Please find below our Investment Market Update as at 18th March 2022.
An upward trajectory?
Perhaps it is stretching the point slightly when I say trajectory, because I’m only referring to 20 days of data, but it does reinforce my previous musings as to how we expected investments markets to behave following the invasion of Ukraine. All our portfolios have risen in value from the 24th February through to the 17th March 2022.
Early days I know, let’s hope the peace talks deliver. In monetary terms, the prospects of the war ending will be a boost to equities and will deliver much needed confidence.
The money markets are forward looking, sometimes with too much optimism but, of late, I would argue too much pessimism. Confidence is again key but as I have stated before, the significant driver is the outlook for corporate profits. Of course, the potential for profits is influenced by monetary policy. Recently, the issues being how quickly will quantitative easing be tapered and how aggressive will interest rates rises be? Rising interest rates are regarded as not being good news for those companies who are heavily leveraged with debt, particularly those fast-growing companies (small technology companies).
So, why the increase in equity prices?
As I have mentioned before, investment markets now know what they are dealing with to a certain extent – now that an invasion as happened. After the initial shock, there is no longer the question ‘will he or won’t he invade’? There are, of course, many other uncertainties around the conflict which could create a drag on sentiment but as we have observed in previous conflicts around the world over the decades, investment market sentiment typically improves once a conflict has started. The uncertainty beforehand is generally more debilitating, from an investment point of view.
The last two days have seen another major uplift in equity prices which is once again a reminder of why it is dangerous to exit when things are bad. More often than not, the best time to invest is when sentiment is at its weakest – well done to those who have joined us recently as new clients and those clients who have committed more capital in the last few weeks.
The main reason for the general uplift is because of the rhetoric from the Federal Reserve (Fed) Chair, Jerome Powell on Wednesday of this week when he said the US economy was strong enough to survive tighter monetary policy.
As reported in Bloomberg, he then went onto state the probability of a recession within the next year was not particularly elevated, despite the war in Ukraine, higher energy costs and the increase in interest rates required to combat the highest inflation in 40 years. Powell has repeatedly pointed to the strong labour market and said some of the drivers of inflation should ease later in the year, more or less naturally. Let’s hope he’s right!
Interest rate rise
The above comments from Powell followed the decision by the Central Bank to increase interest rates in the US for the first time since 2018. The rise amounted to a quarter of a percentage point hike, meaning rates are now 0.5%. Importantly, this is the first of what the US Central Bank officials expect to be another six increases in interest rates this year. Yes, that’s right… seven interest rate increases in total for 2022 in the US!
In the UK, interest rates also increased again from 0.5% to 0.75%. The third increase in four months! The Bank of England’s (BoE) Monetary Policy Committee noted that inflation is expected to increase further in the coming months, to around 8% in the second quarter of 2022 and perhaps even higher later this year.
But bad news seems to be good news!
Sometimes we can observe record profits from a company, but the price of their shares can strangely fall. This seems at odds with the results around profitability. It is the accompanying detail from the said company which is of more interest to investment markets. Like with the BoE and the Fed, what is of most interest to the markets is what they think is coming down the tracks.
This forward guidance is likely to dampen enthusiasm for spending and will probably result in a lower Gross Domestic Product (GDP) number for US economic growth, with the median estimate being moderated to 2.8% from the 4% predicted in December.
In essence, investment markets have assimilated the thought of higher-than-expected interest rates and are relieved to hear that they won’t be raised too highly to knock the economic expansion off course (Bloomberg).
A bit like fly fishing!
Managing an economy in this environment is a bit like fly fishing. It requires skill, experience, a deft touch and some patience. If you do love fly fishing, then let me know if this is accurate but this is just my observation.
There is no doubt that it is a difficult balancing act between maintaining growth and preventing a slowdown which could ultimately manifest into a recession. Managing the economy in more tranquil waters is relatively straight forward but Central Bank officials will have to be very alert to signals from their respective economies to avoid a plunging into choppier waters.
Sorry. Couldn’t resist!
So, how have our portfolios fared in the last 20 days?
These figures are downloaded from FE analytics and are gross figures for the period. The 24th of February being the date of the invasion into Ukraine.
- LGTV Growth 1.01%
- LGTV Sustainable Growth 2.77%
- Infrastructure 7.07%
- Sapphire Growth 4.02%
- Momentum 2.33%
- Target 2.89%
- Global Themes 4.77%
What have been the best funds?
- Royal London World Trust Acc. 4.11%
- L&G European Trust 4.14%
- Lion Trust Future European Growth 5.68%
- L&G All Commodities ETD USD 6.14% (although down from 9th March by -8.92%!)
- L&G Global Technology Index 4.09%
- Black Rock Continental European 6.32%
- AXA Framlington Global Thematics Z Acc. 5.97%
- L&G Global Thematic Acc. 5.01%
- Sarasin Thematic Global Equity Acc. 5.37%
What have been the worst funds?
