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Ken Baksh – March Market & Investment Report

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 

Ken Baksh – Quarterly Investment Report Q1 2020

Investment Strategy /Asset Allocation-First Quarter 2020

Any reference to benchmark should be tailored to individual client preference. These could, for instance, be

1) Absolute return based.

2) Cash/ LIBOR/SONIA, or equivalent, based (0.70%).

3) Inflation based. (UK CPI 1.5% November).

4) Index based (FTSE 100, FTSE All-Share, MSCI, S&P etc.).

5) Peer group based (Private client index, Morningstar, IMA category etc.).

6)Theme based e.g. ESG.

7)Bespoke list…e.g. list of other funds held/monitored/local competitors.

8)Factor based.

The above list is not exhaustive.

Furthermore, it may be appropriate to apply differing benchmarks to differing risk categories, and or adopt internal and external benchmarks.

Further macro details and individual investment ideas, model portfolios for varying benchmarks and risk profiles are available on request. These can be in direct, OEIC, investment trust or ETF form or a combination. As ever, portfolio construction should take full account of risk, return and degree of asset correlation appropriate to the individual client. Other client assets/liabilities should also be considered.

Cash –Neutral, Higher than normal.

Where appropriate, diversify some sterling cash into major overseas currencies, especially after considering the ongoing BREXIT process. The US dollar should certainly feature amongst the alternative currencies.

UK Equities-Neutral/small overweight

Economy

After reporting 1.4% GDP growth for 2017, and a similar figure for 2018, growth in 2019 is also expected to be anaemic, with risks to the downside, at the time of writing. Most recent data showed third quarter GDP, showing a mere 0.3% expansion (1.0% annualised), the lowest annual rate of growth since 2010.More recent October and November PMI and retail sales data showed weaker than expected fourth quarter development, and BRC figures, released on 8th January 2009,show the value of retail sales falling 0.1% in 2019,the worst annual figure since 1995.. Well publicised reasons include a more uncertain domestic consumer environment, weaker business investment, slowing global trends and political uncertainty, all interrelated. There is no doubt that the “BREXIT” has and will continue to affect many areas of the economy in different ways. One relatively brighter area has been the relatively low unemployment situation (3.8% unemployment rate announced December 17th), although poor productivity remains a problem and the “quality” of the employment is open to debate.

The residential housing market is continuing to show slower year on year growth, especially in London and the South East, where many properties are now showing negative year on year price comparisons. The lower volume of activity and increased time to completion have been all too evident in the recent sector profit warnings and cautious guidance from estate agents, house builders, domestic construction companies. Commercial property has also been very sluggish, especially in the area of retail (see more detail below).

Forecasts for 2019 GDP growth span a range of 0.5% to 2.0% with an average of 1.4% (30 forecasts), with most forecaster agreeing that in the unlikely event of UK crashing out of the EU in 2020 (no or very hard deal), the country could experience a sizeable recession. It is highly likely that quarterly GDP figures will be heavily distorted by Brexit related factors.

At the mid-March “mini-budget” speech Chancellor Hammond also guided GDP forecasts towards about 1.5% and re-iterated caution over relaxing the fiscal stance despite the budget improvement referred to above. Hammond’s successor Sajid Javid, in the autumn Budget speech, laid out a more expansionary stance, no doubt strongly politically influenced! Recent poor monthly budget figures, to an extent Brexit related, surprised a few economists. A new Budget is expected on 11th March,2020

Inflation, currently 1.5% (November 2019), by the widely used CPI measure, appears to have stabilised and forecasts of around 2.4% over the next three years were made by the Bank of England, assuming an orderly Brexit departure.RPI,currently still used for a number of indexation purposes is currently running at 2.2% year on year.

The Monetary Policy Committee is currently leaning towards a more dovish mode, though wage growth and sterling could apply upward pressure to the inflation rate even though other Brexit related issues and the global interest rate trend point towards stable or lower rates.

The Conservatives decisively won the December 12th election, and it seems highly like that the Withdrawal Bill will pass, and that the country will leave Europe on January 31st, 2020.The long process of re-negotiating a trade deal, product by product, along with other issues such as financial services, fisheries etc will then begin.

Market

On a valuation basis, the UK equity market remains at a relatively “cheap level”, compared to its history and significant underperformance, versus world equities, since the Brexit vote in June 2016 continued right until the last quarter of2019. Corporate profits however, especially amongst the more international companies have continued to grow, as have dividends. The prospective PE multiple for 2020 is about 12.6 falling to an estimated 11.9 in 2021, with a dividend yield of 4.81%. (Source Morgan Stanley, December 2019). However, two notes of caution. The “E” of the PE ratio, at the time of writing, is subject to more than usual variation as company earnings are likely to be adjusted, both ways, following the BREXIT effect and related uncertainties. Income seekers should also pay extra attention to sustainability/growth potential rather than just absolute levels of dividends. Profit warnings are running at a much higher level (see recent EY note) and dividend reductions/cancellations are increasing.

On a technical market note it should be re-emphasised that the FTSE 100 has a relatively large oil/mining weighting and that approx 2/3 of the FTSE earnings derive from overseas. The table below summarises the main differences between the three main UK indices. FTSE 100 FTSE 250 FT All-Share
Financial 19.9 32.1 26.2
Consumer(goods and services) 22.4 18.1 25.9
Energy 14.9 12.2
Health 10.9 3 9.5
Materials 10.6 3.8 7.5
Industrial 10 18.4 12.1
Telco and Tech 5.3 8.7 3.8
Utilities and Property 4.5 13 2.8

Source: i-share,Lyxor.January 7th,2020.Leading sectors only

In a Morgan Stanley research note, it was estimated that 41%, 26% and 18% of FTSE 100 company sales were derived in Developed Europe, Asia-Pacific and North America respectively. The corresponding figures for the FTSE 250 were 67%, 10% and 14

At the time of writing I would recommend overweighting banks/insurance and rebuilding positions in utilities, telecoms, infrastructure etc following the decisive election result. Selectively some retail and property names may start to outperform. I would slowly rebalance towards more selective mid cap /small cap exposure after the recent outperformance of the larger more international FTSE 100 names.

These factors emphasise the need to be flexible and frequently check positioning on a see-through basis. This will be especially important as the BREXIT discussion moves from Withdrawal Bill to step-by-step trade renegotiation.

Overseas EquitiesNeutral

Expect increased currency volatility to continue during 2020

Japan- overweight

US- underweight

Europe ex UK- small overweight

Other –neutral

Economic

The global recovery is set to continue into 2020, although growth estimates have been reduced in recent quarters. As recently as October 3rd, PMI data for consumption and services for UK, USA and Germany all underperformed economist estimates with the latter two falling into contraction territory.

In July the IMF predicted the world economy would grow by 3.2% this year, significantly slower than its estimates at the start of 2019.While the Fund currently sees a rebound to 3.5% in 2020,it has warned that such a recovery was “precarious” since it was premised on stabilisation in emerging markets and progress on resolving trade disputes. More recently, on September 19th the OECD produced revised figures projecting world GDP growth of 2.9%, the weakest performance since the 2008-09 financial crisis.Finally,in January 2020,the World Bank produced a more gloomy forecast of just 2.4% global growth for 2019 followed by 2.5% in 2020,stressing that any easing of US-China trade tensions is unlikely to lead to a rapid recovery. The Bank did however foresee above average growth in some of the larger emerging nations, such as Turkey, Brazil,Mexico and Russia, which had already experienced sharp slowdowns.

As well as the fading effect of US fiscal incentives, weaker indications from several European, emerging, and Asian countries, including China, point to more sluggish economic development.

Core inflation is also developing at a slower than expected pace with most leading nations experiencing price increases well below Central Bank targets.

The two factors above, in combination with certain geo-political concerns, are behind the more dovish monetary statements/actions currently being adopted. There are also wider calls for more expansionary fiscal measures e.g. infrastructure spending.

Cross border mergers and acquisitions plummeted, on average, to their lowest level since 2013, though this disguised a 6% increase by US targets and falls of 25% and 16% respectively for Europe and Asia.

Major risks could include inappropriate Fed/Trump action e.g. further protectionism, Chinese growth/deflation/management, further commodity/forex price volatility, and reaction to many political developments ( Iran,Hong Kong, Venezuela, Libya, Ukraine, Russia, Turkey, Korea being current examples).

On a global level it is also becoming increasingly important to factor climate/change/environment into investment decisions

The IMF reiterated that rising protectionism and debt levels remained the biggest global risks.

United States

After 1.6% GDP progression in 2016 US economic growth recovered to 2.3% in 2017 with 2.9% for 2018 and a figure of 2.3% provisionally pencilled in for 2019.The Federal reserve itself expects growth of about 2.3% for full year 2019, highlighting strong job gains and buoyant consumer spending and corporate investment. Better than expected first quarter 2019 growth of 3.2% included a large element of inventory build, with more recent third quarter GDP figures showing growth of 1.9% annualised. The employment situation seems to be reasonably healthy, following some strike distortions, with a November unemployment rate of 3.5%, and hourly earnings growing at 3.1%.Figures just released from Mastercard showed retail sales during the critical November 1st to Christmas Eve period jumped 3.4% compared with the same period of 2018 (on-line 18.8%,physical stores 1.25). However, business investment, trade and certain manufacturing sectors are showing negligible progress.

Most recent inflation figures (core personal consumption expenditures) show November 2019 prices rising at 1.6%, still shy of the Fed’s 2% target.

The Federal Reserve raised short term interest rates in March ,June ,September and most recently on December 19st ,taking the target rate for the Federal Funds rate to 2.25%-2.5%.However recent shorter term economic data coupled with certain current geo-political uncertainties e.g. US/China,Brexit,Europe,South America have introduced a much more dovish tone to Fed thinking. At the August Fed meeting interest rates were cut by 25 basis points, and a further cut of 25bp was made on 18th September, taking the federal funds rate to a range of 1.75% to 2%.Slowing business fixed investment and exports were cited as the main areas of economic weakness, while consumer sentiment remained relatively strong, so far.A further cut of 0.25% was made in November, while the accompanying statement suggested a “pause” in interest rate movements, a sentiment re-iterated at the December 12th meeting .

Europe

European economic growth forecasts have shown a marked decline since mid-2018 levels and most forecasts for 2019 now fall in the 1.0% to 1.5% range, with the ECB itself looking for 1.2% (December 2019). During the last quarter of 2018, Italy contracted while Germany showed negligible progress and the situation seems to have deteriorated further during 2019, the IFO recently cutting GDP growth forecasts to 0.5% and 1.2% for 2019 and 2020 respectively. Going forward, global developments in the area of trade will be particularly important for the likes of Germany while a precarious political climate (Italy, Spain,Holland,Belgium) could be another source of investor uncertainty for the region. The pan-European composite PMI for December remained at 50.6, a level consistent with negligible growth. The breakdown showed a relatively strong services component but a slide within the manufacturing sector. For 2020 the ECB expects the eurozone economy to grow by 1.1%, more optimistic than a poll of 34 economists who forecast a range of zero to 1.5%, with an average below 1%.

The ECB lowered its inflation forecast to 1.2% for this year and 1% for next year at the September 2019 meeting, while the tentative 2022 forecast for 1.6% is still below the ECB target. December inflation figures, just released, show consumer prices rising at about 1.3%, higher than forecast.

Recent MEP election have continued to show an erosion of support for the traditional central parties, and while some of the more extreme political groups fared worse than expected, the Greens and Liberal Parties showed good gains. Volatile political developments continue to plague Germany, Italy and Spain amongst the larger countries.

Incoming ECB President Christine Lagarde will face early calls for measures to revive flagging economic growth, on top of the ECB monetary injection in September 2019 and further bond-buying. The subject of fiscal expansion, particularly by Germany is being widely discussed.

Japan

Japanese growth stalled in the first quarter of 2018 after eight consecutive quarters of improvement and then rebounded during summer months, before further softness due to natural disasters and a deteriorating trade situation. Current calendar 2019 economic forecasts are for about 1% annualised GDP growth, after a surprisingly strong first quarter and recently reported third quarter, but expectations of a somewhat weaker fourth quarter following the VAT rise. The Tankan Index for large manufacturer was also weaker than expected in December 2019, although the service component remained relatively strong.

The Yen 13.2 trillion package announced in early December 2019 to repair typhoon damage, upgrade infrastructure and invest in new technologies was one of the largest since the financial crisis of 2008-2009.

At recent meetings the BOJ pledged to maintain the current negative interest rates, yield curve management and asset purchase programmes, tweaking its forward guidance as recently as early November 2019.

Politics tilted in a pro-reform direction, after the October 2017 election landslide, which should help various economic and political initiatives. The political situation was strengthened further by the leadership victory late September 2018, which would make Shinzo Abe one of the longest serving Japanese PM’s since the job was created in 1885. The initiatives will include more focus on the quantitative actions, including higher care wages, pension reform, targeted infrastructure and some moves to tweaking the pacifist constitution. The re-appointment of Central Bank Governor Kuroda was helpful to the continuation of accommodative fiscal and monetary policy, a stance reinforced in the spring.

Inflation is still well below the official target (0.5% in November 2019) although oil price strength and early signs of wage and recent price growth are expected to accelerate the upward trend. Japan’s September jobless rate at 2.4%, is the lowest since 1994, and there are labour shortages in a growing list of sectors, including construction and elderly care. The parliament recently voted to allow more than 250000 foreign workers into the country on five-year visas, and with the improved electoral mandate, it is widely expected that the subjects of female participation and pension age changes will also be studied.

Monetary policy will remain dependant on inflation developments, and currently no major changes are expected to short or long-term interest rates until at least end-2019.At the recent BOJ meetings, the Board have voted to keep the benchmark short term interest rate at -0.1% although Kuroda hinted at further easing on September19th. In early October 2019, the long-awaited rise in VAT from 8% to 10% took place, although the impact was softened somewhat by cashback reward measures.

Asia excl- Japan

Efforts to boost domestic demand, either through monetary policy, banking reform and structural issues are bearing fruit in some areas, but are also currently hindered by currency volatility, high debt ratios, disinflation, politics etc. The spectre of a tariff “war” between USA and China, could of course, impinge adversely on some of the more open economies in the area and specialist zones e.g. Taiwanese semi-conductors. Other opportunities may also arise e.g. Vietnam.

Overall estimates for growth in the region have slipped over recent months, but the aggregate figure masks large individual country differences. For example, Vietnam is currently experiencing economic upgrades, partly as a result of the US/China tariff “war”.

At the National People’s Congress held in early March 2018, Chinese Premier Li Keqiang outlined an economic growth target of 6.5%, with a minimum target of 6.3% p.a over the 2018-2020 period, in additional to a lower fiscal deficit goal. At the conference there was more emphasis on quality of growth, pollution control and risk control, property stabilisation, liberalization of the financial system than numerical targets. Recent indicators however point to slower growth, with some estimates as low as 5%. At the time of writing Chinese moves to stabilise growth through a mixture of tax cuts, infrastructure spending and bank lending support, appear to be working, although the ongoing tariff discussions impose an air of huge uncertainty.

