriate cash/hedging stance and the degree of asset diversification (asset class, individual investment and currency).
An increased weighting in absolute return (but watch costs, underlying holdings and history very carefully), alternative income and other vehicles may be warranted as equity/gilt returns will become increasingly lower and more volatile and holding greater than usual cash balances may also be appropriate, including some outside sterling. Both equity and fixed interest selection should be very focussed. Apart from global equity drivers e.g. Corona virus, slowing economic and corporate growth, tariff wars and limited monetary response levers, there are many localised events e.g. UK trade re-negotiation, US elections, European political uncertainty that could upset markets.
- I have kept the UK at an overweight position on valuation grounds and full details are available in the recent quarterly review. However, extra due diligence in stock/fund selection is strongly advised, due to ongoing health, macro-economic and political uncertainty. Sterling volatility should also be factored into the decision, making process. Be aware that global demand shocks could impact certain large FTSE sectors e.g corona virus, while domestic plays more be more correlated with Brexit statements.
- Within UK sectors, some of the traditionally defensive, and often high yielding sectors such as utilities have shown resilience during the recent market wobble and this could continue. Many financials are also showing confidence by dividend hikes and buy-backs etc. Oil and gas majors will be worth holding after the flat 2019 performance, remembering that the larger cap names such as Royal Dutch and BP will be better placed than some of the purer exploration plays in the event of a softer oil price. Indiscriminate selling for environmental/virus reasons does seem an overreaction, in my view. Small/mid- cap domestic stocks and funds received some post-election Brexit support.
- Continental European equities are preferred to those of USA, for reasons of valuation, and Central bank policy, although political developments, coronavirus and slowing economic growth need to be monitored closely. I suggest moving the European exposure to “neutral “from overweight after the 2019 outperformance. European investors may be advised to focus more on domestic, rather than export related themes. Look at underlying exposure of your funds carefully and remember that certain European and Japanese companies provide US exposure, without paying US prices.
- I have recently written on Japan, and I would continue to overweight this market within a diversified portfolio(remember FX as well as local market movement), despite the recent under-performance. Smaller cap/ domestic focussed funds may outperform broader index averages e.g. JP Morgan Japanese Smaller Companies and Legg Mason.
- Alternative fixed interest vehicles, which continue to perform relatively well, in total return terms, have attractions e.g. preference shares, convertibles, for balanced, cautious accounts and energy/ emerging/speculative grade for higher risk e.g. EnQuest,Eros. These remain my favoured plays within the fixed interest space. See recent note
- UK bank preference shares still look particularly attractive and could be considered as alternatives to the ordinary shares in some cases. Bank balance sheets are in much better shape and yields of 6%-7% are currently available on related issues while a yield of 9.1% p.a., paid quarterly, is my favoured more speculative idea.
- Alternative income and private equity names have exhibited their defensive characteristics and are still favoured as part of a balanced portfolio. Reference could also be made to selected renewable funds including recent issues. Selected infrastructure funds are also recommended for purchase especially now that the political risk has been reduced somewhat and that the theme is likely to be re-iterated at the time of the imminent UK Budget.
- Any new commitments to the commercial property sector should be more focussed on direct equities and investment trusts than unit trusts (see my recent note comparing open ended and closed ended funds), thus exploiting the discount and double discount features respectively as well as having liquidity and trading advantages. The sector is starting to see more support, and corporate activity from both domestic and international sources seems bound to increase.
- I suggest a very selective approach to emerging equities and would continue to avoid bonds. The current 5.44% yield on emerging market debt still seems mean to me, compared with 6.52% on a pooled UK equity ETF. Although the overall valuation for emerging market equities is relatively modest, there are large differences between individual countries. It is worth noting that several emerging economies in both Asia and Latin America showed first quarter 2019 GDP weakness even before the onset of any possible tariff/virus effects. A mixture of high growth/high valuation e.g. India, Vietnam and value e.g. Russia could yield rewards and there are signs of funds moving back to South Africa on political change. Turkish assets seem likely to remain highly volatile in the short term and much of South America is either in a crisis mode e.g. Venezuela, Argentina or embarking on new political era e.g. Mexico and Brazil (economic recovery?). As highlighted in the quarterly, Chinese index weightings are expected to increase quite significantly over coming years, and there are currently large inflows into this area following the price weakness of 2018. One additional factor to consider when benchmarking emerging markets is the large percentage now attributable to technology. A longer-term index argument is also being made in favour of Gulf States, although governance issues remain a concern.
Full quarter report available to clients/subscribers and suggested portfolio strategy/individual recommendations will be available soon. Ideas for a ten stock FTSE portfolio, model pooled fund portfolios (cautious, balanced adventurous, income), 30 stock income lists, defensive list, hedging ideas, and a list of shorter-term low risk/ high risk ideas can also be purchased, as well as bespoke portfolio construction/restructuring.
Holders of pooled funds should continue to switch the balance away from unit trusts to a mixture of investment trusts and ETF’s.I have written on this many times over recent years. The Woodford example and, in general, the conflicts between certain short-term fund flows and long term assets, will only increase in my view. I have regularly updated model portfolios comprising some direct investments, investment trusts and ETF’s, across different risk categories, for those interested.
Feel free to contact regarding any investment project.
Good luck with performance!
Ken Baksh Bsc,Fellow (UK Society of Investment Professionals)
kenbaksh@btopenworld.com
1st March 2020