Although stock markets lacked clear direction for much of October, there was a pickup in volatility and mergers & acquisitions. This includes the largest media merger in years with telecoms giant AT&T paying $85 billion for Time Warner.
Global equities, as measured by the MSCI All Countries World index, posted a loss of 0.7% over the month, although continued weakness in sterling translated this into a 4.6%gain for UK-based investors. The FTSE 100 was a notable exception to the weakness in equities, posting an 0.9% gain, led by large multinationals whose overseas revenues have benefited from sterling weakness. Meanwhile, the Barclays gilt index fell 4.1% as UK economic growth proved resilient in the third quarter and UK inflation picked up noticeably.
While the UK economy is proving stronger then many expected after Brexit, sterling’s fall combined with rising oil prices to push up consumer inflation, which rose to 1% in September from 0.6% in August.
Annualised growth in UK and US gross domestic product was a healthy 2.3% and 2.9%, respectively, over the third quarter, while corporate earnings season in the US was also off to a strong start at the time of writing. With roughly half of the companies in the S&P 500 having reported, about three-quarters have beaten expectations and earnings are up by around 2% from a year earlier. Notably, many large US banks saw income soar from bond trading as investors repositioned themselves in anticipation of higher interest rates and uncertainty over Brexit.
In a typical balanced portfolio, we remain modestly overweight equities based on a cautiously optimistic outlook for global markets and economic growth. Valuations on government bonds remain unattractive, and we have implemented a significant overweight exposure to alternatives, largely at the expense of government bonds.
This has substantially reduced our previously high cash weightings in client portfolios, from about 9% to 3% in a typical balanced portfolio. These strategies should have limited correlation to equity markets, providing diversification benefits while also offering higher potential returns than government bonds.
Developed and Emerging Equity Markets
Equity Markets Performance
Performance As of: 31-Oct-16 Current -1M -3M YTD 15 Developed Equity (MSCI) 1,297 -0.6 0.1 3.9 2.6 FTSE All Share 3,768 0.6 4.2 13.0 1.0 FTSE 100 6,954 1.0 4.6 15.3 -1.3 S&P 500 2,126 -1.8 -1.7 5.9 1.4 Nasdaq Composite 5,189 -2.3 0.8 4.7 7.0 DJ EuroStoxx 329 1.2 2.5 -1.6 11.1 Nikkei 225 17,425 5.9 6.0 -6.8 11 Hang Seng 22,935 -1.4 5.6 6.0 -3.9 Emerging Equity (MSCI) 48,817 0.6 3.9 12.3 -5.4 BRIC (MSCI) 533 0.7 6.8 13.0 -5.3 Source: Datastream Performance shown as % total return in local currency terms
Performance As of: 31-Oct-16 10-Year Yield* -1M -3M YTD 15 US Treasuries 1.61 -1.3 -2.4 1.9 -1.6 UK Gilts 0.76 -4.5 -3.9 8.1 -2.3 Eurozone Government Bonds -0.19 -1.4 -1.1 2.7 3.4 US Investment Grade -1.2 -2.1 4.7 -5.6 US High Yield -0.2 1.8 11.5 -10.1 Emerging Market -1.2 1.3 10.5 20.6 Source: Barclays indices; Datastream
*current yield on benchmark 10-year Treasury, gilt and bund respectively
Performance shown as % total return in local currency terms
Performance (%, dollar) As of: 31-Oct-16 Current -1M -3M YTD 15 Commodities (TR) 171.5 -0.5 0.8 8.3 -24.7 Brent Oil Price (Spot) 46.7 -3.0 12.7 28.2 -33.5 Gold Bullion (Spot) 1274 -3.6 -5.6 19.9 -10.5 Industrial Metals (TR) 208.7 1.3 2.2 14.5 -26.9 Source: Datastream
Inflation & Interest Rates Current Inflation (%) Interest Rate Forecasts (%) Rate Announcement Current Nov Dec '16 Next Date United States 0.8 0.50 0.50 0.75 14-Dec United Kingdom 0.6 0.25 0.25 0.25 03-Nov Eurozone 0.2 0.00 0.00 0.00 08-Dec Japan -0.5 -0.10 -0.10 -0.10 20-Dec
FUND STRATEGY TYPE DESCRIPTION Nomura Cross Asset Momentum Trend/momentum Applies computer models to systematically exploit trends across several asset classes AQR Style Premia Market neutral Systematically accesses the returns of proven investment styles across different asset classes BMO (F&C) Global Market Neutral Market neutral Systematically accesses the returns of proven investment styles across global equities JP Morgan Global Opportunities Global Macro Exploits inefficiencies across global markets using a diversified multi-strategy approach Euro (Stoxx) Dividend Futures Tracker Note Structural/opportunistic Uses futures contracts to access dividend income and persistent inefficiencies in the pricing of dividends in European equity markets *Some of these strategies may not be held in certain portfolios
Our outlook for global equities remains broadly positive, based partly on our view that robust US demand and spending will continue to support global growth and earnings. In the UK, the internationally-focused FTSE 100 has stayed buoyant following its post Brexit recovery as investors anticipate a boost to overseas revenues from sterling weakness.
We have taken advantage, though, of the recent strong run in global equities to take some profits and reduce our pro-equity position further. By early September, for example, the MSCI World index was up nearly 20% from its February low.
Within equities, we continue to favour Europe and Japan, given their relatively attractive valuations compared to other major markets. Both also have more encouraging profit outlooks, coupled in Europe with signs of recovering economic growth and company profitability.
Emerging market debt
While expectations for interest rates remain lower for longer across the major markets, we still see government bonds as generally expensive. The EU referendum result pushed aside any chance of UK rate rises in the near future, and we believe monetary policy is likely to remain loose for a long time. The US Federal Reserve, meanwhile, has indicated that a rate rise may be on the cards late in 2016, although the pace of further rises is likely to be slower than anticipated earlier in the year.
At the height of the sell-off in risk assets in February, investment-grade bonds (higher credit quality) – led by the bonds of financial institutions – were pricing in a global recession, which we still see as unlikely in the near future. At the time, we added to holdings in financial debt and investment-grade bonds in general. These positions have performed well, and continue to offer attractive additional yields relative to government bonds, providing more than adequate compensation, in our view, against the risk of default.
ALTERNATIVES EQUITY THEMES Commodities = Energy + Absolute Return + Technology + Property + Banks = Dividend Income +
We have maintained a neutral stance on oil prices, which continue to be volatile. We still see oversupply as a problem while demand is growing slowly.
UK commercial property took a major blow after the EU referendum, fuelled by fears of multinationals leaving the UK due to their access to EU markets being cut off. Some funds were forced to suspend redemptions temporarily and many marked their assets down, though most have now recovered much of their lost ground. While the sector faces some headwinds, we believe these fears are exaggerated and that UK property remains a desirable asset globally, and are holding on to our positions.
We continue to look out for bond-like alternative assets that have a low or negative correlation to equities and can mitigate the risk of large falls in equity markets. Some examples already in our portfolios are absolute return strategies, which have the potential to make money through most market environments, and strategies for gaining exposure to dividend income while minimising correlations with price moves in equities.