In India, much is still riding on the “Mondi” reform programme where long-standing concerns in the areas of infrastructure, bureaucracy and fiscal inconsistency need resolution.However,the recent election (May 2019), won by Narendra Modi with a landslide victory, gives the leader power to forge on with building a “New India”, and the surprise corporation tax cuts announced on September 20th give some reasons for optimism, although the religious “priorities” have to be monitored closely. Recent economic statistics point to a slowdown nearer 5% GDP growth than the 6% /7% of recent years.

Regional Equity Recommendations

Japan remains a favoured equity market, despite the global sterling adjusted outperformance in 2017 and 2018, though underperforming in 2019. Regarding the investment arithmetic, the prospective PE (13.9 falling to 12.89 in 2021 as at December 01,2019) is still lower than the world average and the price book ratio is near the lowest of all the major regions, at a level of 1.20. Corporate results for recent periods have been much as expected and further growth is expected over the 2020/2021 period. Analysts point to further scope for Return on Equity, currently just over 8.0%, to converge on the average for developed markets over coming years. On a technical note, Japanese institutions are undergoing a longer term bond/equity switch and the market tends to be under owned by overseas institutions. Regarding domestic demand, the BOJ and other buybacks amount represent a growing percentage of market cap on an annual basis while public and private pension funds are steadily increasing their equity weightings. Regarding the former, buybacks between January and November of 2019 are up 112% compared with the previous year, currently running at over $6 billion per month. Individual households hold approximately 50% of their financial assets in cash, extremely high by international standards, another source of equity demand. Finally, corporate governance (independent directors etc), buy backs, dividend hikes and current valuations on upgraded earnings are helping sentiment. About dividends, current low pay-out ratios (around 35%), give scope for above average income gains going forward. Currency strength/weakness is of course a double-edged sword regarding Japanese portfolio strategy. I recommend that some Japanese equity exposure, currently, be hedged back to sterling and or US dollar.

Europe (ex-UK) warrants a continued small overweight in my view.

With the current accommodative monetary policy, stable consumer sentiment and a more stable Euro, the market continues to deserve longer term attention. At corporate level, earnings are being helped by nominal sales growth, margin expansion, and lower tax and interest charges. There are many situations in exporters, capital goods, financials where equities appear good value on PE and Price/ Book considerations and offer reasonable dividend yields. However, at time of writing an escalation in the tariff “war” could have adverse effects on the margins and sales volumes of certain products e.g. German cars, luxury goods, and more than usual investor due diligence will be required. On the sectoral point for example it should also be remembered that the EuroStoxx 50 weighting in oil and mining is approximately half of that in the FTSE 100. On a cyclically adjusted price to earnings ratio (CAPE) often used by longer term investors the Eurozone trades at a considerable discount to the US market. The shorter-term PE ratio currently stands at about 14.3 for2020, dropping to 13.3 in 2021, with a prospective dividend yield of 3.7%. By historic comparison the market is fairly valued on a price earnings and price cash flow basis and good value on price/book and dividend yield considerations.

Asia (ex Japan) is currently dominated by China and related China plays such as Hong Kong and Taiwan in MSCI index terms. Over the longer term, the Chinese weighting could increase significantly, when more local shares may be included in the major index benchmarks.JP Morgan estimate that the Chinese A-share weighting could move from just under 1% in May 2018 to nearly 14% by 2025.This is in addition to the approx. 25% to 30% of the index already represented by mainstream Chinese stocks. As discussed elsewhere, the consensus is for a Chinese economic slowdown to around 5%-6% per year, but possible risks could emerge from several directions including excessive credit expansion, shadow banking, currency volatility, tariff escalation and geo-political tensions aggravated by President Trump. Equity investing as an overseas investor also faces hurdles in the shape of government control (including the stock market itself), currency policy, corporate governance issues and sometimes less than ideal accounting. A well-diversified portfolio could however include some longer-term exposure to the China region, directly or indirectly (Hong Kong, overseas plays, ETF, investment trusts etc.), but shorter-term volatility is expected. Amongst other countries, India remains an investor favourite, even though valuations are becoming quite full, and, like China, economic growth appears to be slowing faster than expected. Korea looks reasonable value, but the competitive situation should be monitored, and Australia, whose economy and currency are closely tied to the fortunes of the commodity sector, offers some interesting yield situations. Finally, Vietnam warrants attention as a high growth economy and possible beneficiary of any US/China tariff war. In aggregate the region has a prospective PE of just over 14.4 with a dividend yield of 3.0%

On equity valuation, US shares look slightly overbought on current metrics including shorter term price earnings ratio (18.3 times forward earnings-2020), price book ratio and yield, and longer-term Schiller PE look a little more stretched. Corporate share buybacks, one of the significant market support factors, over the 2010/2016 period, are slowing and household ownership of equities is high relative to Europe and Japan, for instance. However, equities are not priced in the bubble territory which occurred in 2000, multiples have retreated since early 2018 and sentiment indicators remain in neutral territory. Corporate earnings growth was upgraded following certain aspects of proposed Trump policy especially in corporate taxation, but dollar volatility, weak corporate investment, and overseas supply chain disruption should also be considered. If current tariff proposals come to fruition (a big IF), several US companies expect to be affected by disruptive volume and input pricing effects late. Apart from the trade figures it is important to understand the longer term impacts of intellectual property discussions, international on-line tax debate and specific company issues e.g Huawei.

There continue to be wide divergence between the economies of the emerging universe with, for example, Russia, Brazil and South Africa experiencing much slower growth, the latter also recently experiencing a credit downgrade and new political era, and many countries suffering from disproportionate commodity exposure (Russia), unstable/changing political situations (Venezuela, Turkey, Mexico, Brazil) and or/ high dollar debt levels. The changing US political regime clearly adds more uncertainties deriving from a volatile dollar, and selective protectionist policies. India is currently one of the rare outliers with minimal commodity or deflation worries but other issues that need addressing and hopes that the recently appointed Finance Minister continues to adopt the discipline imposed by her predecessor. However, on balance, developing economies which had been detracting from global growth for several quarters are now starting to stabilise.

Investors could consider some selective exposure to the region, which currently trades on a prospective 12.0 multiple on 2020 earnings, a considerable discount to other zones. Foreign Exchange could be an important issue from both currencies of investment and individual corporate effects. However, investors should also be aware the considerable risks that are plaguing the asset class, whether commodity pricing, debt, political change etc. In terms of industry sector, earnings are expected to be strongest in consumer discretionary, healthcare and information technology, although several analysts detect more “value” in the oversold financial sector. According to recent Morgan Stanley research, aggregate 2020/2021 emerging market earnings growth currently stands at a level of around 13% p.a. It should be noted that many emerging market companies are also rapidly increasing dividends, from a low level and there are some interesting pooled vehicles to exploit this. Morgan Stanley estimate dividend growth of 8.9% and 8.1% for the region over 2019and 2020 respectively. By contrast, developed markets are estimated to have dividend growth of approx. 6% p.a over the same periods. Despite the current volatility, Russia remains worthy of speculative attention on the basis of low valuation, stable government finances, well above average dividend yield, better commodity price trends, but clearly a higher risk/return play, while Vietnam is likely to remain an Asian favourite despite the rating and recent performance, and emerging Europe may receive more attention going forward. Weightings in China and India still seem appropriate and South Korea has also moved back to the attractive zone. South American politics are playing an increasing role in investor sentiment, e.g. Venezuela, Mexico and most recently, Brazil.

Fixed Interest

Government Conventional Fixed interest-The medium-term fundamental prospects for core government bond yields (UK, USA, Japan, and Germany) continue to depend primarily on inflation and Central bank policy outlooks. External “shocks” also introduce spikes in volatility from time to time and related hunt for perceived safe havens. Over the late summer period of 2019 worries over global growth and trade tensions pushed nearly $17 trillion of government debt into negative yields. However, since then, yields have risen sharply (price falls) taking approx. $6 trillion of the above into positive territory. The Japanese bond, for example rose above zero for the first time since March.

On the first point, current inflation, as measured by the year on year rates in USA, Continental Europe, Japan and several emerging markets has remained low and below several Central bank “targets”. Region Updated 10-year Govt yield Spread versus T-Bond
Germany 31/12/2019 -0.19 -2.11
Japan 31/12/2019 -0.02% -1.94
UK 31/12/2019 0.73% -1.19
USA 31/12/2019 1.92% 0.0

Other Fixed interest

It is forecast that the total returns from certain fixed interest outside the conventional core government bond space could yield relative outperformance, but allowance should be made for higher volatility liquidity, credit quality, dealing spreads etc. Some yield spreads still provide enough “cushion” versus conventional government bonds and may additionally have part equity drivers e.g. Preference shares, convertibles or be sector specific e.g. energy related.

The search for above average regular income continues, with several participants forced to move up the risk curve. A recent example was the large oversubscription for an Angolan bond issue

In general, a word of caution that using the ETF route for obtaining fixed interest exposure currently requires an extra level of due diligence regarding liquidity, spreads, degree of physical cover, tracking experience and of course full understanding of the underlying index.

Corporate Debt- Although many investment grade issues appear fully priced there may be opportunities in other grades if the risk/return/maturity/liquidity criteria suit. These may also be available in pooled form through ETF or OEIC or investment trusts. Selected US high yield (5.42% on 31/12/2019) may offer FX as well as bond spread and income gains, and it must not be forgotten that with corporate dynamics improving and a more favourable supply demand balance there is good scope for outperformance over the government sector.

ETF Yield p.a OCF Dividend payments Physical cover
UK corporates 2.44% 0.2% Quarterly Yes
US High yield 5.42% 0.5% Six monthly Yes
Emerging local 5.24% 0.5% Six monthly Yes

Emerging market Debt-higher risk but also potentially higher return but remember to analyse currency as well as income and capital. Also, available in ETF form, I-share SEML, holds over 200 securities with near 10% weightings in South African, Mexican,Thai, Brazilian, and Indonesian debt. Currently over 90% of the fund’s assets are rated A, BBB or BB and the fund yields 5.24%.Recent oversubscription for an Angolan government issue show continued “search for yield”

Preference Shares-Above average yields are still available, despite the large total return outperformance over the gilt sector over recent periods and remember the more favourable tax treatment for basic rate payers. Some of the UK bank issues look particularly interesting in this sector after recent/ongoing capital strengthening exercises and the results of the “stress tests”. Depending on risk appetite, annual yields around 5.5% to 6.1% are currently available on selected financial issues suitable for balanced accounts while, like corporate bonds, some higher yields can be found in more speculative issues.

Floating rate-provide an element of hedging against rate increases. Available in direct or investment trust structures and currently offering between 4.5% and 5.5% annual yield and priced at discount to assets. These instruments outperformed conventional government stocks during 2018 as short-term rates were increased, particularly in the USA, but have performed more in line with government stocks this year in total return terms.

Index Linked– These instruments continue to attract interest from both longer-term institutions with asset/liability issues and, more recently, from some shorter-term tactical funds. Linkers do offer some investment advantages such as low volatility(usually) and low correlation with several other asset classes and they are in relatively short supply.US investors are currently rebuilding holdings in the sector as the Fed weighs lifting the inflation target However, UK issues currently do not look particularly good value either domestically or by international comparison on most reasonable inflation assumptions or by comparison with other alternatives. The asset class suffered a shock recently following proposals to phase out/change RPI. In my view, there are other instruments that offer some degree of inflation protection/diversification at more reasonable price levels. The real yield on the UK FTSE All Index Linked Gilts is currently –1.83%

Zero-Coupons-Capital only, yields of over 3.9% p.a (annual equivalent) to November 2022, or 4.2% p.a. to November 2024 or 5.0% to November 2026 on recommended issues at time of writing. May suit event planning/higher income tax situations.

Convertibles-UK market relatively small and my favoured pooled vehicle has just been redeemed at near asset value. The sector is however worth monitoring, for the combination of a floor yield (in an era of very low competitive yielding products), with possible equity upside as well.

Corporate Bonds, UK order book-Selected issues may warrant attention. In the expanding London retail bond market, running yields between 4.0% and 5.0% on LSE quoted companies with between 4 and 7-year maturities are available on more stable underlying businesses, while much higher flat(e.g. 7%) and redemption yields apply to certain more speculative issues, especially in the energy area. A growing number of ultra-long issues are becoming available.

Property-Neutral

Following the historic decision on June 23,2016 to leave the EU, property markets, especially in London felt the aftershocks. Volume of activity and pricing were immediately affected and within days, property funds holding £15 billion of assets had closed the gate to redemptions. Over three years later, the markets have not settled, although some of the more drastic revisions and rumours have been softened. Amongst the main sectors, shopping centres are struggling with stalling consumer confidence and on-line competitors while the office sector, especially in London, is experiencing varying trends. The mergers recently announced between Hammerson and Intu,and Unibail/Westfield and recent Land Securities/British Land figures highlight the need to reduce costs in a troubled shopping centre sector. Interestingly, figures and statements from quoted company Segro PLC, by direct contrast, show the growth in logistics centres, warehousing as online shopping accelerates.

Over 2018, the MSCI IPD UK Index showed a total return of 7.5%, although this growth slowed to just 1% in the last quarter. Of the 7.5%,5.2% was attributable to income and included rental growth of 2.7%. By sub sector industrial values rose faster than retail values every single month. Over the first ten months of 2019 the Index has continued to show even slower total return. Income continues to be the positive factor as capital values decline across several categories, and Retail is still very poor, especially in London and the South-East

In the post BREXIT environment, investors in commercial property funds should be increasingly aware of “value adjustments” suddenly imposed on their unit holdings, large unproductive cash holdings, as well as perhaps a tightening of redemption procedures (see recent FCA papers), which is improving the relative attractiveness of closed end funds and direct equities. As ever however, watch location, management and balance sheets carefully! In major commercial property sectors,” tech” friendly features are increasingly demanded, while retailors juggle with the physical/online balance. In the specialist areas of student, logistics, medical, retirement accommodation and self-storage there is still good demand and in the medium term these sub-sectors are expected to become more “mainstream”. Many international investors have switched their attention away from UK towards Continental Europe, where rental levels, capital values and prospects are deemed more attractive. Remember also that property corporate bonds/preference shares may suit some client objectives.

