Investment Newsletter - November 2014

Investment Newsletter November 2014

Watch and Weight Mike Deverell Investment Manager

In last month’s newsletter we explained how stockmarkets had dipped sharply, with the FTSE 100 down by around 10% at one point.

It is heartening to be able to write this month’s issue with most markets much higher. For example, the S&P 500 in the US, which fell just as far as the FTSE, has not only gone back to where it had been before the dip, but is making new record highs. The Nikkei in Japan has hit a seven year high.

However, whilst the FTSE 100 has bounced, as I write (the afternoon of 12 November) it stands at around 6,600, still 4% below this year’s peak of 6,878.

This bounce has of course been very welcome. As you may recall from last month’s newsletter, we used market volatility as an opportunity to top up equity in a process we call “volatility trading”. Before the dip we had been “underweight” equity (holding less than usual) which

helped to mitigate losses when markets fell. We then bought FTSE trackers at around 6,500 taking us back to a “neutral” weighting and then again at around 6,240 taking us “overweight”.

The tracker we bought at 6,240 was sold at around 6,500, so a gain of around 4% on that fund is now “in the bank”. The fund bought at 6,500 is still held but is now showing a profit. This means we’re now generally back to a neutral equity weight – we hold our usual long term amount for most clients.

It is great to bank gains, but whilst this is pleasing you may ask why the FTSE remains below its peak while other markets have recovered?

The FTSE is a market cap weighted index of the 100 biggest companies in the UK, which means the largest companies having the biggest weighting in the index.

Equilibrium Asset Management LLP (a limited liability partnership) is authorised and regulated by the Financial Conduct Authority. Equilibrium Asset Management is entered on the Financial Services Register under reference 452261. The FCA regulates advice which we provide on investment and insurance business; however it does not regulate advice which we provide purely in respect of taxation matters. Copyright Equilibrium Asset Management LLP. Not to be reproduced without permission.

Investment Newsletter November 2014

Watch and Weight cont’d

The biggest company in the index (when you add together their two share classes) is Royal Dutch Shell.

This is down 9.25% from its 1 September share price.

BP is also down by more than 11% from that date. These two oil giants between them account for over 14% of the FTSE 100.

Part of the reason these stocks have fallen so, is the oil price. In June Brent Crude Oil was $115 US a barrel and even at the beginning of September it was more than $100. It now stands at around $81, almost 30% down from June.

Other Assets

This highlights some of the issues with indices. Like a fund, whether an index is a good investment depends partly on market conditions. You need to be aware of what is held in an index just as you need to know how a fund manager selects his stocks. There are some times when we want more exposure to index trackers and some times where we want less.

For the past year or so we have generally had less exposure to the main UK indices preferring actively managed funds, particularly with more exposure to smaller companies.

This is partly offset by a rising dollar relative to the pound but clearly such a big drop has an impact on the revenues of BP and Shell. This is part of a wider dip in commodity prices which has a disproportionate effect on the FTSE as it has greater exposure to commodity related stocks than many other markets.

Whilst we have topped up exposure to the index after the recent dip and remain confident the FTSE will return back to past levels, once it does so we will look to bank gains on the tracker purchase and reduce index exposure once more.

Of course we do not just invest in UK equities and it is pleasing to report that most client portfolios are now worth more than they were before the market dip, even though the FTSE is still down.

The pension fund will also concentrate much of its focus on those Japanese companies that are seen to have the best corporate governance. Again, this aids the government’s policy of trying to streamline Japanese firms and improve shareholder returns, by incentivising companies to improve.

This is due partly to gains on our volatility trading, but also impressive performance of other asset classes.

Notably, our property exposure has continued to make steady gains and our alternative equity funds also generally made money even whilst markets fell.

As mentioned earlier, other stockmarkets have done better than the UK and in particular Japan has seen a big jump. We have been very optimistic about Japanese shares for some time believing the market there represented better value than many other regions. In addition, we felt it had a central bank and government whose policies were very supportive of their stock market.

Japan has numerous long term problems but we remain convinced of a shorter term opportunity. By diversifying across different asset classes and markets, and weighting more towards those we feel have the best short term prospects, we aim to reduce volatility and enhance gains.

The past couple of months have been challenging but this philosophy has really helped and has allowed portfolios to come through market turbulence not just unscathed, but better off as a result.

This point was hammered home to more sceptical investors in the last couple of weeks by two co-ordinated events. Firstly, the Bank of Japan boosted their already massive quantitative easing program significantly at a time when the US was ending their own program. Other quantitative easing programs around the world have focused on buying government bonds, only indirectly helping their stockmarkets.

In Japan they are not just doing this but are also buying assets such as equity ETFs (exchange traded funds) which means they are directly investing in the market.

At the same time, the Japanese state pension fund has opted to massively increase the amount of equities they hold both in Japan and overseas. Other institutions are likely to follow suit. Clearly, the more buyers in a market the more likely share prices are to rise!

Equilibrium Asset Management LLP (a limited liability partnership) is authorised and regulated by the Financial Conduct Authority. Equilibrium Asset Management is entered on the Financial Services Register under reference 452261. The FCA regulates advice which we provide on investment and insurance business; however it does not regulate advice which we provide purely in respect of taxation matters. Copyright Equilibrium Asset Management LLP. Not to be reproduced without permission.

Market Views November 2014

General Economic Overview Despite recent concerns, the global economy continues to do well. Worries about recession in the Eurozone have receded slightly after recent figures from Germany and France were better than expected.

Inflation remains very low and could move lower in the short term, with falling oil prices adding to the recent trend. This may mean the Bank of England delays increasing rates until the latter half of 2015.

Asset class key + positive - negative = neutral (normal behaviour)

+5 strongly positive -5 strongly negative

Asset Class

Score

Equity Markets After the recent market dip we upgraded our score to a +3. Given the recent rebound we have reduced our score to a +1, which still means we have an overall positive outlook. We remain especially positive towards Japan, China and Asia in general.

+1

Fixed Interest We believe that fixed interest will return less than our neutral 6% pa assumption over the next 18 months. Rates may go up mid to late 2015. We prefer shorter duration bonds and corporate bonds over government bonds.

-3

Commercial Property Property is still seeing a lot of momentum and money flowing into the sector, pushing up property prices. We are just starting to see falling vacancy rates and rental increases which will aid the asset class.

Cash With interest rates remaining at record lows, returns on cash will remain below average for the foreseeable future. Rates may increase by 0.25% perhaps mid to late next year.

+3 -5

Balanced Asset Allocation For a typical balanced portfolio we are underweight fixed interest and overweight property, we have a roughly neutral position towards equity and alternative equity.

A neutral score (=) means we expect the asset class to move in line with our long term assumptions: 10% pa for equity, 7% for property, 6% for fixed interest, 5% for residential property, and 3% for cash. A +5 score means we think the asset class could outperform by 50% or more. A -5 means we think it could underperform by 50%. A negative score does not necessarily mean we think the asset class will fall.

These represent Equilibrium’s collective views. There are no guarantees. We usually recommend holding at least some funds in all asset classes at all times and adjust weightings to reflect the above views. These are not personal recommendations so please do not take action without speaking to your adviser.

The value of your investments can fall as well as rise and are not guaranteed. Investors may not get back the amount originally invested.

Equilibrium Asset Management LLP (a limited liability partnership) is authorised and regulated by the Financial Conduct Authority. Equilibrium Asset Management is entered on the Financial Services Register under reference 452261. The FCA regulates advice which we provide on investment and insurance business; however it does not regulate advice which we provide purely in respect of taxation matters. Copyright Equilibrium Asset Management LLP. Not to be reproduced without permission.