Have Your Investments Been Trumped?

Probably not or not yet! I have never received so many invitations to hastily arranged webinars by investment companies as I did on Wednesday morning after the US presidential election. In addition I was also bombarded by numerous commentaries and opinions by fund managers. So what are my thoughts on how a Trump presidency will impact the global economy and investments? I suspect you may have read and seen much yourselves so I am going to keep this brief.

As with the EU vote equity markets sold off sharply in the first hour of trading, gold soared and the Yen, a traditional safe haven asset rose against the dollar. However by the end of the day most of these trades had reversed. Markets had concluded that Trump would not be a disaster for the US and global economy, at least in the short term. Investors however play the long game.

It would be fair to say although investment company analysis is mixed, a number of Trump’s economic policies are thought to be a boon to the economy. Massively increased infrastructure spending in the US will create jobs and stimulate economic growth. Materials and construction companies will be obvious beneficiaries. Interestingly this is in tune with the increasing calls globally for fiscal stimulus, including government spending, to play a bigger role in boosting the economy than monetary policy. The latter including QE and interest rate cuts are the responsibility of central banks. Arguably monetary policy has run its course and is now firing blanks.

On the debit side US debt is likely to rocket even if economic growth is turbo-charged generating more tax. This is because US interest rates will rise meaning the cost of government borrowing becomes more expensive. However a Trump presidency will stymie global trade if policies lead to trade wars and tariffs. Time will tell as to how it all plays out. What we can say is that the domestic economy, i.e. consumer spending will continue to be the main driver of the US and hence the global economy.

I am cautious looking forward, irrespective of the Trump presidency. As night follows day stock market falls follow the rallies. It is why profit-taking and risk reduction is still a priority for my advice to clients. Beyond this it is about finding investments that offer real value and prospects for returns uncorrelated to equities. Identifying assets that outperform cash and deliver positive returns in most market conditions is also crucial.

This blog post is intended to be general market and investment commentary only and reflect my own thinking. 1001 other investment opinions are available. Nothing in this article should be construed as investment advice. You should seek individual advice based on your own financial circumstances before making investment decisions.

Price is what you pay, value is what you get

In my last investment blog in reference to equity markets booming and reaching new highs I stated that price and valuation are different. A stock market index peaks but it may not be expensive. Similarly a stock market or a company’s share price may collapse or remain at a depressed level for an extended period, but it does not necessarily mean it is cheap and it is a good time to buy. Such stocks may be “value traps.” The principal here is that these companies are cheap for a very good reason, the market has priced in significant problems with the business, earnings or the balance sheet and sees no catalyst for recovery. Bargain hunters investing on price alone are likely to lose money. They could be described as those who “know the price of everything but the value of nothing.” You meet such people in ordinary life.

Many years ago I was a member of a share club in Northiam, where I used to live. I recall someone suggesting we invest in Marconi PLC. The share price had peaked at £12.50 in 2000, but a year later had fallen to 29p. Had we invested at that price we would have fallen into a value trap because the share price continued to fall to about 8p. The company’s shares finally ceased trading on 16/5/03 and they closed at less than 1p per share. It was one of the most spectacular collapses in UK corporate history.

It was legendary investor Warren Buffet who observed, “Price is what you pay, value is what you get.” A principle of good investment is you need to consider both price and value. Many fund managers such as Neil Woodford of Woodford Investment Management and Nick Kirrage and Kevin Murphy at Schroders are referred to as value investors. They work on the premise that certain stocks are trading at below their fair value because the market has failed to recognise the true worth and turnaround potential of the companies. They buy on fundamentals, including good valuations not just price. Historically a value investment style as it is referred to has outperformed a growth investment style, where companies have more visible or stable earnings. In recent years however markets have favoured defensive growth stocks over the more cyclical value end of the market. Valuations are correspondingly higher however with defensive growth.

Space does not permit a full description of how the value of an index or stock is determined suffice it to say common measures are variants of the Price to Earnings Ratio or PE. This is the stock price (P) divided by earnings per share (E). The lower the PE the less valued the stock is and vice versa. Earnings can be historic i.e. 12 month trailing or they may be a forward projection, which invariably is subject to uncertainty. The single data point suggest a PE measure is crude and it is logically improved by use of the Cyclically Adjusted Price to Earnings Ratio or CAPE. This uses an average of the last 10 years’ earnings, adjusted for inflation, which irons out fluctuations in earnings over different economic cycles. However see below. Another commonly used valuation metric is Price to Book. Book value is the value of a company’s assets on the balance sheet.