Alternative Income / Other- Overweight

This “catch all” sector is taking on increasing significance during this current phase of volatile bond and equity performance and an expectation of lower returns, looking forward. It is noticeable that during the weaker equity periods, many renewable/private equity/infrastructure plays held their ground, and in some cases showed absolute returns. Funds which may fit the characteristic of better capital protection and above average yields and low correlation with other asset classes include

  • • Infrastructure, including recent issues in the renewable sector, offering income yields around 5%- 6% p.a. Corporate activity e.g. John Laing, is an additional positive factor.There appears to be a global move towards various infrastructure related projects and this topic will be revisited during the Uk Budget statement in a couple of months.
  • • By way of comparison, certain listed vehicles in the areas of private equity and specialised lending currently offer yields of 6%-8%, but careful due diligence and extra considerations of transparency, holding period and liquidity in differing market conditions should be considered.
  • • Certain liquid transparent structured products, although special client permission may be required, and full understanding of the maths and counterparty risk are essential. These can be useful for hedging e.g. infinite turbo puts/covered warrants against a fully invested equity portfolio.The currently relatively low VIX level makes put option buying an interesting strategy

GOOD LUCK IN 2020

Disclaimer All recommendations and comments are the opinion of writer. Investors should be cautious about all stock recommendations and should consider the source of any advice on stock selection. Various factors, including personal ownership, may influence or factor into a stock analysis or opinion. All investors are advised to conduct their own independent research into individual stocks and markets before making a purchase decision. In addition, investors are advised that past stock performance is not indicative of future price action. You should be aware of the risks involved in stock investing, and you use the material contained herein at your own risk The author may have historic or prospective positions in any securities mentioned in the report. The material is provided for information purpose only

Ken Baksh January 2020 Market Report

Independent Investment Research

During one-month period to 31st December 2019, major equity markets registered strong gains. The FTSE ALL-World Index rose by 2.18% over the period, up by 23.9% since the beginning of the year. The VIX index fell by 1.45% to end the period at 12.26, a rather “complacent” level by historic standards.  Most fixed interest products continued to fall, in price terms, during the month. Sterling strength and Yen weakness were the main currency moves, while   the Chinese Renminbi stayed reasonably stable versus the US dollar as “phase 1” of the trade talks continued. Commodities displayed a mixed price performance overall.

The European Central Bank saw Christine Lagarde,the new President, present at her first official meeting, and recent economic indicators signalled a stabilisation, although growth is still very anaemic. Political events have featured further signs of discontent in Germany (coalition split?) and France (pension and other reforms), renewed Spanish coalition concerns, and inevitable squabbling re the EU (ex-UK?) Budget.

US market watchers saw some “progress” with Phase 1 Chinese tariff negotiations, while certain European barriers were introduced! Federal Budget concerns, Iranian sanctions, Venezuela, North Korean tensions and Trump’s personal issues (impeachment?) were still very much in the news as the 2020 election draws closer. US economic data still indicates a solid consumer trend although relatively buoyant first quarter GDP growth figures did include a large element of inventory building and more recent official figures have been mixed. Corporate results/forward looking statements have taken on a more cautious tone, especially related to tariff developments (actual or rumoured). 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

In the Far East, China /US trade talks dominated the headlines, while official and anecdotal evidence point to a steadily weakening economy. Recent data releases pointed to 6.0% quarterly GDP growth with risks growing to the downside, although the move on 2nd January 2020 showed signs of continued financial support/concern. Hong Kong remains still very volatile. Japanese annual economic growth was downgraded slightly to 0.8%, mainly on a weaker trade performance, although 3rdquarter GDP, recently released, surprised to the upside. The recent Upper House election result confirmed the LDP current strong position while at the Bank of Japan meeting, the current easier fiscal stance was reconfirmed, although the scheduled October 1stVAT increase was applied.

The UK continued to report somewhat mixed economic data with stable  developments on the labour front but  poor corporate investment , volatile retail sales, inflation as expected, weak relative GDP figures and poor property sentiment, both residential (especially  London) and commercial (especially retail).Figures announced on 30th November  by the CBI show historic and prospective output falling by about 10%.Business and market attention, both domestic and international, is clearly focussed on ongoing BREXIT process under new Prime Minster ,Boris Johnson, where at the time of writing, the Withdrawal Bill has been passed, but the long process of renegotiating new trade arrangements has yet to start. Both the Chancellor and Bank of England Governor have 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.

 

Aggregate world hard economic data continues to show 2019 expansion of around 3.0%, although forecasts of future growth continue to be reduced by the leading independent international organizations. As well as slowing projections in the developed markets of USA, China and Europe, a number of developing economies are experiencing headwinds for a variety of reasons e.g. India and  much of Latin America There appears to be a growing chorus of further 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

 

Equities

Global Equities rose by 2.18% over December, the FTSE ALL World Index showing a gain of 23.9% since the year end. The UK broad and narrow market indices, both advanced by around 3% over the monthly period, but lagged world equities in sterling adjusted terms by about 6%, since the beginning of 2019. Along with the UK, Asia and Emerging Markets outperformed during the month, but lagged over the twelve-month period, while USA and Continental Europe showed above average gains for the year. The VIX index fell, reflecting a greater risk-taking mood to a level of 12.26, and down 51.77% since the beginning of the year.

 

UK Sectors

A mixed month for UK sectors with oil for example bouncing strongly in December but amongst the lagging markets over the full year, while telecoms were some of the weakest names in December.  Over the full year, industrial shares, pharmaceuticals and real estate showed the largest gains all over 20%, while telco’s, banks and oil companies were amongst the relative losers.

 

Fixed Interest

Gilt prices fell over the month, the 10-year UK yield standing at 0.73% currently.  Other ten-year yields closed the month at US, 1.92%, Japan, -0.02%, and Germany, -0.19%. Since June 2019, over $6 trillion of government debt has moved back into positive yield territory.  UK corporate bond prices also fell slightly over the month, while more speculative grades rose. Floating rate bonds rose while the favoured convertible bond was redeemed, as expected, after showing a year to date return of about 10%. 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 6%) from over 10 different asset classes is also available to subscribers.

 

Foreign Exchange

Sterling was again the main mover amongst the major currencies during December largely on political news, while the dollar weakened. Since the beginning of the year, sterling appreciated approximately 4% against both the US Dollar and the Euro. The dollar stayed reasonably stable versus the Chinese Renminbi as tariff discussions continued. As ever, FX decisions remain crucial in determining asset allocation strategy. As an example, largely on the back of the December UK election result, sterling adjusted FTSE outperformed the world index by about 3% in December.

 

Commodities

A mixed month for commodities on global growth concerns and supply shocks. The oil price advanced, and gold also rose, while coal and natural gas showed large price declines. Over the full year Brent Oil showed a respectable gain of over 20% but the largest gain amongst the major commodities was enjoyed by palladium up over 53%

 

Looking Forward

Over the coming quarter, geo-political events and Central Bank actions/statements meeting, will continue to dominate news headlines and market sentiment, in my view. Regarding corporate earnings/statements, it will be interesting to see if the recent “relief” factors of US/China truce, UK election, European and Japanese stabilisation, lead to a more optimistic tone. 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, impeachment progress, 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. 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 stimulative measures and key $/Yuan exchange rate levels are being watched closely. Europeaninvestment mood will be tested by generally sluggish economic figures and an increasingly unstable political backdrop, now encompassing France and Germany.

 

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 and it is too early to see if any post-election euphoria feeds into consumer sentiment. The election result has however had a more immediate effect on certain utilities, infrastructure project plans etc.  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. 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,Asian poitical “hotspots” that could upset many bourses, some still relatively close to recent record levels.

 

  • I have kept the UK at an overweight position on valuation grounds despite the recent post-election relief bounce. Full details are available in the recent quarterly review. However, extra due diligence in stock/fund selection is strongly advised, due to ongoing macro-economic and political uncertainty. Sterling volatility should also be factored into the decision, making process.
  • Within UK sectors, some of the traditionally defensive, and often high yielding sectors such as utilities and telecoms may bounce against a more “friendly “political backdrop. 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.Small cap domestic stocks are currently receiving post-election support.
  • Continental European equities are preferred to those of USA, for reasons of valuation, and Central bank policy, although political developments 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, despite the 2017 and 2018 outperformance and 2019 underperformance relative to world equities. Smaller cap/ domestic focussed funds may outperform broader index averages e.g. JP Morgan Japanese Smaller Companies and Legg Mason.FX will play an increasing role in the Japanese equity decision.
  • 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. 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 exhibited their defensive characteristics during 2018 and are still favoured as part of a balanced portfolio. Reference could also be made to the renewable funds (see my recent solar and wind power recommendations) which continue to outperform in total return terms. Selected infrastructure funds are also recommended for purchase especially now that the political risk has been reduced somewhat. New issues in this area e.g. Aquila and JPM are likely to move to larger premiums.
  • 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. However, in general I would not overweight the sector, as along with residential property, I expect further price stagnation especially in London offices and retail developments e.g. (Hammerson, Intu). Subscribers may read more on this subject in my latest quarterly review. One possible exception to the sentiment above is the growing attractiveness of certain assets to overseas buyers. The outlook for some specialist sub sectors e.g. health (PHP equity and bond still strongly recommended), logistics, student, multi-let etc and property outside London/South-East, however, is currently more favourable. Investors should also consider some continental European property plays e.g SERE.
  • I suggest a very selective approach to emerging equities and would continue to avoid bonds. 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 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 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.

Feel free to contact  regarding any investment project.

Good luck with performance!

Ken Baksh Bsc,Fellow (UK Society of Investment Professionals)

kenbaksh@btopenworld.com

 

2nd January 2020

Ken Baksh December 2019 Market Report

During one-month period to 30th November 2019, major equity markets registered gains. The FTSE ALL-World Index rose by 2.8% over the period, now up by 21.3% since the beginning of the year. The VIX index fell by 8% to end the period at 12.44, a rather “complacent” level by historic standards.  Most fixed interest products fell, in price terms, during the month. Sterling was stronger versus the Yen, but otherwise moves were small. The Chinese Renminbi stayed reasonably stable versus the US dollar as trade talks continued. Commodities displayed a mixed price performance overall.

The European Central Bank saw changes in leadership although the debates about reviving growth,environment,pan-European initiatives etc are expected to continue. At the time of writing Germany appears to be on the brink of a recession and calls for fiscal loosening are increasing. Political events have featured further signs of discontent in Germany(coalition split?) and France, renewed Spanish election speculation, and inevitable squabbling re the EU (ex-UK?) Budget. US market watchers continued to grapple with ongoing tariff discussions (China, and prospectively Europe), Federal Budget concerns, Iranian sanctions, Venezuela, North Korean meeting stalemate and Trump’s personal issues (impeachment?). US economic data has indicated a solid consumer trend although relatively buoyant first quarter GDP growth figures did include a large element of inventory building and more recent official figures have been mixed. Corporate results/forward looking statements have taken on a more cautious tone, especially related to tariff developments (actual or rumoured). 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 the recent meeting.  In the Far East, China flexed its muscles in response to Trump’s trade and other demands, but anecdotal evidence points to a steadily weakening economy. Recent data releases pointed to 6.0% quarterly GDP growth with risks growing to the downside. Hong Kong remains still very volatile. Japanese economic growth was downgraded slightly to 0.8%, mainly on a weaker trade performance. The recent Upper House election result confirmed the LDP current strong position while at the Bank of Japan meeting, the current easier fiscal stance was reconfirmed, although the scheduled October 1st VAT increase has been applied. 

The UK continued to report somewhat mixed economic data with stable  developments on the labour front but poor corporate investment , volatile retail sales, inflation a little higher than expected, weak relative GDP figures and deteriorating property sentiment, both residential (esp London) and commercial (especially retail). Figures announced just yesterday (30th November) by the CBI show historic and prospective output falling by about 10%.Business and market attention, both domestic and international, is clearly focussed on ongoing BREXIT deliberations under new Prime Minster, Boris Johnson. Both the Chancellor and Bank of England Governor have made frequent references to the unsettling effects of any unsatisfactory Brexit outcome, as have a growing number of business leaders and independent academic bodies. The actual situation remains very fluid, and at the time of writing, an election looms in less than a fortnight. Political factors aside, economic and corporate figures will inevitably be distorted over coming months, and it would not be a complete surprise if UK entered a technical recession soon. GDP growth of a mere 1% or less for full year 2020 looks very likely.

Aggregate world hard economic data continues to show 2019 expansion of around 3.0%, although forecasts of future growth continue to be reduced the leading independent international organizations. As well as slowing projections in the developed markets of USA, China and Europe, a number of developing economies are experiencing headwinds for a variety of reasons e.g. India and  much of Latin America There appears to be a growing chorus of further 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

Equities

Global Equities rose by 2.8% over November, the FTSE ALL World Index now showing a gain of 21.25% since the year end, albeit following the very weak last quarter of 2018. The UK broad and narrow market indices, both advanced by under 2% over the monthly period, lagging world equities in sterling adjusted terms by about 10%, since the beginning of 2019. Along with the UK, Asia and Emerging Markets lagged during the month while USA and Continental Europe showed above average gains. The VIX index fell, reflecting a greater risk-taking mood to a level of 12.44, and down 51.06% since the beginning of the year. 

UK Sectors

A mixed month for Uk sectors with some of the more traditionally “defensive” sectors such as pharmaceuticals, telecoms and utilities lagging while industrial, consumer and real estate stocks rose by over 4%.  Over the eleven -month period, industrial shares are showing an absolute gain of over 24% while the worst performing UK sectors, oil, banks and telcos are still in negative territory.

Fixed Interest

Gilt prices fell over the month, the 10-year UK yield standing at 0.56% currently.  Other ten-year yields closed the month at US, 1.75%, Japan, -0.14%, and Germany, -0.36%.  UK corporate bond prices also fell slightly over the month, and more speculative grades showed larger price falls. Floating rate bonds rose while the favoured convertible bond was redeemed, as expected, after showing a year to date return of about 10%. 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 6%) from over 10 different asset classes is also available to subscribers.

Foreign Exchange

Sterling was the main mover amongst the major currencies during November largely on political news. Since the beginning of the year, sterling has appreciated more than 5% against the Euro. As ever, FX decisions remain crucial in determining asset allocation strategy. See my recent note regarding various Japanese strategies.

Commodities

A mixed month for commodities on global growth concerns and supply shocks. The oil price advanced, while gold fell 2.5%, and industrial metals were a little firmer. Palladium advanced 2.52% taking its year to date gain to 44.3%

Looking Forward 

Over the coming months, geo-political events and Central Bank actions/statements meeting, will continue to dominate news headlines and market sentiment, in my view. In contrast to previous years I would expect December to be particularly “noisy” in market terms. To some extent, the slower economic growth forecasts that are appearing, will inevitably lead to some scale-back in corporate profit projections, although there may be offsetting fiscal and monetary effects. With growing numbers of government bond yields in negative territory, calls for more fiscal action will intensify.

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, 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. Additional discussions pertaining to North Korea, Russia, Hong Kong, Ukraine, Iran, and Trump’s own position(impeachment) could precipitate volatility in equities, commodities and currencies. 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. Economic data, has, pointed to sluggish growth, with persistently low inflation and a trade war with USA has been averted (for the time being).  There is increasing speculation that China may announce more stimulative measures and key $/Yuan exchange rate levels are being watched closely. European investment mood will be tested by generally weakening economic figures and an increasingly unstable political backdrop.

