Log inMarket Update – 24th January 2022 from Jilly Mann
Market Update – 24th January 2022
Our arrival into 2022 has been eventful for markets thus far and we have seen sustained volatility in recent weeks. It has been a while since markets have been trending downwards for a prolonged period and over the last couple of years investors have become used to seeing markets moving progressively upwards. This means that they tend to readily forget the basic premise of investment markets, which is that they can go down as well as up. Whilst we as investment managers do everything we can to ensure that that trajectory remains upward, unfortunately there are times when that may not be the case.
I think it is important to keep context in mind though. This latest bout of market uncertainty cannot be described as prolonged in any way, because put simply, it isn’t. After the best part of two years of positive returns, it is easy to consider a few weeks of uncertainty as prolonged, but in the grand scheme of investment cycles, such a timescale is but a moment in time. That is not to diminish investor concerns and it is right that we are held to account over the performance of your hard earned savings, but we must not overreact to what is just a moment in time and one from which we are confident we are well placed to bounce back strongly from.
In this update, I will focus on market performance, the causes of this recent market uncertainty and why we don’t believe that this current bout of negativity will turn into anything prolonged.
- Overall Market performance
- The US stock markets
- The FTSE 100
- Japan and China
- The Federal Reserve and Central Bank tapering
- UK inflation and fiscal policy
- Russia and Ukraine
Overall market performance
The graph below charts the major stock markets, the Telford Mann Score 4 (Moderate) growth portfolio and the UK 10 year Gilt return (the return on UK Government Bonds, traditionally considered to be a safe haven asset). The time period charted is the last two years, which incorporates March 2020 when Covid changed the world and brought about a significant fall in global stock markets.
The US stock markets
The purple line (A) represents the Nasdaq 100, the US technology index, which has been soaring in the wake of lockdowns and the world’s reliance on technology. We have held funds that have directly benefitted from this trend and the associated positive returns, such as the Bailie Gifford American fund. We sold this fund in December over concerns that the US technology market would be vulnerable if we saw a greater focus globally on stock fundamentals, such as real assets held and price sustainability. As the chart demonstrates, the Nasdaq has lost over 20% since mid December 2021 to date. The S&P 500, the US’ blue chip stock market, has followed a similar pattern and has lost over 10% since late December 2021. When the US market falls to any degree, the rest of the world still catches a cold and so it isn’t straightforward to avoid contagion falls in other markets globally. What has been interesting is that other markets haven’t fallen anywhere near as much, albeit they hadn’t soared to quite such highs previously.
In the December market update, I spoke about shifting more of the portfolio to asset back holdings and more boring funds, for want of a better description. We referred to the Artemis Global Income and Schroder US Mid Cap funds and whilst these two funds are still down year to date, they have held up an awful lot better than their peers and we think they are in a much stronger position to rebound once markets settle down, because the logic and the appetite at that point will start to focus much more on how the underlying stocks can cope with inflation and post-Covid operational challenges, compared to some technology stocks who don’t have the infrastructure in place to reposition themselves for a period when market competition will be much more difficult than in a lockdown world, when they could simply name their price for their latest idea. We don’t think all technology stocks are like this, irrespective of their trading price. The likes of Amazon and Microsoft are imbedded in our world and are more than just the basic entities they started life as, but there is much more uncertainty in the technology sector than other areas and so we accept that we have to ride out these weeks which don’t look particularly appealing in order to see them thrive again.
The FTSE 100
If we now turn to the FTSE 100 on the chart above. Since January 2020, the overall return of the FTSE 100 has been 5.70%. That equates to 2.85% as an annual return. Undoubtedly, the green line on the chart above is ticking upwards since the start of December 2021 relative to other markets falling, but this in itself fits with our view of the world. I mentioned in December that we were adjusting our UK equity exposure, with the UK now clearly our favoured equity market. The majority of our current UK holdings are biased towards the FTSE 100, with a fair allocation to UK smaller companies included as well. This polarised view of the UK stock market is where we think the bulk of future returns will be achieved. UK large cap holdings which have been undervalued by the market for too long and UK smaller companies who can finally benefit from the “Brexit” effect and increasing Merger & Acquisition (M&A) activity in the UK market, something which has been booming of late.