Now this all very interesting (or sleep inducing, take your pick) but the key question is this. Is there a link between valuations and future returns? I do not purport to be an expert on the subject but I have seen evidence to suggest the answer is yes. The fund managers of the Schroder Recovery fund referred to above have shown there is a clear correlation between PE ratios and future returns. Schroders very kindly provided a document for me in March 2015 that illustrates their findings:


More recently I undertook some online training with Invesco Perpetual. It was a technical presentation on valuations. They showed a strong inverse correlation between the Price to Book Ratio and 10 years compound annual returns since 1974 (Data to 1/6/16). In other words the lower the Price to Book ratio the stronger future performance. Naturally there will be a scattering of returns for stocks with the same Price to Book ratio but the trend is clear.

Interestingly Invesco Perpetual showed that the trailing or historic PE was an accurate indicator of future returns, in fact more so than the CAPE, which was a surprise to me. They also described a “Composite Valuation Indicator (CVI) which was a combination of three accurate value measures, trailing PE, Price to Book and dividend yield. Invesco Perpetual argued that the CVI is the best guide to future returns with a 90% inverse correlation, the lower the CVI, the higher the returns over the next 10 years.

In conclusion value matters as it provides the essential context to assess the price of a market or individual stocks as well as future potential returns. High prices do not necessarily mean valuations are stretched as well. The rise in a share price or index may reflect strong underlying earnings growth. Finally high prices do not mean certain equity sectors or markets should be avoided. That said I haven’t considered in this blog is if global markets now are highly valued compared to their historic averages? That is something for another post.

Finally I need to say that an analysis of valuation is only part of what a fund manager does before deciding on asset allocation and stock selection. Just looking at valuations would be somewhat simplistic. Central bank monetary policy, government fiscal policy, balance sheet analysis, sector analysis and company management and market positioning are examples of the things they normally consider.

This blog post is intended to be general market and investment commentary only. Nothing in this article should be construed as investment advice. You should seek individual advice based on your own financial circumstances before making investment decisions. Past performance is not necessarily a guide to the future.

Investment according to the Duke of York

It probably did not escape your attention that the FTSE 100 index set a new record high of 7,129 this week before falling back to close at 7,011 on Friday. The post Brexit vote bounce since 23rd June is attributable to the sharp drop in the pound against other major currencies notably the dollar and euro, boosting the value of UK companies’ global earnings. The rally raises a legitimate question whether now is a great time to invest cash when equities are priced so high. At first sight no would appear to be the answer. However in an e-mail on Wednesday to a client who is sitting on a fair chunk of pension cash I wrote the following edited comments.

The concern of investing cash right now is that global equities are buoyant and arguably valuations are expensive in some markets like the UK. There is a risk of a short term sell-off, which could be triggered by faster than expected US interest rate rises or by investors simply taking profits. However that should not be a reason not to invest in the cautious risk funds proposed …. These managed funds have defensive qualities and are run with capital preservation in mind. This is not to say they will be unaffected by a market sell-off, but the impact will be reduced compared to pure equity funds. In a similar way multi-asset and defensive funds will not have captured all of the equity market rally since the summer so there is less downside risk.

As for the more adventurous risk equity funds I proposed it is more complex. The ABC & XYZ US funds invest in my favoured equity market, due to a growing economy and a strengthening dollar (fuelled by expectation of rising interest rates). That said there is political uncertainty with the US presidential election next month and I am concerned about the potential for a regulatory created financial crisis with huge fines levied by the US justice department on the banks such as Deutsche.

On the plus side however the S&P 500 index, a more representative index of US companies than the Dow Jones Industrial Average is up just 1.1% since June 23rd and the German DAX is up 3.1%. In contrast the FTSE 100 index is up 11.5%. The point is the record highs breached by the latter are not necessarily reflected in other markets, meaning the Brexit bounce has been a UK phenomenon. All the equity funds I have recommended were global or US funds, none were dedicated UK investments.”

I would also add to my concerns, the risk of a collapse in over-valued government bonds and political risk with the US Russia relationship dangerously frosty.