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 and any economic upgrade over current quarters appear extremely unlikely. The UK Treasury and the MPC have both produced rather negative economic medium-term projections, whatever the Brexit/political outcomes!  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. There could be scope for extreme sector/style/size volatility during the immediate Election period…providing risk….and opportunity.

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 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. slowing economic and corporate growth and limited monetary response levers, there are many localised events e.g. UK, election and US tariff discussions, political uncertainty, that could upset many bourses, some still relatively close to recent record levels.

  • I have kept the UK at an overweight position on valuation grounds. Full details are available in the recent quarterly review. However, extra due diligence in stock/fund selection is strongly advised, due to ongoing macro-economic and political uncertainty. Sterling volatility should also be factored into the decision, making process.  
  • Within UK sectors, some of the higher yielding defensive plays e.g.  Pharma, Telco’s and Utilities have attractions relative to certain cyclicals, though watch regulatory concerns, and many financials are showing confidence by dividend hikes and buy-backs etc. Oil and gas majors may be worth holding despite the outperformance to date. Remember 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. Differing electoral outcomes are likely to impact sectors,styles,size in many ways.
  • Continental European equities are preferred to those of USA, for reasons of valuation, and Central bank policy, although political developments and slowing economic growth need to be monitored closely. I suggest moving the European exposure to “neutral “from overweight. 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, despite the 2017 and 2018 outperformance relative to world equities. Smaller cap/ domestic focussed funds may outperform broader index averages e.g. JP Morgan Japanese Smaller Companies and Legg Mason.FX will play an increasing role in the Japanese equity decision.
  • 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 exhibited their defensive characteristics during 2018 and are still favoured as part of a balanced portfolio. Reference could also be made to the renewable funds (see my recent solar and wind power recommendations) which continue to outperform in total return terms. Selected infrastructure funds are also recommended for purchase but be aware of the political risk. New issues in this area e.g. Aquila and JPM are likely to move to larger premiums.
  • 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. However, in general I would not overweight the sector, as along with residential property, I expect further price stagnation especially in London offices and retail developments e.g. (Hammerson, Intu). Subscribers may read more on this subject in my latest quarterly review. One possible exception to the sentiment above is the growing attractiveness of certain assets to overseas buyers.   The outlook for some specialist sub sectors e.g. health (PHP equity and bond still strongly recommended), logistics, student, multi-let etc and property outside London/South-East, however, is currently more favourable. Investors should also consider some continental European property plays e.g SERE. 
  • I suggest a very selective approach to emerging equities and would continue to avoid bonds. 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 have shown first quarter 2019 GDP weakness even before the onset of any possible tariff 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. 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. 

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 December 2019

 

Ken Baksh October 2019 Market Report

During one-month period to 30th September 2019, major equity markets registered reasonable gains. The FTSE ALL-World Index rose by 2.25% over the period, now up by 14.71% since the beginning of the year. The VIX index fell by 10.3% to end the period at 16.55. Fixed interest products displayed a mixed performance with riskier products outperforming conventional government stocks. Sterling was stronger while the Yen dropped, and the Chinese Renminbi stabilised versus the US. Commodities displayed a mixed price performance overall.

The European Central Bank continues to err on the cautious side regarding economic projections, Mario Draghi following up on his promise of further easing measures at the recent ECB meeting. At the time of writing Germany appears to be on the brink of a recession and calls for fiscal loosening are increasing. Very recently, some indicators e.g. unemployment dropping to a multiyear low, have suggested a degree of stabilisation Political events have featured ECB appointments along with further signs of discontent in Germany and France, renewed Spanish election speculation, renewed Austrian grouping and further Italian coalition division. US market watchers continued to grapple with ongoing tariff discussions (China, and prospectively Europe), Federal Budget concerns, Iranian sanctions, Venezuela, North Korean meeting stalemate and Trump’s personal issues (impeachment?). US economic data has indicated a solid consumer trend although relatively buoyant first quarter GDP growth figures did include a large element of inventory building and more recent official figures have been mixed. Corporate results/forward looking statements have taken on a more cautious tone, especially related to tariff developments (actual or rumoured). Official interest rates were reduced 25bp on July 31st to a range of 2.0%-2.25% much as expected and a further 25 bp in September. The accompanying statement left the door open for further adjustment. In the Far East, China flexed its muscles in response to Trump’s trade and other demands and anecdotal evidence points to a weakening economy. Recent data releases pointed to 6.0% quarterly GDP growth with risks growing to the downside. Hong Kong still very volatile. Japanese economic growth was downgraded slightly to 0.8%, mainly on a weaker trade performance. The recent Upper House election result confirmed the LDP current strong position while at the Bank of Japan meeting, the current easier fiscal stance was reconfirmed, although the scheduled October 1st VAT increase has been applied. 

The UK continued to report somewhat mixed economic data with stable developments on the labour front but poor corporate investment , inflation a little higher than expected, weak relative GDP figures and deteriorating property sentiment, both residential (esp London) and commercial (especially retail). Business and market attention, both domestic and international, is clearly focussed on ongoing BREXIT deliberations under new Prime Minster, Boris Johnson. Both the Chancellor and Bank of England Governor have made frequent references to the unsettling effects of any unsatisfactory Brexit outcome, as have a growing number of business leaders and independent academic bodies. The actual situation remains very fluid, and many options are still possible at the time of writing, including a time extension, while there remains a non-zero probability of a “no-deal”. Economic and corporate figures will inevitably be distorted over coming months, and it would not be a complete surprise if UK entered a technical recession by the end of the third quarter. 

Aggregate world hard economic data continues to show 2019 expansion of around 3.0%, although forecasts of future growth continue to be reduced the leading independent international organizations. As well as slowing projections in the developed markets of USA, China and Europe, a number of developing economies are experiencing headwinds for a variety of reasons e.g. India and much of Latin America. There appears to be a growing chorus of further 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

Equities

Global Equities rose by 2.25% over September, the FTSE ALL World Index now showing a gain of 14.71% since the year end, albeit following the very weak last quarter of 2018. The UK broad and narrow market indices, both advanced by approx. 2.8% over the monthly period, lagging world equities in sterling adjusted terms by about 8%, since the beginning of 2019. Germany and Japan both showed the largest monthly moves rising by 4.1% and 5.1 % respectively while the NASDAQ, S&P and emerging markets lagged. The VIX index fell, reflecting a greater risk-taking mood to a level of 16.55 and down 34.89% since the beginning of the year. According to recent Morningstar figures, managed funds have delivered average performance of between 8% and 13% so far this year depending on risk category.

UK Sectors

Apart from oil and gas, an obvious beneficiary of the Arabian oil facility damage, there were further signs of moves to more defensive “value” stocks in the area of telco’s, utilities etc and financial sectors also enjoyed above average gains, while consumer stocks declined in absolute and relative terms.  Over the nine -month period, pharmaceuticals are showing an absolute gain of nearly 20% while the worst performing UK sectors, banks and telcos are still in negative territory.

Fixed Interest

Gilt prices rose marginally over the month, the 10-year UK yield standing at 0.39% currently.  Other ten-year yields closed the month at US, 1.66%, Japan, -0.28%, and Germany, -0.52%.  UK corporate bond prices fell slightly over the month, but more speculative grades showed yield declines/price gains. Floating rate bonds rose while the favoured convertible bond play advanced over 2.2%. See my recommendations in preference shares, convertibles, corporate bonds, floating rate bonds etc. A list of my top thirty income ideas (many yielding around 6%) from over 10 different asset classes is available.

Foreign Exchange

Sterling was the main mover amongst the major currencies during September advancing on speculation that a “no-deal” BREXIT could be averted by key October deadlines, while the yen fell in trade-weighted terms. Since the beginning of the year £/Yen has been one of the more volatile cross rates and illustrates the need for factoring the FX decision into the asset allocation process. See my note regarding various Japanese strategies.

Commodities

A mixed month for commodities on global growth concerns and supply shocks. The Brent oil price advanced  2.0% over the month, largely as a result of the drone strike, while gold fell a little, and palladium soared in price terms, now up over 31.5%  since the beginning of 2019.Soft commodities were generally firmer while iron ore jumped 8.6% after recent sharp falls.

Looking Forward 

Over the coming months, geo-political events and Central Bank actions/statements meeting, will continue to dominate news headlines and market sentiment, in my view. Third quarter earnings releases will also provide more colour and stock specific volatility.  To some extent, the slower economic growth forecasts that are appearing, will inevitably lead to some scale-back in corporate profit projections, although there may be offsetting fiscal and monetary effects. With growing numbers of government bond yields in negative territory, calls for more fiscal action will intensify.

US watchers will continue to speculate on the timing and number of further interest rate moves during the 2019/2020 period while longer term Federal debt dynamics, election debate and trade” war” winners/losers (a moving target) will affect sentiment. Corporate earnings growth will be subject to even greater analysis after a buoyant 2018, amidst a growing list of obstacles. Additional discussions pertaining to North Korea, Russia, Ukraine, Iran, and Trump’s own position(impeachment) could precipitate volatility in equities, commodities and currencies. 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. Economic data, has, if anything, been better than expected, a rare event now and a trade war with USA averted (for the time being).  There is increasing speculation that China may announce more stimulative measures and key $/Yuan exchange rate levels are being watched closely. European investment mood will be tested by generally weakening economic figures and an increasingly unstable political backdrop.

At the time of writing, options such as revised Brexit deal (Ireland changes), caretaker government and Withdrawal Extension, No-deal (legal gymnastics), Second Referendum and General Election (after extension) all have nonzero probabilities. All these possibilities inevitably point to further political mayhem although there may be some economic/business relief in certain cases.

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 and any economic upgrade over current quarters appear extremely unlikely. The UK Treasury and the MPC have both produced rather negative economic medium-term projections, whatever the Brexit outcome!  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, alternative income and other vehicles may be warranted as equity 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. slowing economic and corporate growth and limited monetary response levers, there are many localised events e.g. Brexit, US elections, tariff discussions, political uncertainty, that could upset many bourses, still relatively close to recent record levels.

  • I have kept the UK at an overweight position on valuation grounds. Full details are available in the recent quarterly review. However, extra due diligence in stock/fund selection is strongly advised, due to ongoing macro-economic and political uncertainty. Sterling volatility should also be factored into the decision, making process.  
  • Within UK sectors, some of the higher yielding defensive plays e.g.  Pharma, Telco’s and Utilities have attractions relative to certain cyclicals, though watch regulatory concerns, and many financials are showing confidence by dividend hikes and buy-backs etc. Oil and gas majors may be worth holding despite the outperformance to date. Remember 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. Mining stocks remain a hold, in my view (see my recent note for favoured large cap pooled play). Corporate activity, already apparent in the engineering (GKN), property (Hammerson, Intu), pharmaceutical (Glaxo, Shire?), packaging (Smurfit), retail (Sainsbury/Asda), leisure (Whitbread, Greene King), media (Sky), mining (Randgold) is likely to increase in my view, although the Government has recently been expressing concern about overseas take-overs in certain strategic areas.
  • Continental European equities are preferred to those of USA, for reasons of valuation, and Central bank policy, although political developments and slowing economic growth need to be monitored closely. I suggest moving the European exposure to “neutral “from overweight. 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, despite the 2017 and 2018 outperformance relative to world equities. Smaller cap/ domestic focussed funds may outperform broader index averages e.g. JP Morgan Japanese Smaller Companies and Legg Mason.FX will play an increasing role in the Japanese equity decision.
  • 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 exhibited their defensive characteristics during 2018 and are still favoured as part of a balanced portfolio. Reference could also be made to the renewable funds (see my recent solar and wind power recommendations). Both stocks registered positive capital returns over 2018 on top of income payments of approx. 5%. And are still strongly recommended as is the new issue. Selected infrastructure funds are also recommended for purchase but be aware of the political risk. New issues in this area e.g. Aquila and JPM are likely to move to larger premiums.
  • 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. However, in general I would not overweight the sector, as along with residential property, I expect further price stagnation especially in London offices and retail developments e.g. (Hammerson, Intu). Subscribers may read more on this subject in my latest quarterly review. One possible exception to the sentiment above is the growing attractiveness of certain assets to overseas buyers.   The outlook for some specialist sub sectors e.g. health (PHP equity and bond still strongly recommended), logistics, student, multi-let etc and property outside London/South-East, however, is currently more favourable. Investors should also consider some continental European property plays e.g SERE. 
  • I suggest a very selective approach to emerging equities and would continue to avoid bonds. 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 have shown first quarter 2019 GDP weakness even before the onset of any possible tariff 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. 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. 

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 October 2019

 

 

 

    

 

 

Ken Baksh September 2019 Market Report

During one-month period to 31st August 2019, major equity markets registered quite sharp falls. The FTSE ALL-World Index dropped by 3.62% over the period, though still up by 12.2% since the beginning of the year. The VIX index rose sharply by 34.8% to end the period at 18.45. Fixed interest products mostly rose in price terms leaving significant amounts of global government debt (approx. $17 trillion) on negative yields. Sterling was slightly weaker but the main monthly FX movers were in the Asian area. Precious metals rose in price terms while iron ore suffered a sharp decline.

The European Central Bank continues to err on the cautious side regarding economic projections, Mario Draghi giving strong hints of further help at the end July ECB meeting. At the time of writing Germany appears to be on the brink of a recession and calls for fiscal loosening are increasing. Political events have featured ECB appointments along with further signs of discontent in Germany and France, renewed Spanish election speculation and further Italian coalition division. US market watchers continued to grapple with ongoing tariff discussions (China, Mexico -and prospectively Europe,Japan), Federal Budget concerns, Iranian sanctions, Venezuela, North Korean meeting stalemate and Trump’s personal issues (Mueller, etc). US economic data has indicated a solid consumer trend although relatively buoyant first quarter GDP growth figures did include a large element of inventory building. Corporate results/forward looking statements have taken on a more cautious tone, especially related to tariff developments (actual or rumoured). Official interest rates were reduced 25bp on July 31st to a range of 2.0%-2.25% much as expected, and the accompanying statement left the door open for further adjustment.  In the Far East, China flexed its muscles in response to Trump’s trade and other demands. Recent data releases pointed to 6.2% quarterly GDP growth, in line with lower expectations and featuring a relatively strong consumer contribution. Japanese economic growth was downgraded slightly to 0.8%, mainly on a weaker trade performance. The recent Upper House election result confirmed the LDP current strong position while at the Bank of Japan meeting, the current easier fiscal stance was reconfirmed. The VAT change, yet not confirmed, and further QE measures in line with major trading partners are being hotly debated. Relations between Japan and South Korea deteriorated.

