Investment Note June 2015

Market news

Global stock markets recovered from the December sell off when oil and mining stocks led the market down amid fears of a slowing economy as the price of oil stayed at the lowest level since 2009.  But the stock market was prone to bouts of profit taking owing to the distractions of a number of geopolitical events and human tragedies ranging from conflict in the Middle East and Ukraine and renewed speculation over a possible Greek exit from the eurozone.

As has become the norm, stock and bond markets were heavily influenced by the actions of central banks. The US Federal Reserve maintained a dovish stance by keeping interest rates near zero despite having wound up their quantitative easing policy in October last year.  Janet Yellen, Federal Reserve Chairman, did her best to convince markets that the signs of economic recovery were there and that interest rate rises, whilst not imminent, would be data dependent. They are now clearly focused on employment data and quality of jobs and wages in guiding their decision on the timing of interest rate rises.

In the UK, the economic picture was brighter with falling unemployment and rising GDP which boosted growth to the highest among western nations. Inflation fell to zero in February and prompted concern that rates should actually be cut although much of it was caused by the halving of oil prices. Bank of England Governor, Mark Carney, came under pressure to justify keeping interest rates on hold at 0.5% although the interest rate setting committee returned to a unanimous vote in favour of doing just that. The 10-year Gilt yield recovered spectacularly from 1.33% in January to 1.8% a month later; the third biggest loss in the value of gilts in 20 years.

The ECB lowered overnight interest rates to negative and Mario Draghi, president of the ECB, moved to fight off deflation by announcing a quantitative easing programme of 1.1 trillion euros involving the purchase of eurozone bonds until the end of 2016. The outlook for Germany in particular was also impacted by the escalating tension between Russia and Ukraine where German Chancellor, Angela Merkel, took on the role of chief EU negotiator and with harsher sanctions than many expected. Against this backdrop, a strengthening of the US dollar in anticipation of higher rates, hit commodities as well as giving cause for concern over emerging markets and their US dollar denominated debts.

Six Month Outlook and Beyond.

The timetable of the Federal Reserve's policy of rate rises is now firmly focused on unemployment and the quality of the jobs and wages. Developed stock markets are pushing new highs even as economic data out of the US has disappointed in Q1. However, corporate sales, profits and forecasts are good enough to support equity valuations which have continued to rise to levels that do not make equities notionally cheap other than in a relative sense compared to Gilts which remain persistently strong despite the threat of interest rises.

The divergence between the two is understandably impacted by a combination of continued trouble in the eurozone and any number of geopolitical events and human tragedies which unfolded throughout the year. In short, nervous investors have been quick to take profits. We at TAM have taken advantage of oversold markets and invested where we believe the opportunities outweigh the risks.

This has been rewarded as markets decided that valuations are supported by company profits. The only caveat we have going into Q3 2015 is that we note that corporate success has come about as a result of high margins which may not be sustainable. If sales growth falters at a time when shares are trading at new highs again, we may review our bullish stance and take profits ourselves. This kind of market ultimately demands this investment approach. In the meantime, with the US Federal Reserve likely to raise interest rates in September, we will look to take profits in equities to reduce portfolios weightings to neutral. We expect to keep investments in very selective themes where we are pursuing a specific strategy, such as Japan. The reduction would be a precautionary measure and does not alter our longer term view in which we believe that large parts of the bond market are simply too risky to invest in given the extraordinarily small returns on offer.



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