We don’t typically consider the FTSE 100 to be a fair comparator to our portfolios. It is simply comparing apples with pears as the saying goes. Our portfolios contain a mixture of equity, fixed income, property and cash. This is in contrast to the FTSE 100 index which is 100% equity. We do reference the FTSE 100 from time to time, because it tends to be a measure which many of our investors are familiar with. The chart above shows that over 2 years, our score 4 (Moderate) Growth portfolio has outperformed the FTSE 100 by over 15%. That said, 2 years remains quite a short period of time.
The chart below shows the comparison between our score 4 (Moderate) Growth portfolio and the FTSE 100 index over a 15-year time horizon and the difference is marked. The Telford Mann Score 4 (Moderate) Growth portfolio has outperformed the FTSE 100 over that time period by 52%. To put in another way, it has generated an extra 3.5% for each of the last 15 years, whilst taking significantly less risk than investing 100% in shares.
The FTSE 100 in itself is an unusual index in the sense that despite it comprising 100 stocks, it is a concentrated index, with a bias towards a few sectors such as mining, tobacco, healthcare and financials. These are the very sectors which we invested successfully into towards the end of 2020, but which fell out of fashion again as markets settled down. We have been waiting for these sectors to become attractive again and we made that shift in December 2021 to increase our exposure to these assets. It would be easy to look solely at the return of the FTSE 100 across the last year and think that in hindsight it was obviously the only place to have been invested, but the FTSE 100 is not that linear given how concentrated its underlying investment universe has become. We are positioned for this latest global uncertainty to pass and we are invested in funds which should do well in that ensuing environment.
Japan and China
I wanted to touch on the Nikkei 225 as well. The first chart in this update shows that the Nikkei is up just over 7% over 2 years. The JPM Japan fund, which we own is up over 18% during the same period. We haven’t owned it throughout the whole of the 2 years and have managed to pick up some good returns by owning the fund at the optimum times. That said the JPM Japan fund is struggling at the moment due to some of the specific underlying stocks not performing as hoped. We are keeping this fund under review, but this fund has been the best performer in the sector for some time now and so we don’t want to be hasty in replacing it when it could reverse its losses as quickly as they happened. Japan remains a favoured region for most asset allocators at the moment. By asset allocator, I mean fund houses themselves who run multi asset portfolios for clients and who remain overweight Japan given the strength of Japanese companies, the overall economy and the amount of pent up cash waiting to be distributed. We don’t typically follow the herd when it comes to our investment strategy, but I point this out solely to reference that we have to look beyond the short term and if the investment case remains strong, we can’t simply always sell out to avoid losses in certain funds or sectors all of the time. Patience is required over the longer term, even though one perhaps doesn’t always feel like the longer term is a luxury we can afford ourselves to consider.
I think it important to touch on China as well. It poses the perennial human rights debate, but as an investment market, a stronger China is an important catalyst for the broader Asian and Emerging world. China has shown signs of a recovery in recent weeks. The Baillie Gifford Pacific fund has some exposure to China, but as I have mentioned in recent updates, we have been nervous about having too much Chinese exposure whilst they focused on their domestic policies. I don’t think that policy focus will change any time soon, but they themselves cannot afford to have their economy stuttering and the Chinese Government have intervened. They have just cut interest rates on property loans, having earlier in the week cut rates on other short and medium term lending. China’s central bank “should hurry up, make our operations forward-looking, move ahead of the market curve, and respond to the general concerns of the market in a timely manner,” People’s Bank of China Vice Governor Liu Guoqiang reportedly said on Tuesday. There is a growing feeling that further stimulus measures will be introduced shortly and whilst this is happening as a result of economic slowdown, the net result will be positive for markets. This could signal an opportunity to top up our allocation to the region. The chart below demonstrates how powerful such Government intervention can be, if we consider the positive uptick on the chart below of the Hang Seng index year to date since stimulus measures have been introduced.