 

The UK continued to report somewhat mixed economic data with stable  developments on the government borrowing side, poor corporate investment , inflation a little higher than expected, weak relative GDP figures and deteriorating property sentiment, both residential (esp London) and commercial (especially retail).Business and market attention, both domestic and international, is clearly focussed on ongoing BREXIT deliberations under new Prime Minster ,Boris Johnson. Both the Chancellor and Bank of England Governor have made frequent references to the unsettling effects of any unsatisfactory Brexit outcome, as have a growing number of business leaders and independent academic bodies. The actual situation remains very fluid, and many options are still possible at the time of writing, including a time extension, while there remains a non-zero probability of a “no-deal”.  Economic and corporate figures will inevitably be distorted over coming months, and it would not be a complete surprise if Uk entered a technical recession by the end of the third quarter. 

 

Aggregate world hard economic data continues to show 2019 expansion of around 3.0%, although forecasts of future growth continue to be reduced the leading independent international organizations. There appears to be a growing chorus of further 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, volatile sterling 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

 

Equities

Global Equities fell 3.62% over August, the FTSE ALL World Index now showing a gain of 12.2% since the year end, albeit following the very weak last quarter of 2018. The UK broad and narrow market indices, both fell by 4% to5% over the period, lagging world equities in both local and sterling adjusted terms by about 5% and 10% respectively, since the beginning of 2019. Asia, excluding Japan, and Emerging Markets showed the largest monthly falls. The VIX index rose a hefty 34.8% to a level of 18.45, but still down 27.4% down 46.1% since the beginning of the year. 

 

UK Sectors

Sector moves over August 2019 reflected relative outperformance by traditional defensive stocks in the areas of pharmaceuticals, telecoms and utilities, while oil and gas, mining and life stocks featured some double-digit price declines. Over the eight -month period, pharmaceuticals are showing an absolute gain of 19.4% while the worst performing UK sector, banking, is nursing a loss of 7.8%

 Fixed Interest

Gilt prices rose 3.05% over the month, the 10-year UK yield standing at 0.32% currently.  Other ten-year yields closed the month at US, 1.5%, Japan, -0.32%, and Germany, -0.52%.  UK corporate bonds rose by over 1.7% in price terms ending August on a yield of approximately 2.42%. Amongst the more speculative grades, there were small yield falls for US High Yield although emerging market bonds fell in price terms. Floating rate bonds remained unchanged while the favoured convertible bond play gave up some of July’s sharp gain.  See my recommendations in preference shares, convertibles, corporate bonds, floating rate bonds etc. A list of my top thirty income ideas (many yielding around 6%) from over 10 different asset classes is available.

 

Foreign Exchange

The Japanese Yen was one of the main features during August, rising against all major currencies largely for perceived safe haven reasons. The Chinese Renminbi fell by nearly 4% against the US Dollar, the biggest monthly slide in 25 years.

 

Commodities

A generally weaker period for most commodities on global growth concerns, although gold and some other precious metals rose. Iron ore was a particularly weak feature dropping over 27% during the month.

 

Looking Forward 

Over the coming months, geo-political events and Central Bank actions/statements meeting, will continue to dominate news headlines and market sentiment, in my view. To some extent, the slower economic growth forecasts that are appearing, will inevitably lead to some scale-back in corporate profit projections, although there may be offsetting fiscal and monetary effects. With growing numbers of government bond yields in negative territory, calls for more fiscal action will intensify.

 

 US watchers will continue to speculate on the timing and number of further interest rate moves during the 2019/2020 period while longer term Federal debt dynamics, election debate and trade” war” winners/losers (a moving target) will affect sentiment. Corporate earnings growth will be subject to even greater analysis after a buoyant 2018, amidst a growing list of obstacles. Additional discussions pertaining to North Korea, Russia, Ukraine, Iran, and Trump’s own position could precipitate volatility in equities, commodities and currencies. 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. Economic data,has,if anything, been better than expected, a rare event at the moment!  There is increasing speculation that China may announce more stimulative measures and key $/Yuan exchange rate levels are being watched closely. European investment mood will be tested by generally weakening economic figures and an increasingly unstable political backdrop

 

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 and any economic upgrade over current quarters appear extremely unlikely. The UK Treasury and the MPC have both produced rather negative economic medium-term projections, whatever the Brexit outcome!  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, alternative income and other vehicles may be warranted as equity 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. slowing economic and corporate growth and limited monetary response levers, there are many localised events e.g. Brexit, US elections, tariff discussions, political uncertainty, that could upset many bourses, still relatively close to recent record levels.

 

 

  • I have kept the UK at an overweight position on valuation grounds. Full details are available in the recent quarterly review. However, extra due diligence in stock/fund selection is strongly advised, due to ongoing macro-economic and political uncertainty. Sterling volatility should also be factored into the decision, making process.  
  • Within UK sectors, some of the higher yielding defensive plays e.g.  Pharma, Telco’s and Utilities have attractions relative to certain cyclicals, though watch regulatory concerns, and many financials are showing confidence by dividend hikes and buy-backs etc. Oil and gas majors may be worth holding despite the outperformance to date. Remember 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. Mining stocks remain a hold, in my view (see my recent note for favoured large cap pooled play). Corporate activity, already apparent in the engineering (GKN), property (Hammerson,Intu), pharmaceutical (Glaxo, Shire?), packaging (Smurfit), retail (Sainsbury/Asda), leisure (Whitbread,Greene King), media (Sky), mining (Randgold) is likely to increase in my view, although the Government has recently been expressing concern about overseas take-overs in certain strategic areas.

 

  • Continental European equities are preferred to those of USA, for reasons of valuation, and Central bank policy, although political developments and slowing economic growth need to be monitored closely. I suggest moving the European exposure to “neutral “from overweight. 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, despite the 2017 and 2018 outperformance relative to world equities. Smaller cap/ domestic focussed funds may outperform broader index averages e.g. JP Morgan Japanese Smaller Companies and Legg Mason.FX will play an increasing role in the Japanese equity decision.
  • 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 exhibited their defensive characteristics during 2018 and are still favoured as part of a balanced portfolio. Reference could also be made to the renewable funds (see my recent solar and wind power recommendations). Both stocks registered positive capital returns over 2018 on top of income payments of approx. 5%. And are still strongly recommended as is the new issue. Selected infrastructure funds are also recommended for purchase but be aware of the political risk. New issues in this area e.g. Aquila and JPM are likely to move to premiums.
  • 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. However, in general I would not overweight the sector, as along with residential property, I expect further price stagnation especially in London offices and retail developments e.g. (Hammerson, Intu). Subscribers may read more on this subject in my latest quarterly review. One possible exception to the sentiment above is the growing attractiveness of certain assets to overseas buyers.   The outlook for some specialist sub sectors e.g. health (PHP equity and bond still strongly recommended), logistics, student, multi-let etc and property outside London/South-East, however, is currently more favourable. Investors should also consider some continental European property plays e.g SERE. 
  • I suggest a very selective approach to emerging equities and would continue to avoid bonds. Although the overall valuation for emerging market equities is relatively modest, there are large differences between individual countries. It is worth noting that a number of emerging economies in both Asia and Latin America have shown first quarter 2019 GDP weakness even before the onset of any possible tariff 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. 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. 

Feel free to contact    regarding any investment project.

 

Good luck with performance! 

 

Ken Baksh Bsc,Fellow (UK Society of Investment Professionals)

kenbaksh@btopenworld.com

 

2nd September 2019

 

 

 

    

 

 

Ken Baksh Investment Strategy / Asset Allocation-Third Quarter 2019 

Any reference to benchmark should be tailored to individual client preference. These could, for instance, be 

  1. Absolute return based. 
  2. Cash/ LIBOR/SONIA ,or equivalent, based (0.70%). 
  3. Inflation based. (UK CPI 1.9% May 2019). 
  4. Index based (FTSE 100, FTSE All-Share, MSCI, S&P etc.). 
  5. Peer group based (Private client index, Morningstar, IMA category etc.). 
  6. Theme based e.g. Ethical. 
  7. Bespoke list…e.g. list of other funds held/monitored/local competitors. 
  8. Factor based. 

The above list is not exhaustive

Furthermore, it may be appropriate to apply differing benchmarks to differing risk categories, and or adopt internal and external benchmarks. 

Further macro details and individual investment ideas, model portfolios for varying benchmarks and risk profiles are available on request. These can be in direct, OEIC, investment trust or ETF form or a combination. As ever, portfolio construction should take full account of risk, return and degree of asset correlation appropriate to the individual client. Other client assets/liabilities should also be considered. 

Cash –Neutral, Higher than normal. 

Where appropriate, diversify some sterling cash into major overseas currencies, especially after considering the ongoing BREXIT process. The US dollar should certainly feature amongst the alternative currencies. 

UK Equities-Neutral/small overweight 

Economy 

After reporting 1.4% GDP growth for 2017, and a similar figure for 2018, growth in 2019 is also expected to be anaemic, with risks to the downside, at the time of writing. Most recent data quarterly data showed GDP contacting by 0.4% to end Apri,while the June PMI reading at a level of 48,was at the lowest since 2013. Well publicised reasons include a more uncertain domestic consumer environment, weaker business investment, slowing global trends and political uncertainty, all interrelated. There is no doubt that the “BREXIT” has and will continue to affect many areas of the economy in different ways. Recent data has been mixed with improving employment (wages +3.4%, unemployment 3.8%), slow real wage growth, mixed industrial production figures, volatile 

retail sales, very poor automotive sector and a flat housing market. The residential housing market is continuing to show slower year on year growth, especially in London and the South East, where many properties are now showing negative year on year price comparisons. The lower volume of activity and increased time to completion have been all too evident in the recent sector profit warnings and cautious guidance from estate agents, house builders, domestic construction companies. Commercial property has also been very sluggish, especially in the area of retail (see more detail below). One bright area for the economy has been the better than expected progress in government finances, possibly giving scope for some fiscal relaxation, although recent statements from Chancellor Hammond show some resistance to the idea. 

Forecasts for 2019 GDP growth span a range of 0.5% to 2.0% with an average of 1.5% (30 forecasts), although most forecaster agree that in the event of UK crashing out of the EU, the country could experience a sizeable recession. It is highly likely that quarterly GDP figures will be heavily distorted by Brexit related factors, and Q2 2019,due imminently, is widely expected to show negligible growth. 

At the mid-March “mini-budget” speech Chancellor Hammond also guided GDP forecasts towards about 1.5% and re-iterated caution over relaxing the fiscal stance despite the budget improvement referred to above. 

Inflation, currently 1.9% (May 2019), by the widely used CPI measure, appears to have stabilised and forecasts of around 1.8% seem to be the consensus is currently running at about 3% year on year. 

The Monetary Policy Committee is edging towards a more hawkish stance despite the sluggish economic growth and Brexit/political uncertainty, focussing more on the inflation target. At the December 2018 meeting the MPC left interest rates unchanged at 0.75% warning that Brexit uncertainties “had intensified considerably”. 

At the time of writing, both Prime Ministerial candidates, Boris Johnson and Jeremy Hunt, are presenting their Brexit ideas to party members before the important votes this month. However, it is far from clear how both parliament and EU members will react to some of the proposals. Many options, including no-deal, snap General election, referendum or request for an extension are possible. In addition, Chancellor Hammond has cautioned against using some of the Budget “Surplus” for some of the pre-election spending plans. 

The one thing that is certain is that uncertainty will continue to prevail in the short term in economic, political and corporate terms and UK asset volatility, particularly in the foreign exchange market, is likely to remain high! 

Market 

On a valuation basis, the UK equity market remains at a relatively “cheap level”, compared to its history and significant underperformance, versus world equities, since the Brexit vote in June 2016 has already taken place. Corporate profits however, especially amongst the more international companies have continued to grow, as have dividends. The prospective PE multiple for 2019 is about 12.5, falling to an estimated 11.6 in 2020, with a dividend yield of 4.9%. (Source Morgan Stanley, June 2019). However, two notes of caution. The “E” of the PE ratio, at the time of writing, is subject to more than usual variation as company earnings are likely to be adjusted, both ways, following the BREXIT effect and related uncertainties. Income seekers should also pay extra attention to 

sustainability/growth potential rather than just absolute levels of dividends. Profit warnings/dividend cuts are increasing. 

On a technical market note it should be re-emphasised that the FTSE 100 has a relatively large oil/mining weighting and that approx 2/3 of the FTSE earnings derive from overseas. The table below summarises the main differences between the three main UK indices. 

Broad Sector FTSE100 FTSE 250 FT All-Share Financial-incl property 19% 40% 18% Consumer(goods/service) 22% 16% 25% Energy 17% 0 % 14% Health 11% 4% 11% Material 10% 5% 9% Industrial 8% 19. % 8% Telco &IT 7% 8% 3% Source: i-share,Lyxor.December 7th 2018.Leading sectors only. 

In a Morgan Stanley research note, it was estimated that 41%, 26% and 18% of FTSE 100 company sales were derived in Developed Europe, Asia-Pacific and North America respectively. The corresponding figures for the FTSE 250 were 67%, 10% and 14 

At the time of writing I would recommend overweighting banks/insurance while maintaining lower than average positions in certain highly priced consumer stocks, domestic building and construction, housebuilding, tourism and airlines. I would keep neutral position in the oil majors while, Telecom stocks, pharmaceuticals and utilities(selectively) may also perform better than average on a mixture of defensive positioning, yield and value. As suggested above, in the short term I would also take some profits from the recently outperforming smaller stock sector and re- allocate towards FTSE names, either directly or through appropriate pooled vehicles. 

These factors emphasise the need to be flexible and frequently check positioning on a see-through basis

Overseas EquitiesNeutral 

Expect increased currency volatility to continue during 2019 

Japan- overweight 

US- underweight 

Europe ex UK- small overweight 

Other –neutral 

Economic 

The global recovery is set to continue in 2019, although growth estimates have been reduced in recent months. 

The IMF reduced its global forecast to near 3.3% (from 3.5%) in its recent April 2019 presentation, while the OECD, in its March 2019 statement also mentioned a figure of 3.3%, their forecast changes largely based on weaker than expected development in China and Europe. 

As well as the fading effect of US fiscal incentives, weaker indications from several European, developing, and Asian countries, including China, point to more sluggish economic development. 

Core inflation is also developing at a slower than expected pace with most leading nations experiencing price increases well below Central Bank targets. 

The two factors above, in combination with certain geo-political concerns, are behind the more dovish monetary/fiscal policies/statement currently being adopted. 

Major risks could include inappropriate Fed/Trump action e.g. further protectionism, Chinese growth/deflation/management, further commodity/forex price volatility, and reaction to many political developments (Hong Kong, Venezuela, Libya, Ukraine, Russia, Iran, Turkey, Korea being current examples). 

Christine Lagarde, IMF Managing Director, reiterated that rising protectionism and debt levels remained the biggest global risks. 

