Global Market Overview
The appetite for riskier assets was evident again in February as investors focused on the easing tensions between the US and China. Advances in global equity indices were not quite as strong as they had been in January, but every region recorded a positive result in local currency terms. Strength in sterling meant that returns from Japanese and Emerging Market indices were modestly negative for UK investors.
The MSCI World index rose 1.87% in sterling terms. There was less variation in returns than in January. The best performing market for sterling investors was again the FTSE 250 which advanced 2.74% whilst the FTSE 100 rose 2.29%. The FTSE World Europe ex UK index rose 2.07% and the S&P 500 2.00%. The TSE Topix index and MSCI Emerging Markets declined 0.80% and 0.88% respectively.
Economic growth in the US remains solid. Although the release of the fourth quarter GDP figures, which had been delayed by the government shutdown, showed that growth had slowed, the figure of 2.6% in the final quarter of 2018 was higher than expected and remains above trend. Household and corporate sentiment had been affected negatively by the shutdown but there were signs of an improvement in February. The latest Purchasing Managers’ Index (PMI) improved to 55.8, which points to a slower but still healthy, ongoing growth rate in the US economy of 2%. Employment data remained robust and US earnings remain stable with 70% of company earnings better than expected. Investor sentiment was also boosted by the US suspending the imposition of increased tariffs on $200 billion of Chinese goods that was due to come into force on 1st March. Meanwhile headline inflation fell to 1.6% year on year.
The economic data in Europe continues to be fairly weak. Fourth quarter GDP growth for the Eurozone was 0.2%. The German economy did not grow at all in the final three months of 2018 and it was confirmed that Italy has slipped into recession. The growth in France, however, was better than expected and Spain saw a growth rate of 0.7%. February’s flash composite PMI improved to 51.4 but the manufacturing component fell below 50, indicating a contraction in manufacturing activity. Consumer confidence surveys were more positive and car registrations are improving. The political landscape continues to be a cause of concern with the focus now on Spain after the prime minister announced snap elections having failed to secure support for a new budget. On a positive note, it was suggested that the European Central Bank could offer new liquidity instruments to assist the banks, through the use of targeted longer-term refinancing obligations (TLTROs). This, combined with the progress in US-China trade talks, helped lift sentiment towards Eurozone equities with banks and economically sensitive sectors such as industrials and materials faring well.
Data in the UK was mixed. Although the labour market and nominal wage growth remained strong, the economy slowed sharply in the final quarter of 2018 as Brexit uncertainty weighted on business sentiment. Real GDP growth fell from 0.6% in Q3 to 0.2% in Q4. For the year GDP growth grew by 1.4%, its weakest growth rate since 2013. This led the Bank of England to cuts its growth forecasts from 1.7% to 1.2% for 2019 and 1.7% to 1.5% in 2020. Parliament has yet to vote on the latest version of the Brexit deal but that there is no majority for leaving with no deal continues to be the overwhelming view with the result that sterling strengthen against both the dollar, the euro and the yen over the month.
Japan’s GDP growth rebounded in the fourth quarter, up 1.4% quarter on quarter annualised (up from -2.6% in the third quarter). However, given that the Q3 weakness was largely as a result of a series of natural disasters this was slightly lower than expected. Elsewhere statistics on industrial production and housing were also weaker with the latest manufacturing PMI falling to 48.5. Even though the corporate earnings season was generally interpreted negatively, share prices did not react as negatively as one might have expected suggesting that much of the bad news had already been discounted. The strength in the Japanese equity market can be attributed to easing trade tensions and consequently reduced fears about the extent of the global slowdown.
Economic activity in Emerging Markets is still generally weak although it is difficult to generalise across such different markets and returns across the region were mixed. Overall both Asia ex Japan indices and the MSCI Emerging Markets index made progress in local currency terms, driven in large part by the easing US-China trade tensions. The Chinese authorities continue to implement a range of monetary and fiscal policies designed to support growth. A sharp increase in credit growth in January suggests that these stimulus measures are having the desired effect and markets in Hong Kong, Taiwan and China generated strong returns. Chinese stocks were further buoyed by the announcement that MSCI would be increasing the weighting of China-listed shares in its benchmark indices. Elsewhere Indian stocks underperformed as geopolitical relations with Pakistan came under strain following deadly attacks on Indian soldiers in the disputed Kashmir territory. Those markets most sensitive to external funding including South Africa, Turkey and Indonesia lost ground and Brazil and Mexico also declined.
Government bond prices fell (yields rose) in February with sentiment and conditions favouring riskier assets. The 10-year Treasury yield remained broadly in a range between 2.6%-2.7%. UK gilt yields saw sharp rises on growing expectation that a “no-deal” Brexit would be avoided. The FTSE Actuaries UK Conventional Gilt All Stocks index declined 0.88%. Corporate bonds produced a positive return, outperforming government bonds.
