Although you will have recently received my November Commentary and I have nearly finished my Quarterly Commentary for the period ended December, I am writing to you now in light of the dramatic fall in equity markets, led by the US, in the last two weeks.
I have started my Quarterly Commentary with the quote “It’s the politics stupid” in deference to Bill Clinton’ s comment “It’s the economy, stupid” made during his first Presidential Campaign.
As I will discuss in more detail in the Quarterly Commentary global economic activity is slowing naturally from an unsustainable pace and automobile emissions standard changes exacerbated this slowdown in Europe. The ending of QE (Quantitative Easing) is also withdrawing liquidity from financial markets, accentuating market movements.
However, the biggest issues of late have been the Brexit impasse and Mr Trump acting as if he is toying with the idea of interfering with the independence of the Federal Reserve.
Investors have been dealing with the former issue for a while now and have already significantly de-rated U.K. stocks, currencies and other assets, as will be demonstrated in the Quarterly Commentary.
The issue with the US is that investors bought into Trump’s fiscal expansion and piled in even though it was only a short term boost. 2017 was the first year ever in which the S&P 500 rose every single month. The end of last year and the beginning of this year saw huge inflows to US equities and optimism touched all time high levels. We had been wary of this and (wrongly until recently) light of US shares.
What we have witnessed in December is the mirror image. We have seen the highest outflows since 1992 and pessimism prevail. Raymond James reported that internet searches for the word “recession” are at the highest level since 2009. Very seldom do recessions occur in such a well telegraphed way.
We should also remember that the developed world is currently seeing synchronised wage acceleration and the recent fall in oil prices further boost consumer disposable incomes.
Furthermore, as will be demonstrated in the Quarterly Commentary, most of the world suffered a severe economic slowdown in 2014-2015 (which is why the 2016-2017 rebound was so strong) and most equity markets except the S&P 500 fell over 20% into a Bear Market. The FTSE escaped at a mere 19% but both here and in the US the median stock fell more than 25%. So whilst technically true, the assertions that we have had ten years of uninterrupted economic growth and rising equity markets is misleading.
As ever we have seen things wax and wane on the way.
Despite President Trump’s idiosyncratic approach to politics I would be astonished if his advisers didn’t spell out in clear terms the harm he would do to his country by ending the independence of the Central Bank. So I think it very unlikely it will happen. I have been through several US Government shutdowns and the Press cares more about them than business or investors.
What we will also show in our Quarterly Commentary is that at the beginning of the year we had plenty of cash in anticipation of more volatile times ahead. We have systematically and incrementally invested this cash as valuations become more attractive. We have also reorientated away from more expensive areas into cheaper areas where fundamentals have scope to improve as clarity emerges. This includes each of Asia, Europe and the UK. At worst things will be less unclear post March 29th and many U.K. assets are unequivocally cheap. So while we won’t be immune if stock markets continue their downward lurch we remain diversified and are still not at our maximum equity exposure. Furthermore our cash levels are still above average so we can take advantage of further downward moves.
Italy, France, Germany, China and the U.K. are all set to ease Fiscal policy next year so it is likely the much anticipated economic disaster will be avoided (short term hard Brexit disruption notwithstanding).
Across the globe now, even in the US after the recent fall, equity valuations are somewhere between below average and cheap. Whilst they can always get cheaper short term, history shows buying shares on below average valuations after meaningful falls almost always yields positive medium term results.
As mentioned many times before, in order to deliver positive real returns over time we need a stream of rising dividends off of a decent starting yield. We have this at the moment and will remain disciplined such that we will never get too carried away when returns are way above trend and never get too despondent when, as now, we are in a period of giving back.
Despite the recent turmoil I wish everyone a Merry Christmas and Prosperous New Year.
Chief Investment Officer
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