United States 

After 1.6% GDP progression in 2016 US economic growth recovered to 2.3% in 2017 with 2.9% for 2018 and a figure of 2.4% provisionally pencilled in for 2019.The Federal reserve itself expects growth of about 2.3% in 2019, highlighting strong job gains and buoyant consumer spending and corporate investment. Better than expected first quarter 2019 growth of 3.2% does however include a large element of inventory build. The employment situation seems to have moderated somewhat, the most recent May figures slowing sharply and bringing the monthly average to 164000 for 2019, well below the 223,000 2018 figure. The unemployment rate is holding steady at about 3.6% 

Most recent inflation figures show May 2019 prices rising at 1.8%, and forecasts of around 2.3% for 2019 seem to be the consensus. The increase in average hourly earnings for December 2018, the fastest rate of growth since June 2009, was above expectation and prompted some observers to suggest that labour shortages could become more widespread, although more recent wage figures have shown slower growth. 

The Federal Reserve raised short term interest rates in March ,June ,September and most recently on December 19st ,taking the target rate for the Federal Funds rate to 2.25%-2.5%.However recent shorter term economic data coupled with certain current geo-political uncertainties e.g. US/China,Brexit,Europe,South America have introduced a much more dovish tone to Fed thinking. According to current projections of top officials, it now seems likely that there could be no rate increases in 2019, with rate cuts being more likely, and the Fed also announced an end to quantitative tightening for this September. As at 11th June 2019, Fed Funds futures now anticipate 

at least two Fed rate cuts before the end of this year, with the first possibly coming as early as this month. At its most recent June 19th meeting, the Federal Reserve held interest rates steady but shifted towards a more dovish stance and pointed to possible interest rate cuts in the future, citing rising “uncertainties” about the economic outlook

Europe 

European economic growth forecasts have shown a marked decline since mid-2018 levels and most forecasts for 2019 now fall in the 1.0% to 1.5% range, with the ECB itself looking for the lower end of this range. During the last quarter of 2018, Italy contracted while Germany showed negligible progress and the situation seems to have deteriorated further during the first months of 2019. Going forward, global developments in the area of trade will be particularly important for the likes of Germany while a precarious political climate (Italy, Spain) could be another source of investor uncertainty for the region. Analysts expect inflation between 1.2% and 1.8% i.e. still below the ECB target. Interestingly, wages grew at 2.4% during the first quarter, the fastest in a decade. 

Recent MEP election have continued to show an erosion of support for the traditional central parties, and while some of the more extreme political groups fared worse than expected, the Greens and Liberal Parties showed good gains. Partly as a result of these elections, there have been significant personnel/party developments in Germany, Italy and, Austria. Various ECB roles also must be filled over coming months, including the appointment of Mario Draghi’s successor. 

At recent meetings, Mario Draghi and other European leaders have stressed that economic risks were “moving to the downside”. Interest rate increases have been pushed back in the calendar (mid 2020?) At the June 18th ECB symposium in Sintra,Draghi referred to the possible expansion of the Euro2.6 trillion QE programme, if the inflation outlook failed to improve. 

Japan 

Japanese growth stalled in the first quarter of 2018 after eight consecutive quarters of improvement and then rebounded during summer months, before some recent softness largely due to natural disasters. Strong PMI figures and Tankan surveys, covering more than 10000 companies, near an 11-year high, however, confirm ongoing economic expansion. Current calendar 2019 economic forecasts are for about 1% GDP growth, the first quarter positive surprise probably being a one-off. At recent meetings the BOJ pledged to maintain the current negative interest rates, yield curve management and asset purchase programmes for the time being. 

Politics tilted in a pro-reform direction, after the October 2017 election landslide, which should help various economic and political initiatives. The political situation was strengthened further by the leadership victory late September 2018, which would make Shinzo Abe one of the longest serving Japanese PM’s since the job was created in 1885. The initiatives will include more focus on the quantitative actions, including higher care wages, pension reform, targeted infrastructure and some moves to tweaking the pacifist constitution. The re-appointment of Central Bank Governor Kuroda was helpful to the continuation of accommodative fiscal and monetary policy, a stance reinforced in the spring. 

Inflation is still well below the official target (0.9% in April 2019) although oil price strength and early signs of wage and recent price growth are expected to accelerate the upward trend. Japan’s 

November jobless rate at 2.3%, is the lowest since 1994, and there are labour shortages in a growing list of sectors, including construction and elderly care. The parliament recently voted to allow more than 250000 foreign workers into the country on five-year visas, and with the improved electoral mandate, it is widely expected that the subjects of female participation and pension age changes will also be studied. 

Monetary policy will remain dependant on inflation developments, and currently no major changes are expected to short or long-term interest rates until at least end-2019.At the recent BOJ meetings, the Board have voted to keep the benchmark short term interest rate at -0.1%. One of the key economic debates for 2019 will centre of the proposed consumption tax increase currently scheduled for October 2019 

Asia excl- Japan 

Efforts to boost domestic demand, either through monetary policy, banking reform and structural issues are bearing fruit in some areas, but are also currently hindered by currency volatility, high debt ratios, disinflation, politics etc. The spectre of a tariff “war” between USA and China, could of course, impinge adversely on some of the more open economies in the area and specialist zones e.g. Taiwanese semi-conductors. Other opportunities may also arise e.g. Vietnamese textile producers. 

Overall estimates for growth in the region have slipped over recent months, (now around 6%-6.2% for 2017,2018 and 2019), but the aggregate figure masks large individual country differences. For example, Australia and Singapore are likely to register growth below 3%, while China, India Indonesia are likely to register rates around 6% this year. 

At the National People’s Congress held in early March 2018, Chinese Premier Li Keqiang outlined an economic growth target of 6.5%, with a minimum target of 6.3% p.a over the 2018-2020 period, in additional to a lower fiscal deficit goal. At the conference there was more emphasis on quality of growth, pollution control and risk control, than numerical targets. Most independent analysts feel that this growth figure remains realistic, and that rebalancing the economy, stabilising property prices and further liberalising the financial system remain major long-term objectives. Recently announced quarterly GDP growth of 6.5% reflects some of the qualitative improvements including a welcome decline in “shadow” lending, although current economic indicators (PMI’s, retail sales and factory orders) suggest risks lie to the downside. At the early March 2019 official meeting, a GDP forecast of “just” 6% was perceived as disappointing. However, at the time of writing Chinese moves to stabilise growth through a mixture of tax cuts, infrastructure spending and bank lending support, appear to be working, although the ongoing tariff discussions impose an air of uncertainty. 

In India, which has experienced a sizeable stock market and currency recovery, much is still riding on the “Mondi” reform programme where long-standing concerns in the areas of infrastructure, bureaucracy and fiscal inconsistency need resolution. Current estimates of over 6.5% growth for 2017 and 2018 are not overoptimistic (surpassing China, above!). The recent election (May 2019), won by Narendra Modi with a landslide victory, gives the leader power to forge on with building a “New India”, although detailed economic reform proposals have yet to emerge. 

Regional Equity Recommendations 

Japan remains a favoured equity market, despite the global sterling adjusted outperformance in 2017 and 2018, though relatively poor 2019 so far. Regarding the investment arithmetic, the prospective PE (12.4 falling to 11.6 in 2020 as at June 08,2019) is still lower than the world average and the price book ratio is near the lowest of all the major regions, at a level of 1.10. Corporate results for recent periods have been higher than estimated and further growth is expected over the 2019/2020 period. Analysts point to further scope for Return on Equity to converge on the average for developed markets over coming years. On a technical note, Japanese institutions are undergoing a bond/equity switch and the market tends to be under owned by overseas institutions. Regarding domestic demand, the BOJ and other buybacks amount represent a growing percentage of market cap on an annual basis (4% latest CS estimate) while public and private pension funds are steadily increasing their equity weightings. Individual households hold approximately 50% of their financial assets in cash, extremely high by international standards, another source of equity demand. Finally, corporate governance (independent directors etc), buy backs, dividend hikes and current valuations on upgraded earnings are helping sentiment. About dividends, current low pay-out ratios (around 33%), give scope for above average income gains going forward. Currency strength/weakness is of course a double-edged sword regarding Japanese portfolio strategy. I recommend that some Japanese equity exposure, currently, be hedged back to sterling and or US dollar. 

Europe (ex-UK) warrants a continued small overweight in my view

With the current accommodative monetary policy, stronger consumer sentiment and a more stable Euro, the market continues to deserve longer term attention. At corporate level, earnings are being helped by nominal sales growth, margin expansion, and lower tax and interest charges. There are many situations in exporters, capital goods, financials where equities appear good value on PE and Price/ Book considerations and offer reasonable dividend yields. However, at time of writing an escalation in the tariff “war” could have adverse effects on the margins and sales volumes of certain products e.g. German cars, luxury goods, and more than usual investor due diligence will be required. On the sectoral point for example it should also be remembered that the EuroStoxx 50 weighting in oil and mining is approximately half of that in the FTSE 100. On a cyclically adjusted price to earnings ratio (CAPE) often used by longer term investors the Eurozone trades at a considerable discount to the US market. The shorter-term PE ratio currently stands at about 14.3 for2019, dropping to 13 in 2020, with a prospective dividend yield of 3.6%. By historic comparison the market is fairly valued on a price earnings and price cash flow basis and good value on price/book and dividend yield considerations. 

Asia (ex Japan) is currently dominated by China and related China plays such as Hong Kong and Taiwan in MSCI index terms. Over the longer term, the Chinese weighting could increase significantly, when more local shares may be included in the major index benchmarks.JP Morgan estimate that the Chinese A-share weighting could move from just under 1% in May 2018 to nearly 14% by 2025.This is in addition to the approx. 25% to 30% of the index already represented by mainstream Chinese stocks. As discussed elsewhere, the consensus is for a Chinese economic slowdown to around 5%-6% per year, but possible risks could emerge from several directions including excessive credit expansion, shadow banking, currency volatility, tariff escalation and geo- political tensions aggravated by president Trump. Equity investing as an overseas investor also faces hurdles in the shape of government control (including the stock market itself), currency policy, corporate governance issues and sometimes less than ideal accounting. A well-diversified portfolio 

could however include some longer-term exposure to the China region, directly or indirectly (Hong Kong, overseas plays, ETF, investment trusts etc.), but shorter-term volatility is expected. Amongst other countries, India remains an investor favourite, even though valuations are becoming quite full, Korea looks reasonable value, but the competitive situation should be monitored, and Australia, whose economy and currency are closely tied to the fortunes of the commodity sector, offers some interesting yield situations. Finally, Vietnam warrants attention as a high growth economy and possible beneficiary of any US/China tariff war. In aggregate the region has a prospective PE of just over 13.4 with a dividend yield of 3.2% 

During 2018 US investors were able to enjoy above-trend earnings and economic growth. The 20% plus profits growth and near 3% GDP growth were fuelled by tax changes, government stimulus and other non-recurring items. Looking forward, 5%-10% earnings per share growth, coupled with an uncertain interest rate background and considerable geo-political noise are likely to hinder share price progress. On equity valuation, shares look slightly overbought on current metrics including shorter term price earnings ratio (17.5 times forward earnings-2019), price book ratio and yield, and longer-term Schiller PE look a little more stretched. Corporate share buybacks, one of the significant market support factors, over the 2010/2016 period, are slowing and household ownership of equities is high relative to Europe and Japan, for instance. However, equities are not priced in the bubble territory which occurred in 2000, multiples have retreated since early 2018 and sentiment indicators remain in neutral territory. Corporate earnings growth was upgraded following certain aspects of proposed Trump policy especially in corporate taxation, but dollar strength, higher interest rates and overseas supply chain disruption should also be considered. The peak in US quarterly earnings growth (20% plus) has passed, however, and 8%-10% covers the consensus range for 2019. If current tariff proposals come to fruition (a big IF), several US companies expect to be affected by disruptive volume and input pricing effects late 2018 and into 2019. 

There continue to be wide divergence between the economies of the emerging universe with, for example, Russia, Brazil and South Africa experiencing much slower growth, the latter also recently experiencing a credit downgrade and new political era, and many countries suffering from disproportionate commodity exposure (Russia), unstable/changing political situations (Venezuela, Turkey, Mexico, Brazil) and or/ high dollar debt levels. The changing US political regime clearly adds more uncertainties deriving from a volatile dollar, and selective protectionist policies. India is currently one of the rare outliers with minimal commodity or deflation worries but other issues that need addressing and hopes that the recently appointed Finance Minister continues to adopt the discipline imposed by her predecessor. However, on balance, developing economies which had been detracting from global growth for several quarters are now starting to stabilise. 

Investors could consider some selective exposure to the region, which currently trades on a prospective 12.2 multiple on 2019 earnings, a considerable discount to other zones. Foreign Exchange could be an important issue from both currencies of investment and individual corporate effects. However, investors should also be aware the considerable risks that are plaguing the asset class, whether commodity pricing, debt, political change etc. In terms of industry sector, earnings are expected to be strongest in consumer discretionary, healthcare and information technology, although several analysts detect more “value” in the oversold financial sector. According to recent Morgan Stanley research, aggregate 2019/20 emerging market earnings growth currently stands at a level of around 10% p.a. It should be noted that many emerging 

market companies are also rapidly increasing dividends, from a low level and there are some interesting pooled vehicles to exploit this. Morgan Stanley estimate dividend growth of 7% and 11% for the region over 2019and 2020 respectively. By contrast, developed markets are estimated to have dividend growth of approx. 7% p.a over the same periods. Despite the current volatility, Russia remains worthy of speculative attention on the basis of low valuation, well above average dividend yield, better commodity price trends, but clearly a higher risk/return play, while Vietnam is likely to remain an Asian favourite despite the rating and recent performance, and emerging Europe may receive more attention going forward. Weightings in China and India still seem appropriate and South Korea has also moved back to the attractive zone. South American politics are playing an increasing role in investor sentiment, e.g. Venezuela, Mexico and most recently, Brazil. 

Fixed Interest 

Government Conventional Fixed interest-The medium-term fundamental prospects for core government bond yields (UK, USA, Japan, and Germany) continue to depend primarily on inflation and Central bank policy outlooks. External “shocks” also introduce spikes in volatility from time to time and related hunt for perceived safe havens. At the time of writing, conventional government bonds have staged a large rally (see graph), largely on declining growth/inflation expectations taking large swathes of the European and Japanese 10 year government bond yields into negative territory. 

On the first point, current inflation, as measured by the year on year rates in USA, Continental Europe, Japan and several emerging markets has started to drift down again after a period of 

stabilisation and is now further away from Central Bank “targets”. The Federal Reserve quantitative tightening programme seems likely to end this autumn while ECB is maintaining current policy on bond purchases, and the Bank of Japan pressure is very unlikely to change it’s QE in the short term. 

Region Updated 10-year Govt yield Spread versus T- 

Bond Germany 28/06/2019 -0.40% -2.39 Japan 28/06/2019 -0.15% -2.14 UK 28/06/2019 0.79% -1.20 USA 28/06/2019 1.99% 0.0 

Other Fixed interest 

It is forecast that the total returns from certain fixed interest outside the conventional core government bond space will yield further relative outperformance of the government sector, but allowance should be made for higher volatility liquidity, credit quality, dealing spreads etc. Some yield spreads still provide enough “cushion” versus conventional government bonds and may additionally have part equity drivers e.g. Preference shares, convertibles or be sector specific e.g. energy related. 