- Bailie Gifford Pacific -1.31%
- Sanlam Artificial Intelligence -5.47%
For reference the FTSE 100 has posted a return of 2.47% over the same period and the S&P 500 a return of 3.80%.
So called safe haven assets, like UK Gilts, have posted -3.0% and UK index linked Gilts – 4.87%.
Why has Infrastructure suddenly come into its own?
We have long argued that the Foresight Infrastructure holdings we have in our stand-alone infrastructure portfolio and the Sapphire holdings aren’t a proxy for global equities. We chose them before the outbreak of Covid as an alternative to UK Commercial property, the similarities being that this was an investment into physical assets, and they provided a healthy yield. They were meant to be somewhat of a diversifier to equities as opposed to investing into fixed interest stock like gilts and bonds. A move we have been pleased with despite periods of underperformance.
We have engaged frequently with Foresight in recent months to ensure that their infrastructure assets continued to be fit for purposes for what we required and to understand the resonance of the funds, in tandem with the main markets.
Foresight kindly sent us an update on Wednesday of this week about their global real infrastructure fund which they are happy for me to share with you. I believe this is a worthwhile read.
The journey of the Global ‘Real’ Infrastructure Fund over the last 12 months:
- Renewables, having previously provided significant positive performance, started to cool from around Jan 2021. This was partly due to profit taking, the continued rotation from growth towards value and a general consensus that valuations were quite lofty. At this time, we made the call to go underweight renewables (based on valuation grounds) and overweight infrastructure.
- Then came increased rhetoric from central governments from around the world about the possibilities of increasing interest rates to counter inflation, more quickly and in greater steps than was originally anticipated.
- This is generally bad news for fixed income type investments. Whilst infrastructure/renewables aren’t technically fixed income, they do share some similarities, further leading to cooling of prices. What we believed at this point, was that the market was generally pricing in interest rate increases but not necessarily pricing in the inflation protection the underlying companies and their income streams which are a feature of infrastructure. We decided at this time to go overweight renewables (again, based on valuation grounds) and underweight infrastructure.
- Then came the conflict in Ukraine and further Government rhetoric surrounding a transition away from energy reliance from the East, in favour of domestic and Western supply. This dovetailed with issuance of financial statements from our underlying companies highlighting their increased revenue streams based on higher domestic inflation and energy prices.
Both factors led to increased support for the industry which has fed into the share price.
You’ll notice our bounce is far more prominent than our peers. The reason behind this is again due to our focus on ‘real’ physical infrastructure/renewable assets as opposed to equity stocks operating on the peripheries. The latter stocks generally performed well during the rotation period, but we anticipate their performance to be far more checked going forward given their income streams are more sensitive to GDP growth which looks set to be weaker over the short to medium term.
Valuations of some of our holdings have been unjustifiably low in some instances over the last 12 months, based on very little other than sentiment. The underlying performance (and revenue streams) of the companies we hold have remained in line (or ahead) of expectations throughout.
Looking further ahead, whilst the general consensus was that COP 26 failed to deliver the commitments really required to mobilise a ‘green revolution’ there is no doubt in our minds that the Ukraine conflict has brought energy back to the forefront with Government policy likely to bring forward initiatives, and therefore the transition, potentially by decades.
Whilst Environmental, Social and Governance (ESG) stocks have taken a bit of a hit in recent times with a general flight to ‘safe and steady’ stocks such as banks, utilities and industrials, it’s hard to imagine this is anything other than short-term.
We can thank Putin’s actions and Zelensky’s heroic response for, arguably, unifying the European Union and the West to a degree to which we have not seen in recent decades. Prior to this, the global direction of travel has been isolation and protectionism although this may well be the turning point. Nations, unified, have implemented unprecedent economic sanctions against Putin and Russia. If they are aligned to anything near that degree on what comes next (the transition of energy) then the industries of old may well find themselves in fairly choppy water unless they really embrace change and quickly.
A quick update today
European shares are on track for their best week since November 2020, although analysts warned of further volatility ahead driven by the war in Ukraine. The Stoxx 600 share index traded flat in early dealings but was a fraction below its closing level of 23rd February, the day before Russia launched its invasion. The regional gauge remains almost 8% lower for the year but had rallied alongside global stock markets earlier this week.
We’ll continue to see big swings periodically but the outlook financially for investors is more upbeat than it was three weeks ago.
… and to make things feel even better, Spring is here. And dare I say it my team, Everton, actually won a game last night!
Enjoy your weekend.
Gary and the Blue Sky Investment Team
Please Note: This communication should not be read as giving specific advice regarding your personal circumstances. This would only be given following detailed assessment of your individual needs. The value of investments may fall as well as rise; you may get back less than invested. Past performance is not necessarily a guide to future returns.