The oil price rose 4.85%. Over one year it is now back in positive territory.
Performance of RPW Models over one month to 28th February 2019
All RPW models advanced over the month. The RPW Adventurous Model returned 2.18%, whilst the Cautious Model rose 0.30%.
Performance of RPW Models over one year to 28th February 2019
Over one year, the Moderately Cautious Model achieved the best return of all five models, advancing 0.88%. Over one year the Cautious Model has risen 0.81%. The Adventurous Model declined by 0.78% over the year.
Performance of RPW Models over three years to 28th February 2019
In the three years to 31st January 2019, the Cautious model has delivered a return of 11.85% (not including fees). This compares to a return of the ARC Sterling Cautious index of 8.68%. Over the same period the RPW Adventurous Model has returned 42.12% (not including fees). This compares to the ARC Sterling Equity Risk index return of 28.29%.
(Source: Financial Express Analytics, Total return, gross of fees, as at 28th February 2019).
Please note that these figures are unaudited and indicative. The performance of actual client portfolios may be different. The effect of fees will reduce the returns achieved.
Continuing its return to form, the top performing fund was Merian North American Equity which achieved a return of 3.61% outperforming its benchmark, the MSCI North American index (+2.11%) and the S&P 500 (+2.00%). Blackrock European Dynamic (+3.32%) and Baillie Gifford Pacific (+3.30%) also beat their respective benchmarks. It is pleasing to note that after a soft patch in the middle of 2018, the majority of funds which are the bedrock of our international exposure are now all ahead of their benchmark indices and peer groups over three years.
The worst performing funds were Schroder Tokyo (-1.53%) which suffered as a result of the yen’s weakness relative to sterling and Invesco UK Strategic (-1.47%) which continues to be disappointing.
In a recent web conference, the manager of Invesco UK Strategic, Mark Barnett explained that whilst he is not especially bullish on the UK economy, investors are pricing in a recession, which is unlikely to be as severe as feared given that Parliament seems determined to avoid a no-deal Brexit. In his view this represents a huge opportunity. He pointed out that the UK market as a whole is very cheap relative to its 20-year history with domestically focused sectors trading at historically wide discounts to their international peers. Over a third of the fund (36.6%) is invested in UK domestically exposed companies such as Next, Tesco, Aviva and Derwent London, where Mark sees particular value. Around 22.3% is invested in international growth opportunities such as BP, Royal Dutch Shell and EasyJet. A further 22.5% is invested in non-correlated financials such as Burford Capital, Randall & Quilter and Hiscox and 12.1% in other stock specific opportunities. Just 2% of the fund is now invested in unquoted companies. Much of the fund’s relative underperformance can be attributed to its exposure to domestic companies trading at depressed valuations. However, year to date other funds with a similar exposure have performed quite well. Attribution analysis obtained from Invesco shows that the top five relative detractors over the six months to the end of January include several bio-technology companies. Invesco write that “In the uncertain economic environment, the market has avoided early-stage and development companies such as [these], favouring the large-cap proven income generators of the FTSE 100”. Not owning Diageo and Rio Tinto has also affected performance. Whilst the fund’s performance continues to be a cause for concern we note that the exposure in clients’ portfolio does at least provide diversification. The other UK holdings include a FTSE 100 tracker as well as Man GLG Undervalued Assets which we wrote about last month and which has been generating good returns of 2.07% over February and 9.65% year to date.
It is a tricky time to be writing this update with the meaningful vote on Theresa May’s deal due to take place this evening. By this time next month, we will know whether or not Brexit has taken place or been postponed. Sterling has strengthened against the dollar by over 3% so far this year and the outperformance of the FTSE 250 vs the FTSE 100 (9.90% vs 7.04%) over the same period implies that investors are more optimistic about the outcome than they have been. However, whilst it is easy to get caught up on the political machinations here in the UK, the constituents of the UK stock market derive over 70% of their earnings from overseas and arguably what really drives risk appetite is a combination of global factors – fears of a recession, global trade, monetary policy, inflation and at a fundamental level corporate leverage and earnings. Furthermore, whilst economists and strategists are adept at explaining why markets have behaved in a certain way after the event, consistently being able accurately to forecast economic outcomes and how financial markets will react to them remains elusive. The dominant driver of global equity markets appears to be the actions and intentions of the two biggest economies, the US and China with regard to both trade and monetary policy and with both seemingly intent on loosening financial conditions for business and consumers, it is easier to argue for a positive environment for risk-taking. That said, with equities having rallied quite hard in January and to a lesser extent February, investors should not be surprised if markets take a pause for breath.
Investors should continue to maintain diversified portfolios with a blend of defensive and more risky investments. A disciplined approach to asset allocation and identifying good active managers who can navigate these conditions successfully remains of the utmost importance.
12th March 2019