With this in mind, for some strange reason this week the old nursery rhyme “The Grand Old Duke of York, ” popped into my head.

The Grand old Duke of York he had ten thousand men
He marched them up to the top of the hill
And he marched them down again.
When they were up, they were up
And when they were down, they were down
And when they were only halfway up
They were neither up nor down.

For those with a historical interest I found a brief article on the possible origins of the poem: http://www.rhymes.org.uk/the_grand_old_duke_of_york.htm.
It seems as if the Duke of York was not a great military tactician – his disastrous actions led to his demise. However some out of the box thoughts come to mind about investment.

*Markets go up, markets go down and they stay still. It is a sure fire thing that when they are up they will go down and when they are down they will go up. Sometimes they will pause for breath and move sideways. Investors should consider banking profits when markets are up and not be scared to invest when they are down. If markets are moving sideways investors should ask what assets might benefit, if any.

*There is more than one hill. Along the valley there are several more hills. The Grand old Duke of New York has his men on one of these and the Grand old Duke of Brussels has his men on another. Just because our man Richard, Duke of York is at the top of his hill does not mean his US and European counterparts are as well. In other words don’t judge the global equity market by the FTSE 100 index.

Finally I must briefly mention valuations. Space does not permit more. It is important to say that prices and valuations are not the same. Just because a stock or index hits a high it does not necessarily mean it is expensive. Strong earnings may support the price and even provide momentum for further increases. Equity analysts and fund manager undertake fundamental research on companies and markets and part of this measures valuations, using PE ratios, Cyclically Adjusted PE ratios, price to book etc. The holy grail of investing is to find good stocks that are undervalued or fair valued with the potential to grow earnings and dividends. More on this in a later blog.

This blog post is intended to be general market and investment commentary only. Nothing in this article should be construed as investment advice. US equity funds or cautious risk investments may not be suitable for you. You should seek individual advice based on your own financial circumstances before making investment decisions.


Last time I wrote about profit-taking. Today I want to tackle a related subject, by a roundabout route – football! I hear the collective sigh from my readers but please read on. Anyone interested in football knows there is much debate about systems i.e. how teams set up; 4-4-1-1; 4-2-3-1; 4-4-2 etc. and about player positions – strikers, defensive midfield players and left backs. Great teams in the past used two strikers. These are the goal scorers who did all the damage – Greaves and Gilzean, Shearer and Sutton, Dalglish and Rush. They are rarely used these days but today there is one outfit who use two strikers; they play for a team called the Profit-Gobblers, a Premiership outfit and they make a great partnership.

Last time I described one of these. I’ll call him Market Crash. He wears 29 on his shirt. He loves gobbling up profits and capital. He is very fast and sneaks up on you whilst you least expect it. His best seasons included 1929 (the Wall Street crash) and 2008 (the global banking crisis). However he is capable of nicking money off investors slowly and without you noticing. He is also brilliant at diving at awkward moments in the game. However he can be contained and given a red card. As I explained in my last post, in my role as first team coach of Investors United a tactic I use is to bank profits whilst possible. However nasty Market Crash is he can’t gobble up profits (or capital) from cash (it gives him indigestion) and he just gets mere morsels from cautious risk funds. Another tactic is to employ a defensive midfielder called Buy and Hold. He is the Eric Dier of the team. He sits in front of the defence and strangely does not engage in profit-taking and he ignores Market Crash for 10-20 years. Why? He has faith in Investors United’s main striker called Mr Equity. Buy and Hold is rewarded because at the end of the game Mr Equity has normally scored more goals than Market Crash and Investors United beat Profit-Gobblers.

The second malcontent in the partnership at Profit-Gobblers is Tax Man. He lulls teams such as Investors United into a false sense of security as he doesn’t take much money off investors immediately. He gets a few kicks in, from siphoning off dividends or nabbing a bit of capital gains tax. However don’t be fooled. Over many years profits have grown to produce a lot of money, carefully guarded by profit-taking or Buy and Hold. Just when all the players of Investors United think the game is won in the last minute of added time Tax Man pounces. You see in this world, games last much longer than 90 minutes. They go on and on and on and eventually something tragic happens, players from Investors United suddenly die. And here is the despicable thing. As they are lying on the floor Tax Man comes along and takes 40% off them – not only profits but capital as well, money that could well have gone to children and grandchildren.

