- Market recap
- Summer rotation
- Why is risk back in favour?
- Growth to Value switch
Our last update in August reported that financial markets had posted strong and consistent year-to-date gains. All major global stock market indices had delivered double-digit returns in ‘one-way traffic’ fashion.
Gains were not just confined to shares – almost all asset classes participated in the widespread positivity. Even some traditionally defensive assets, such as Fixed Income, posted returns north of 10% as interest rates globally declined, in some cases, falling into negative territory.
Since then, something of a rotation appears to have taken place. UK 10-year Gilt yields fell as the year progressed, halving from their high of 3.25% a year ago to just 1.53% by August. This was a steep and rapid decline by all accounts. However, since August, US 10-year Treasury yields have rebounded to 1.84% (at the time of writing) after reaching almost 2%.
This increase in the price of money has had notable ramifications for the pecking order of global asset classes since then. Defensive assets, such as Bonds and Gold, have fallen mildly over the past few months, giving back a modest portion of their prior gains.
Risk assets, more broadly, have continued their rise, extending progress from earlier in the year. Global stock market sectors with a defensive slant – such as utilities (-2%) – have under-performed more aggressive cyclical sectors – such as banks (+9%).
Perceived riskier regions, such as Emerging markets and even Britain (based on recent volatility), have been doing better than average since our last update. As has Japan, which is globally orientated due to the Asian region’s importance within global manufacturing and technology supply chains.
Why is risk back in favour?
US interest rates have been reduced three times since July, reacting to fears that without cheaper capital, the global economy faces recession. Bloomberg also highlighted that out of 57 key global Central Banks, more than half have cut interest rates during 2019. The majority of these are in emerging economies. Markets are seeing this immense global monetary stimulus as a ‘safety net’, even in the face of weaker economic growth.
With many global central banks getting ever closer to running out of ‘monetary ammo’ – as interest rates get closer to zero – investors are speculating the next move will be fiscal expansion, should economies weaken. In plain English, the next hope would be for large scale global tax reductions or co-ordinated government spending programmes to inject money into the global economy. The market has taken this as a further positive backstop.
Historically, such developments have proven good for firms and consumers in the near-term (Stocks) and bad for presenting inflationary risks in the long-term (Bonds or richly priced Growth stocks).
Growth to Value Switch?
There is growing anticipation and discussion over when investors will switch preference for investing in the winners of recent years (the expensively priced Growth stocks – where KMD is underweight) into the laggards (the cheaply priced Value stocks – where we are now overweight).
Our analysis suggests this trend has not yet picked up in a meaningful way. A notable out-performance – from Value over Growth stocks – has begun, albeit only in British and European stock markets covering just the past few months.
The UK’s FTSE 250 equity index – a barometer for domestically orientated firms, aka Brexit victims – has surged by 10% since the middle of August, in advance of a positive Brexit outcome looking increasingly likely. Sterling also rallied by circa 5% against most major global currencies over the past three months as the pendulum swung modestly away from extreme pessimism.
However, such Value-to-Growth rotation trends have been far smaller and quite short-lived in the US and Japan, albeit some past big winners have fallen back. In the Asian region, the reverse trend has actually taken place, perhaps in hope of a trade war resolution which would be supportive of their technology/growth driven economy.
We therefore do not yet see evidence of a full reversal into those Value companies, which history has favoured over time. It is more likely this is a sign that some of the (cheaply priced) casualties of Brexit simply got too cheap and have since seen their prices rebound accordingly (from an oversold position) as Boris Johnson appeared to make some progress towards ending the Brexit saga.
KMD portfolios – last quarter
The dynamics over the past three months have been very helpful for our portfolios as some of the lost ground has been worked back versus comparable benchmarks. We have benefitted from conventional Bonds under-performing (as we think these assets are overpriced), Sterling assets out-performing (we think these are too cheap) and Growth assets net under-performing (these are too expensive).
The sheer speed and scale of the snap-back of UK domestic stocks, in particular, highlights just how quickly (and by how much) undervalued assets can re-price in the event of a sudden rush of the herd. We continue to prefer being early into ‘sensible’ trends, given the impossibility of market timing, even if these may frustrate when not moving in our favour.
We believe this mini-rotation – since our last Investment bulletin – may well serve as a possible warm-up to some of the trends that could eventually reward the patient, long-term investor.
The details, views and opinions expressed above are KMD’s, can change at any time and are not intended to be advice or a solicitation to make an investment. Professional advice should be sought before acting on any information contained in this document. The value of investments can fall as well as rise and your capital is not guaranteed. Past performance is not a reliable indicator of future performance.
BSc (Hons), IMC, MCSI, MIMA
Chartered Wealth Manager
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