The search for above average regular income continues, with several participants forced to move up the risk curve. 

In general, a word of caution that using the ETF route for obtaining fixed interest exposure currently requires an extra level of due diligence regarding liquidity, spreads, degree of physical cover, tracking experience and of course full understanding of the underlying index. 

Corporate Debt-Although many investment grade issues appear fully priced there may be opportunities in other grades if the risk/return/maturity/liquidity criteria suit. These may also be available in pooled form through ETF or OEIC or investment trusts. Selected US high yield (5.46 on 28/06/2019) may offer FX as well as bond spread and income gains, and it must not be forgotten that with corporate dynamics improving and a more favourable supply demand balance there is good scope for outperformance over the government sector. 

ETF Yield p.a TER Dividend 

payments 

Physical cover 

UK corporates 2.52% 0.2% Quarterly Yes US High yield 5.46% 0.5% Six monthly Yes Emerging local 5.50% 0.5% Six monthly Yes 

Emerging market Debt-higher risk but also potentially higher return but remember to analyse currency as well as income and capital. Also, available in ETF form, I-share SEML, holds over 200 securities with above 8% weightings in Polish, South African, Mexican, Brazilian, and Indonesian debt. Currently over 90% of the fund’s assets are rated A,BBB or BB and the fund yields 5.5%. 

Preference Shares-Above average yields are still available, despite the large total return outperformance over the gilt sector over recent periods and remember the more favourable tax treatment for basic rate payers. Some of the UK bank issues look particularly interesting in this sector after recent/ongoing capital strengthening exercises and the results of the “stress tests”. Depending on risk appetite, annual yields around 6% to 6.5% are currently available on selected financial issues suitable for balanced accounts while, like corporate bonds, some higher yields can be found in more speculative issues. 

Floating rate-provide an element of hedging against rate increases. Available in direct or investment trust structures and currently offering about 5% annual yield and priced at discount to assets. These instruments outperformed conventional government stocks last year as short-term rates were increased, particularly in the USA, but have had a more cautious start to 2019, partly due to more dovish Central Bank rhetoric. 

Index Linked– These instruments continue to attract interest from both longer-term institutions with asset/liability issues and, more recently, from some shorter-term tactical funds. Linkers do offer some investment advantages such as low volatility and low correlation with several other asset classes and they are in relatively short supply. However, they currently do not look particularly good value either domestically or by international comparison on most reasonable inflation assumptions or by comparison with other alternatives. In my view, there are other instruments that offer some degree of inflation protection/diversification at more reasonable price levels. The real yield on the UK FTSE All Index Linked Gilts is currently -1.88% 

Zero-Coupons-Capital only, yields of over 2.6% p.a (annual equivalent) to November 2020, or 3.7% p.a. to November 2022 or 4.2% to November 2024 on recommended issues at time of writing. May suit event planning/higher income tax situations. 

Convertibles-UK market relatively small but some funds are available. A few issues at relatively low yields and high conversion premium have been made recently. My favoured pooled play currently trades at a discount (currently 7.0%) with an annual yield over 5%. The fund recently (end May 2017) announced a tighter discount control range which has successfully reduced volatility even further and, at the time of writing, the company is buying its own shares. 

Corporate Bonds, UK order book-Selected issues may warrant attention. In the expanding London retail bond market, running yields between 5 % and 6.0% on LSE quoted companies with between 4 and 7-year maturities are available on more stable underlying businesses, while much higher flat(e.g. 10%) and redemption yields apply to certain more speculative issues, especially in the energy area. A growing number of ultra-long issues are becoming available. 

Property-Neutral 

Following the historic decision on June 23,2016 to leave the EU, property markets, especially in London felt the aftershocks. Volume of activity and pricing were immediately affected and within days, property funds holding £15 billion of assets had closed the gate to redemptions. Three years later, the markets have not settled, although some of the more drastic revisions and rumours have been softened. Amongst the main sectors, shopping centres are struggling with stalling consumer confidence and on-line competitors while the office sector, especially in London, is experiencing varying trends. The mergers recently announced between Hammerson and Intu,and Unibail/Westfield and recent Land Securities/British Land figures highlight the need to reduce costs in a troubled shopping centre sector. Interestingly, figures and statements from quoted company Segro PLC, by direct contrast, show the growth in logistics centres, warehousing as online shopping accelerates. 

Over 2018, the MSCI IPD UK Index showed a total return of 7.5%, although this growth slowed to just 1% in the last quarter. Of the 7.5%,5.2% was attributable to income and included rental growth of 2.7%. By sub sector industrial values rose faster than retail values every single month. Over the first four months of 2019 the Index has continued to show sluggish total return progress (income rather than capital gain) and further relative weakness in the retail related sector. The Index shows total return growth of just 0.74% for the first 4 months of 2019, or 2.3% annualised. 

The IPF current estimates are for total return growth of about 3% for 2019, income offsetting a small decline in capital values. Industrial is expected to be the strongest sub-sector

In the post BREXIT environment, investors in commercial property funds should be increasingly aware of “value adjustments” suddenly imposed on their unit holdings, large unproductive cash holdings, as well as perhaps a tightening of redemption procedures (see recent FCA paper), which is improving the relative attractiveness of closed end funds and direct equities. As ever however, watch location, management and balance sheets carefully! In major commercial property sectors,” tech” friendly features are increasingly demanded, while retailors juggle with the physical/online balance. In the specialist areas of student, logistics, medical, retirement accommodation and self- storage there is still good demand and in the medium term these sub-sectors are expected to become more “mainstream”. Many international investors have switched their attention away from UK towards Continental Europe, where rental levels, capital values and prospects are deemed more attractive. Remember also that property corporate bonds may suit some client objectives. 

Alternative Income/Other-Overweight 

This “catch all” sector is taking on increasing significance during this current phase of volatile bond and equity performance. It is noticeable that during the weaker equity periods, many renewable/private equity/infrastructure plays held their ground, and in some cases showed absolute returns. Funds which may fit the characteristic of better capital protection and above average yields and low correlation with other asset classes include 

  • Infrastructure, including recent issues in the renewable sector, offering income yields around 5%- 6% p.a. Corporate activity e.g. John Laing, is an additional positive factor. 
  • By way of comparison, certain listed vehicles in the areas of private equity and specialised lending currently offer yields of 6%-8%, but careful due diligence and extra considerations of transparency, holding period and liquidity in differing market conditions should be considered. 
  • Certain liquid transparent structured products, although special client permission may be required, and full understanding of the maths and counterparty risk are essential. These can be useful for hedging e.g. infinite turbo puts/covered warrants against a fully invested equity portfolio. 
  • A mixed 2018 for various absolute return funds and hedge funds. The higher volatility experienced in recent months will be welcomed by several Funds. Going forward extra due diligence will be needed to fully understand fund benchmarks, and take full account of charges, liquidity, transparency. 

GOOD LUCK FOR THE BALANCE OF 2019! – Ken Baksh 

Ken has over 35 years of investment management experience, working for two major City institutions between 1976 and 2002.

Since then he has been engaged as a self-employed investment consultant. He has worked with investment trusts, unit trusts, pension funds, charities, Life Fund, hedge fund and private clients. Individual asset managed have included direct equities and bonds pooled vehicles currencies, derivatives and commodities.

Projects undertaken in a number of areas including asset allocation, risk control, performance measurement, marketing, individual company research, legacy portfolios and portfolio construction. He has a BSc(Mathematics/Statistics) and is a Fellow Member of the UK Society of Investment Professionals.

Disclaimer 

All recommendations and comments are the opinion of writer. 

Investors should be cautious about all stock recommendations and should consider the source of any advice on stock selection. Various factors, including personal ownership, may influence or factor into a stock analysis or opinion. 

All investors are advised to conduct their own independent research into individual stocks and markets before making a purchase decision. In addition, investors are advised that past stock performance is not indicative of future price action. 

You should be aware of the risks involved in stock investing, and you use the material contained herein at your own risk 

The author may have historic or prospective positions in any securities mentioned in the report. 

The material is provided for information purpose only 

Ken Baksh – Enquest #ENQ1 Bond – Oily idea with very good short and longer term income attractions!

ENQUEST 7% 15/04/22 Bond-ENQ1-ISIN-XS0880578728

Company Overview

Enquest PLC is an independent United Kingdom-based petroleum and production company which operates mainly in the United Kingdom Continental Shelf. The shares are included on the main list of the London Stock Exchange as are the bonds, the subject of this article.

The Company is one of the largest UK independent oil producers in the North Sea, and as at 31st December 2017, operated assets including Thistle/Deveron, Heather/Broom, the Dons area, Magnus, the Greater Kittiwake Area, Scolty/Crathes, Alma/Galia and Kraken.Enquest also had an interest in the non-operated Alba producing oil field.

On the 5th December 2018 the company issued a confident operating update,stating 2018 production was on target and 2019 production was expected to be in the range of 63000 Boepd to 70000 Boepd,an increase of about 20% on the mid-point. Acquisition of additional interest in Magnus, the Sullom Voe Terminal and associated infrastructure was completed with effect from 1st December 2018, and the successful rights issue had enabled the early repayment of some bank debt.

See http://www.enquest.com/media-centre/press-releases/2018/12-05-2018.aspx for more detail

Bonds

The company has,in issue some corporate bonds ,ENQ1,for which details are explained in http://www.enquest.com/investors/retail-bond.aspx

These bonds trade freely on the LSE with live pricing, transparancy etc

Essentially, these bonds maturing in 15/04/22, have a 7% coupon on face value, payable in either cash or a further bond allocation, depending on the average level of the oil price over the previous period (see link above). Payments are made to bond holders in February and August. The last payment was made in cash ,and the imminent payment is also likely to be cash based on the average oil price over the qualifying period, with just two or three days to go.

At the current price of £80%, the annual yield is 7/80=approx 8.75%,and the yield to redemption, taking into account the capital uplift of the bond and the remaining coupon payments is approximately 20% p.a.

If held within a SIPP, the capital gain (25%), plus seven coupons (approx 31.5%) will be sheltered from tax.

Shorter Term

The next  “Cash payment conditional determination date” as explained in the bond notes  will be around 15th January 2019  i.e. a few days time.This will officially confirm that the next coupon will be paid in cash

The next “record date” will be end January with the appropriate payment being made to bond holders on 15th February according to the company bond prospectus

At the current bond price of £80% ,this one coupon will be worth 3.5/80=4.4%, not a bad income return for one month. However the real value lies in the longer term maths!

As ever, normal health warnings apply !

Independent Investment Research

Ken Baksh

Ken has over 35 years of investment management experience, working for two major City institutions between 1976 and 2002.

Since then he has been engaged as a self-employed investment consultant. He has worked with investment trusts, unit trusts, pension funds, charities, Life Fund,hedge fund and private clients. Individual asset managed have included direct equities and bonds pooled vehicles currencies, derivatives and commodities.

Projects undertaken in a number of areas including asset allocation, risk control, performance measurement, marketing, individual company research, legacy portfolios and portfolio construction. He has a BSc(Mathematics/Statistics) and is a Fellow Member of the UK Society of Investment Professionals.

Disclaimer

All stock recommendations and comments are the opinion of writer.

Investors should be cautious about all stock recommendations and should consider the source of any advice on stock selection. Various factors, including personal ownership, may influence or factor into a stock analysis or opinion.

All investors are advised to conduct their own independent research into individual stocks before making a purchase decision. In addition, investors are advised that past stock performance is not indicative of future price action.

You should be aware of the risks involved in stock investing, and you use the material contained herein at your own risk

The author may have historic or prospective positions in securities mentioned in the report.

The material on this website are provided for information purpose only.

Please contact Ken, (kenbaksh@btopenworld.com) for further information

 

 

 

Oil play, 5.5% yield (income paid quarterly),8% discount to assets, BREXIT currency hedge..what more do you want?

Black Rock Commodities Income Investment Trust –ISIN GB00B0N8MF98-BRCI

Oil remains one of the strongest major commodities this year and despite recent exemptions from Iranian sanctions, looks likely to stay well supported.

The major companies themselves Royal Dutch #RDSB, BP #BP, Total, Eni, Norsk Hydro etc have been major beneficiaries of the stronger spot price and, with greater capital discipline, have rebuilt balance sheets and engaged in shareholder friendly actions whether dividend increases or share buy-backs.

One way of accessing this sector is through the Black Rock Commodities Income Investment Trust.

The object of this investment trust is to achieve an annual dividend target, (currently 4p), and over the long term, capital growth, by investing primarily in securities of companies operating in the mining and energy sector.

  • The fund predominantly invests in large quoted equities, the split between oil and mining being approximately oil, majors plus exploration/production 42%, and mining 56%, as at end September 2018.
  • Underlying major mining companies, have for the large part responded to the historic weaker trend in resource prices, maintaining balance sheet discipline and adjusting their cost bases. There have been some examples of spectacular self-help stories e.g. Glencore and Anglo-American Mining.
  • Recent mining conferences have highlighted the need for increased use of Lithium, Cobalt, Nickel and Copper relating to Electronic Vehicles.BRCI has been building exposure to these elements over the last couple of years. For example, Glencore (5.2% of assets) is now one of the leading global suppliers of Cobalt, a vital component for rechargeable batteries.
  • Rising economic growth projections, supply constraints and a changing OPEC stance have significantly helped the prospects of the major oil companies held. Royal Dutch and BP have both recently announced good third quarter figures and both have annual dividend yields near 6%. Statoil and Total also confirmed the more favourable trend for oil majors.
  • As at End September 2018, the Fund ‘s major holdings featured BHP (8.9%), Royal Dutch (6.7%) Rio Tinto (6.2%), First Quantum (5.7%), Glencore (5.2%), Exxon (4.2%), and Teck Resources (4. 5%). The top ten holdings represented over 55% of the total portfolio, a relatively concentrated stance.
  • The global nature of these companies provides exposure to non-sterling currencies, especially the US dollar. This can benefit both capital and income when sterling is on a weaker trend. In this regard, the instrument may be seen partially as a no-deal BREXIT hedge.
  • On a TECHNICAL NOTE, it should be noted that energy and material stocks represent about 27% and 24% of the FTSE100 index and the FT All-Share index respectively. If using these as benchmarks, the weighting in these sectors can materially affect the relative performance of UK active and passive funds.
  • As well as targeting financially strong dividend paying equities the company also employs option writing strategies and an element of gearing, currently near 10%, to further improve the sources of income.
  • On an annual yield, over 5.5%, (payable quarterly), this trust represents a high-income longer-term value play, but investors should be aware of the volatility of the underlying sector-maybe another reason to adopt a pooled approach. The trust currently trades at a current discount to net assets of near 8%, near the ten year’s low, compared with the premium on which it traded for most 2008-2016 period (see graph below). The company operates a discount management procedure from time to time.

https://www.hl.co.uk/shares/shares-search-results/b/blackrock-commodities-income-it-ordinary-1p/share-charts

www.trustnet.com/factsheets/t/rw98/blackrock-commodities-income-it

Ken Baksh

Ken has over 35 years of investment management experience, working for two major City institutions between 1976 and 2002.