The Federal Reserve and Central Bank tapering
I wanted to touch on what we can expect in the coming weeks. Market concerns surrounding inflation and Central Bank tapering are predominantly hampering returns at the moment. The US have already signalled that they are going to taper their market support, increase interest rates and try to bring inflation under control. The market knows this and is expecting this to happen, however, ahead of the next Federal Reserve announcement, when they will likely set out the timescales for this to happen, the markets have grown nervous. The timescales have been widely touted for some time and so this nervousness is not seemingly arising from an unknown, but perhaps an attempt by markets to force the Federal Reserve to delay the process. There is little logical economic reason to delay the process as the economy is booming, jobs data is supportive and inflation is rising. The Federal Reserve, if they act, won’t be doing so from a position of obvious weakness, but as we saw in 2013, when the Federal Reserve tapered their approach after the Global Financial Crisis of 2008/09, markets just don’t like the concept.
Markets do like certainty and our expectation is that the Federal Reserve will proceed as planned and those stocks who have set out their stall for this changing economic environment will continue to do very well and those whose houses are built on slightly more sand, will see sustained wobbles in their stock price.
UK inflation and fiscal policy
In the UK, the situation is potentially more fluid. There is increasing pressure on the Government to pause the intended rise in National Insurance in April 2022 and the freeze on the personal allowance. Combined with rising inflation and the energy price cap which is being introduced and which will see many households incur much higher energy bills, wage inflation which has been strong in the UK is still not keeping pace with the cost of living. Adding tax on top of this situation wouldn’t be a popular move at a time when the Government need to shore up their popularity and this could be a headwind for strong UK economic performance in the future.
There seems to be a difference of opinion on this between the Treasury and the Prime Minister. Johnson v Sunak is starting to feel like the 21st Century version of Blair v Brown. They may not change course and all of the proposed measures may proceed as intended, but I wouldn’t be surprised to see some tempering of those proposals, which would be a further upside for the UK economy and stock market.
Russia and Ukraine
When it comes to Russia and Ukraine, despite the rise in oil price, the Russian fundholding has dropped back of late. We are monitoring this and will sell out if we think it is the sensible thing to do. The problem is that Europe is reliant on Russia for energy supplies and whilst the Russian stock market is more than just energy, add in sentiment concerns and issues over stock trading ongoing and despite the theory, the reality may be further potentially unwarranted falls. It is hard to see how President Biden is positively affecting the outcome of this dispute with the backdrop of the chaotic Afghan exit still fresh in people’s minds. On Joe Biden’s premise that the West shouldn’t fight other people’s wars, I suspect that Vladimir Putin will do exactly as he wishes and will wrestle control of Ukraine through a pro-Putin leader. An absolute invasion seems unnecessary based on those tactics. Europe aren’t in a position to alter this dispute given their reliance on gas from the East and so energy prices continuing to rise is a trade we are considering topping up as a result of this development.
Summary
This update is intended to provide some context around market conditions. However, unsettling it may feel, the short term has never proven to be a good barometer for longer term performance. That isn’t to brush past periods of negativity, but the recovery from a global pandemic was never going to equate to a straight line upwards of positive returns. There will be challenges along the way, all of which we aim to avoid, but in reality, sometimes we just have to ride out such periods.
We feel that we may have been perhaps a little early into some of our positioning, but with global markets bringing inflation, interest rate, fiscal and geopolitical concerns together all at the same time, we remain confident that we are invested in the right place for the next stage of the recovery. As the recovery extends, market positions will take longer to play out. The heat of the pandemic is lessening and with more normal market behaviours returning, we have to adapt accordingly and we would rather be too early into a position, than too late.
Our focus never changes in that through our portfolios we aim to produce reliable, stable returns for our investors year in, year out. If we can do better than that, then so be it, but we never lose sight of the fact that these are your monies that you are often reliant upon in retirement and so please be assured that we continue to work with that in mind through the changing conditions of 2022.