The moral of the story should be clear. Investors rightfully spend a lot of time protecting their investments against stock market falls but seem to discount the equally damaging effect of inheritance tax on their wealth. For some reason planning to mitigate tax on death is given a lower priority despite its real threat. It is like bolting the door but leaving the windows open at night. Both are needed to keep the burglars out. However with good planning there are a variety of ways to mitigate against inheritance tax. For this reason it has been said: “Inheritance tax is a voluntary tax paid by people who love the tax man more than their family.”

There are some understandable barriers that dissuade investors from inheritance tax planning – death is a future and final event. The tax paid won’t affect me unlike a stock market crash. The complexity of some arrangements, notably those using trusts is also a put-off. Waiting seven years for the inheritance tax exemption seems a long time and irreversible gifts are a problem if people think they may need access to capital for long-term care. However there are planning options which offer tax relief after just two years and/or which provide access to capital.

To conclude if Market Crash doesn’t get you Tax Man will. Fortunately both can be countered. Don’t expect much help though from referee Hammond, he is a big fan of Tax Man whilst linesman Carney may only provide a bit of protection from Market Crash.

The content of this blog post covers investment planning and tax mitigation strategies that I use and should not be construed as advice to you. You should seek individual advice before making investment and tax planning decisions.

No footballers died during the making of this article.

Profit-Taking Season

During August I have been busy with investment portfolio reviews. A key element of these has focused on profit-taking. It is always very pleasing to present an investment report to a client that shows a portfolio and individual funds in the black. However gains are only paper profits until they are banked or crystallised. They can disappear much faster than the time they took to accrue. In the same way paper losses are only real losses until they are crystallised.

Profit-taking can take various forms. The most obvious is to sell the profits to cash. This may be required if clients have a major item of expenditure that needs funding or if they wish to top up their cash savings. The alternative is to retain the cash within the investment for example an ISA deposit facility or a money market or cash fund.* This gives the option of fast tactical investment back into equities in the event of a significant market sell-off.

When I advise profit-taking I normally recommend retention of the original capital unless the market or sector the fund invests in is overvalued or there is a risk of a sell-off. For example a client invested £5,000 in August 2013 into a Japan smaller companies fund and it was valued at just over £7,850 nearly three years later. We sold £3,000 to ISA cash but retained nearly £5,000 in the fund because in my view there is further potential for strong capital growth from Japanese smaller companies.

Profit-taking is generally about risk reduction, especially with switches to cash. A less defensive alternative is to invest in cautious risk investments of which there are a variety of options including managed multi-asset, targeted absolute return, or short dated bond funds. One benefit of these is they have the potential to beat the returns on cash and usually inflation as well especially over the medium to long term. Cash is great for the short term but holding too much for too long is a drag on portfolio returns and its real value will invariably be eroded by inflation; so cautious investments offer something extra.

A final option for profit-taking is to invest in assets or markets where the client has no exposure to or is under-represented in the portfolio, especially where valuations are attractive. It permits rotation out of highly valued markets where further upside potential is limited or is liable to a sell-off if large numbers of investors take profits and exit, to markets or sectors with better prospects. Here risk reduction is created through adding diversity and holding funds with less downside risk and more attractive valuations.

To finish I want to cover the tax position on realising gains from investments held outside ISAs or pensions. As you may know everyone has a capital gains tax (CGT) allowance. In 2016/17 this is £11,100. This is a very useful allowance for absorbing realised gains without incurring a tax liability.

Now as it is exam results season this blog comes with a test. Don’t think you can get away with just being a passive reader!

Using the example above but rounding up the figures – Patrick invests £5,000 into a Japanese smaller companies fund outside an ISA and exactly three years later it is worth £8,000. He draw out £3,000 representing the accrued profits. Ignoring any buying or selling costs:

1. What is the gain realised for CGT purposes?

2. What is the relevance of the three year period?

You’ve got one minute to think about it. When done please scroll down the page.

Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook
Brain activity, calculations, CGT, taxman, gobbledegook

OK here are the answers. If you said £3,000 to question one I’m sorry it is not the correct answer. If you said £1,125 award yourself a prize. This is because the withdrawal of £3,000 is deemed part original investment and part profits. As a proportion the £3,000 encashment from an investment worth £8,000 is 3/8ths. So on the same fractional basis the amount of original capital withdrawn is 3/8ths of £5,000 i.e. £1,875. This means the profits are £3,000 – £1,875 = £1,125.
This is the figure that counts against the £11,100 CGT allowance. The key point here is that more money can be encashed without realising CGT than might appear at first sight. Subsequent withdrawals are more complex but by now you have probably enough of the maths, are bored stiff or are miffed you were asked to take a test!

As for question two, the period over which profits arose is irrelevant to the calculations. It does not matter whether the gains were accrued over one year or three years. In the past, the investment timeframe did matter as an allowable reduction in the chargeable gain was available for inflation over the period. This so-called Indexation Allowance was scrapped for private investors some years ago although it is still available for companies paying corporation tax including life assurance companies running investment life funds.

*A cash or money market fund is a collective investment like a unit trust rather than a deposit account. It invests in cash deposits and near cash instruments such as floating rate notes and short term bonds such as Treasury bills or commercial paper (please google if you want further information on these). Money market funds are highly secure and liquid but because they have a management charge or may potentially be affected by defaults they may yield very small negative returns occasionally.

The content of this blog post covers investment strategies in general that I use and should not be construed as advice to you. This article is not a recommendation to invest in Japanese smaller companies as these may not be suitable for you. You should seek individual advice before making investment decisions.

A Month On From That Vote!

It would be fair to say that it has been an interesting time since the EU vote, both politically and from an investment perspective. The extent of the rally in UK equities has been surprising given the mantra, “markets hate uncertainty.” Logically equities should have fallen as there has been uncertainty by the bucket load. However the attractive investment opportunities that have arisen in the last month have trumped uncertainty, for the time being at least. The fall in the pound has been a boost to exporters and companies with significant overseas earnings. At the same time UK assets whose prices have been effectively discounted by a weaker pound are attractive to foreign buyers, offsetting the fear of less inward investment. Finally with bond yields falling income investors are turning to risk assets. Columbia Threadneedle observe that UK equities are yielding four times more than 10 year gilts. With dividend yields on solid blue chip companies such as Shell, HSBC and Glaxo north of 5% or even 6% p.a. you can see why investors are attracted to equities given the added potential for longer term capital growth as well.

M&G Investments correctly highlight the risks of a return to inflation from weak Sterling and the UK’s reliance on imports. A rising oil price is a key factor especially as commodities are priced in dollars. In addition M&G see inflation rising in the US, the engine of the global economy. As the slack in the labour market disappears so wage growth is expected. They recommend investors consider buying inflation protection for example from short dated index linked bonds.

Finally Fidelity Investments comment on the poor PMI figures, announced recently. The PMI is the UK Purchasing Managers’ Index and is a survey of economic activity in the manufacturing sector based on hard data such as new orders and employment. Of course reduced inward investment into the UK will be a drag on economic growth but Fidelity think that this view is too cautious. They highlight the attractive valuations of UK assets as noted above but also cite the fact that companies have hoarded cash in recent years due to an uncertain outlook for end demand, especially in software and healthcare. This cash may be used to bid for UK companies. Finally they observe the robust UK economy has been broad based and by implication it is sustainable.

So what do I conclude? Firstly economics cannot be divorced from politics and it seems to me that the quicker than expected installation of a new Prime Minister, considered by many to be a safe pair of hands has reduced uncertainty for investors. The economic impact of the EU vote is clearly more nuanced than predicted and it has thrown up new risks and new investment opportunities. It was never going to be all bad or all good.

At a broader level the EU vote has not changed much for me. Ultimately fundamentals will re-establish themselves and my role is to continue to find good stock picking and asset allocating fund managers for my clients’ investments and to encourage them to stay invested through thick and thin.

The content of this blog post is intended to be my own general investment commentary and a summary of my understanding of investment company views. It is not an invitation to invest in equities or inflation linked investments as these may not be suitable for your financial circumstances or your risk profile. You should seek individual advice before making investment decisions.


Seismic or Temporary Shifts?

One of the most interesting aspects of my job is to produce updated portfolio valuation statements for my clients’ investments. Sometimes it makes good reading, other times not. In my report I compare the figures with previous valuations, typically undertaken six months’ earlier. Aside from the change to the total figure it is very instructive to see investment trends i.e. what asset classes, sectors or funds have done well or poorly over the period in question. In the last six months there has been some significant, unexpected and interesting changes to asset performance.