Since then he has been engaged as a self-employed investment consultant. He has worked with investment trusts, unit trusts, pension funds, charities, Life Fund,hedge fund and private clients. Individual asset managed have included direct equities and bonds pooled vehicles currencies, derivatives and commodities.

Projects undertaken in a number of areas including asset allocation, risk control, performance measurement, marketing, individual company research, legacy portfolios and portfolio construction. He has a BSc(Mathematics/Statistics) and is a Fellow Member of the UK Society of Investment Professionals.

Disclaimer

All stock recommendations and comments are the opinion of writer.

Investors should be cautious about all stock recommendations and should consider the source of any advice on stock selection. Various factors, including personal ownership, may influence or factor into a stock analysis or opinion.

All investors are advised to conduct their own independent research into individual stocks before making a purchase decision. In addition, investors are advised that past stock performance is not indicative of future price action.

You should be aware of the risks involved in stock investing, and you use the material contained herein at your own risk

The author may have historic or prospective positions in securities mentioned in the report.

The material on this website are provided for information purpose only.

Please contact Ken, (kenbaksh@btopenworld.com) for further information

Ken Baksh – November Market Report – Is it safe to put a toe in?

November 2018 Market Report

During the month to October 31st, 2018, major equity markets displayed a very weak trend, falling by 8.52% overall and the VIX index rose sharply to 22.05. The month was the worst equity performance for more than six years. There continued to be an abundance of market moving news over what is traditionally a volatile month, at macro-economic, corporate and political levels.

The European Central Bank appeared to become more certain of removing QE over coming quarters, with more hawkish policy statements, but delaying any interest rate increase until 2019, while economic news seems to have been weaker than forecast in recent months, particularly in Germany. Political events were not in short supply, and in Turkey for example, continued to affect bond and currency markets while Italian bonds oscillated with the growing tension between the two-party Government and the ECB. Angela Merkel stood down as CDU leader late in the month, a position occupied for 18 years.  US market watchers continued to grapple with ongoing tariff discussions, Federal Budget, Turkish stand-off, NAFTA follow up and North Korean meeting uncertainty as well as Trump’s growing domestic issues, ominously becoming higher profile, before the important November midterm elections. US economic data and corporate results so far have generally been above expectation and the official interest rate was increased again in September to a range of 2%-2.25%. Provisional third quarter GDP growth figures showed very buoyant consumer trends but weak corporate investment and foreign trade.  In the Far East, China flexed its muscles in response to Trump’s trade and other demands while relaxing some bank reserve requirements and “allowing” the currency to drift to a recent low. Recent indicators and statements would suggest a slowdown in 2018 growth to a still very respectable 6%-6.5%. Japanese second quarter GDP growth appeared higher than expected and Shinzo Abe consolidated his political position, both perceived as market friendly, and the ten-year bond continues to trade near the recent yield high. At the October BoJ meeting, the current easier fiscal stance was reconfirmed.  The UK reported mixed economic data with satisfactory developments on the government borrowing side, inflation higher than expected, but poor relative GDP figures and deteriorating property sentiment, both residential and commercial. Recent retail data shows mixed trends, some “weather related”. Market attention, both domestic and international is clearly focussed on ongoing BREXIT developments and their strong influence on politics. Although the Budget presented on October 29th, showed a slightly higher GDP forecast and a more expansionary fiscal approach, the Chancellor made frequent references to the unsettling effects of any unsatisfactory Brexit outcome.

Aggregate world hard economic data continues to show steady expansion, although forecasts of future growth have been trimmed in recent months by the leading independent international organization. Fluctuating currencies continued to play an important part in asset allocation decisions, the stronger Yen being the major recent feature recently, largely for haven reasons. Emerging market currencies have had a particularly volatile period, showing some relative recovery over October from very weak levels. Government Bond holders saw mixed moves over the month-some more inspired by equity market turmoil rather than changed fundamentals.

At the end of the ten -month period, “mixed investment” unit trusts all showed negative performance, and only a small number of asset class sub sectors are showing a positive return. Source: Morningstar

Equities

Global Equities displayed a strong downwards trend over the month of October the FTSE ALL World Index falling 8.52% in dollar terms and now showing a negative return of 6.55% return since the beginning of the year. The UK broad and narrow market indices fell by 5.09% and 5.42%  respectively over the month and have both underperformed world equities in  sterling adjusted values from the end of 2017 by about 6%. The NASDAQ index, driven by technology companies, saw some of the steepest declines with many bell weather stocks showing significant falls. In sterling adjusted terms, America and Japan are the only two major markets now showing positive returns year to date The VIX index rose 75.84 % over the month, and at the current level of 22.05 is up about 115% from the year end.

UK Sectors

Sector volatility remained high during the month, influenced by both global factors e.g. commodity prices, tariffs, as well as corporate activity and a general risk aversion mood. Industrial stocks fell significantly while utilities and banks registered positive returns. Over the ten-month period, pharmaceuticals are outpacing the worse performing major sector, telecommunications by around 45%.

Fixed Interest

Gilt prices rose marginally over the month largely on haven buying but are still down 2.67% year to date in capital terms, the 10-year UK yield standing at 1.26% currently.  Other ten-year yields closed the month at US 3.1%, Japan 0.13%, and Germany 0.3% respectively.  UK corporate bonds rose 1% in price terms ending October on a yield of approximately 2.71%. Amongst the more speculative grades by contrast, yields rose, although US lower grade bonds are still one of the few sub-categories showing year to date price gains. Floating rate bond prices underperformed gilts over the month but are still showing positive year to date total returns. I continue to strongly recommend this asset class. See my recommendations in preference shares, convertibles, corporate bonds, floating rate bonds etc. A list of my top thirty income ideas (all yielding over 5%) from over 10 different asset classes is available. 

Foreign Exchange

Amongst the major currencies, a stronger Yen was the monthly feature largely on safe haven buying as global equities tumbled. Currency adjusted, the FTSE World Equity Index is now outperforming the FTSE 100 by around 6% since the end of 2017 and about 20% since the June 2016 BREXIT vote.

Commodities

A generally weak month for commodities with the notable exception of gold, related precious metals, iron ore and sugar Over the year so far, oil, wheat and uranium (renegotiation of longer-term contracts) have shown the greatest gains.

Looking Forward

Over the coming months, geo-political events and Central Bank actions/statements will be accompanied by the continuation of the third quarter corporate reporting season, resulting in an abundance of stock moving events. With medium term expectation of rising bond yields, equity valuations and fund flow (both institutional and Central bank) dynamics will also be increasingly important areas of interest/concern, and it is expected that any “disappointments”, economic or corporate, will be severely punished.

US watchers will continue to speculate on the timing and number of interest rate hikes 2018/2019 and longer-term debt dynamics, as well as fleshing out the winners and losers from any tariff developments -a moving target! Third quarter figures (and accompanying statements) will be subject to even greater analysis after the buoyant first half year, and the growing list of headwinds. Additional discussions pertaining to Saudi Arabia, North Korea, Russia, Iran,Brazil, Venezuela, and Trump’s own position could precipitate volatility in equities, commodities and currencies, especially with the November mid-term elections just days away. 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. The recent China/Japan summit may signal closer co-operation in the area. European investment mood will be tested by economic figures, EU Budget discussions, Italian bond spreads, German, Turkish and Spanish politics, and reaction to the migrant discussions. It must also be remembered that the QE bond buying is being wound down over coming months.  Hard economic data and various sentiment/residential property indicators will continue to show that UK economic growth will be slower in 2018 compared to 2017, and any economic upgrade over current quarters appear extremely unlikely.  Whichever Brexit outcome is agreed, it is highly likely that near term quarterly figures will be distorted.  The current perceptions of either a move to a “softer” European exit, or a “no deal” will undoubtedly lead to pressure from many sides.  Political tensions stay at elevated levels both within and across the major parties and considerable uncertainties still face individual companies and sectors. Industry, whether through trade organisations, international pressure e.g Japan, or directly e.g. Bae, BMW, Jaguar Land Rover, Toyota, Honda, Ryanair is becoming increasingly impatient, and vocal, and many London based financial companies are already “voting with their feet”.

On a valuation basis, most, but not all, conventional government fixed interest products continue to appear expensive against current economic forecasts and supply factors, and renewed bond price declines and further relative underperformance versus equities should be expected in the medium term, in my view. See my recent ‘iceberg’ illustration for an estimate of bond sensitivity, particularly acute for longer maturities. Price declines are eroding any small income returns leading to negative total returns in many cases.  On the supply point there are increasing estimates of US bond issuance against a background of diminished QE and overseas buying. European bond purchases are also winding down. Apart from debt implications, corporate earnings growth and discounting purposes, remember that higher bond yields also are starting to play into the alternative asset argument. In the US for example the ten-year bond yield at 3.1%, is over 100 basis points higher than that on equities.

Equities appear more reasonably valued after recent price falls, but there are wide variations. Equity investors will be looking to see if superior earnings growth can compensate for higher interest rates in several areas. Helped in no small part by tax cuts, US companies have been showing earnings growth more than 20% so far this year, although the current quarter is widely expected to be the peak comparison period, and ‘misses’ are being severely punished e.g. Caterpillar,3M Facebook, General Electric,Kellogs, and Twitter. Accompanying corporate outlook statements are being carefully scrutinised.

Outside pure valuation measures, sentiment indicators and the VIX index are showing significant day to day variation, after the complacency of last year. The current level of 22.05 reflects the uncertain market mood, as does the relatively high put/call ratio.

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.

An increased weighting in absolute return, alternative income and other vehicles may be warranted as equity returns will become increasingly lower and more volatile and holding greater than usual cash balances may also be appropriate, including some outside sterling. Among major equity markets, the USA is one of the few areas where the ten-year bond yields more than the benchmark equity index. The equity selection should be very focussed. Certain equity valuations are rather high, especially on a PE basis (see quarterly), although not in “bubble” territory. A combination of sharper than expected interest rate increases with corporate earnings shocks would not be conducive to strong equity returns. Ongoing and fluid tariff discussions could additionally unsettle selected countries, sectors and individual stocks Harley Davidson, German car producers, American and Brazilian soy producers etc.

  • UK warrants a neutral allocation but is starting to look good value on certain metrics. Ongoing Brexit debate, political stalemate and economic uncertainty could cause more sterling wobbles, which in turn could affect sector/size choices. I would expect to see more profits warnings (Countryside,Foxtons,H&M,BHS,Homebase,WPP,Computacentre- latest casualties) and extra due diligence in stock/fund selection is strongly advised.
  • Within UK sectors, some of the higher yielding defensive plays e.g. Pharma, telco’s and utilities have attractions relative to certain cyclicals and many financials are showing confidence by dividend hikes and buy-backs etc. Over recent months, value stocks have been staging a long overdue recovery compared to growth stocks. Oil and gas majors may be worth holding despite the outperformance to date. Remember 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. Mining stocks remain a strong hold, in my view (see my recent note for favoured large cap pooled play). Corporate activity, already apparent in the engineering (GKN), property (Hammerson), pharmaceutical (Glaxo, Shire?), packaging (Smurfit), retail (Sainsbury/Asda), leisure (Whitbread), media (Sky), mining (Randgold) is likely to increase in my view, although the Government has recently been expressing concern about overseas take-overs in certain strategic areas.
  • Continental European equities continue to be preferred to those of USA, for reasons of valuation, and Central bank policy, although political developments in Italy, Spain and Turkey should be monitored closely. 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, despite the large 2017 and 2018 to date outperformance. 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, against conventional government bonds, have attractions e.g. floating rate funds, preference shares, convertibles, for balanced, cautious accounts and energy/ emerging/speculative grade for higher risk. 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. If anything, recent sector “news” has highlighted the attractions of the sector.
  • Alternative income, private equity and renewable funds have exhibited their defensive characteristics during the October market wobble and are still strongly recommended as part of a balanced portfolio. Most of these are already providing superior total returns to both gilts and equities so far this year, and indeed some produced positive returns during October. Reference could be made to the renewable funds (see my recent solar and wind power recommendations). Recent results from Green coat and Bluefield Solar reinforce my optimism for the sector. Selected infrastructure funds are also recommended for purchase after the recent Corbyn/Carillion inspired weakness (see note). The take-over of JLIF during the month highlights the value in the sector!
  • 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. However, in general I would not overweight the sector, as along with residential property, I expect further price stagnation especially in London offices and retail developments e.g. (Hammerson, Intu). The outlook for some specialist sub sectors e.g. health, logistics, student, multi-let etc and property outside London/South-East, however, is currently more favourable. Investors should also consider some continental European property See my recent company note.
  • I suggest a very selective approach to emerging equities and would continue to avoid bonds. Although the overall valuation for emerging market equities is relatively modest, there are large differences between individual countries. 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 g. Venezuela or embarking on new political era e.g. Mexico and Brazil. As highlighted in the quarterly, Chinese index weightings are expected to increase quite significantly over coming years and Saudi Arabia, is just being allowed into certain indices.

 

Full fourth quarter report will shortly be available to clients/subscribers and suggested portfolio strategy/individual recommendations are available. Ideas for a ten stock FTSE portfolio, model pooled fund portfolios (cautious, balanced adventurous, income), 30 stock income lists, hedging ideas and a list of shorter-term low risk/ high risk ideas can also be purchased, as well as bespoke portfolio construction/restructuring. Feel free to contact regarding any investment project.

Good luck with performance!   Ken Baksh 01/10/2018

Independent Investment Research

Ken has over 35 years of investment management experience, working for two major City institutions between 1976 and 2002.

Since then he has been engaged as a self-employed investment consultant. He has worked with investment trusts, unit trusts, pension funds, charities, Life Fund,hedge fund and private clients. Individual asset managed have included direct equities and bonds pooled vehicles currencies, derivatives and commodities.

Projects undertaken in a number of areas including asset allocation, risk control, performance measurement, marketing, individual company research, legacy portfolios and portfolio construction. He has a BSc(Mathematics/Statistics) and is a Fellow Member of the UK Society of Investment Professionals.

Phone 07747 114 691

kenbaksh@btopenworld.com

 

Disclaimer

All stock recommendations and comments are the opinion of writer.

Investors should be cautious about all stock recommendations and should consider the source of any advice on stock selection. Various factors, including personal ownership, may influence or factor into a stock analysis or opinion.

All investors are advised to conduct their own independent research into individual stocks before making a purchase decision. In addition, investors are advised that past stock performance is not indicative of future price action.

You should be aware of the risks involved in stock investing, and you use the material contained herein at your own risk

The author may have historic or prospective positions in securities mentioned in the report.

The material on this website are provided for information purpose only.

Please contact Ken, (kenbaksh@btopenworld.com) for further information

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