To explain I want to go back almost a year to August 2015 to the global equity sell-off, triggered mainly by fears about China. You will recall her economic growth was slowing, global trade was falling and Chinese debt was a worry. During the sell-off the shares of large companies represented by the FTSE 100 index fell sharply whereas UK smaller companies and many mid-caps did not. Why was this? The falls in the share prices of larger companies was a rational reaction by investors to concerns about the health of the global economy. FTSE 100 companies are global players with around 70% of their earnings derived from outside the UK. The index also has a high weighting to oil and other commodity companies whose fortunes and share prices are extremely sensitive to the global economy and specifically Chinese demand. In contrast UK smaller companies and mid-caps, typically represented by the FTSE 250 index are much more domestically focused with most of their earnings arising in the UK. As the UK economy was recovering well and smaller companies are less impacted by global events they were largely insulated from the slowdown in China and their share prices held up well.

Roll on to the EU referendum and in the two weeks since the UK voted, FTSE 100 companies have generally rallied sharply (the banks being a notable exception, due to their domestic focus). Why? The pound has fallen sharply against other currencies notably the dollar which means overseas earnings are worth more when repatriated back to Sterling. A weak pound is bad for imports but it sure gives a turbo charge to global earnings and UK exporters. In contrast a vote to leave Brexit has resulted in uncertainty and fears about the UK economy specifically. You will be aware of all the potential problems – trade tariffs, reduced investment into the UK, jobs relocating to the EU, higher inflation, recession, higher taxes and interest rates. It would be fair to say some of the fears are illogical or over-stated. For example if the UK goes into recession it is likely to be mild and interest rates are unlikely to rise.* Other fears are of course entirely justified and uncertainty itself is a powerful disincentive for investors. It is for this reason that smaller and medium sized companies with their focus on the UK domestic and consumer economy have fallen sharply in the last few weeks. House builders and recruitment companies have been hit especially hard.

So in summary, global events last August hit FTSE 100 companies hard but the vote to leave the EU has now triggered a rally in their share prices whilst the opposite has happened to smaller companies and mid-caps. I should also add that in the last five years smaller companies significantly outperformed larger companies and mega-caps and I suspect investors used the Brexit vote to take profits.

Moving on I want to highlight another asset allocation shift in the last six months. Anyone who has invested into a commodities fund in recent years will have seen huge losses on their investment.^ As an example take the JP Morgan Natural Resources fund. Data from FE Trustnet (6/7/16 and for all other performance statistics) shows the fund is down 53.9% in the last five years. However the last six months there has been a rally of 50.5%. Yes you are reading correctly! The rally has been due to the significant recovery in the oil price since the January and February 2016 lows, a small decline in the value of the dollar~ since the beginning of the year, more efficient deployment of capital by commodity companies, some abatement of fears over China and investors recognising the exceptional value in an over-sold sector.

Precious metals have been beneficiaries too with the spot price of gold and the shares of gold producers rising sharply. Gold has recovered its safe haven status whilst a fund I recommended to many of my clients and bought myself, the Blackrock Gold & General is up a staggering 117.5% in the last six months. I will be the first to admit I wrongly called the bottom of the commodities’ crash and advised clients to invest too early but I am pleased I got one thing right. I recommended clients hold their loss making funds on anticipation of a recovery. I always suspected that when a rally comes it would be rapid and substantial. It’s nice to be right occasionally!

The other major assets that have finally rallied in the last six months are global emerging market equities reversing a long trend of underperformance compared to developed market equities. The average global emerging markets fund is up 22.1% in the last six months. There are multiple factors here, one of which is the rally in commodity prices; the two sectors are correlated. More perhaps at a later stage on emerging markets.

Whether these asset allocation changes are the start of seismic shifts in favoured asset classes or just temporary rallies is too early to say. I think the global economy needs to recover more before we can conclude the rally in commodities and emerging markets is sustainable.

*Mark Carney, the Governor of the Bank of England warned of a technical recession. This is hardly a scary prospect as it could mean as little as a 0.1% decline in GDP for two successive quarters. If there is a recession interest rates are more likely to fall than to rise unless inflation is a serious issue in which case we could see so called “stagnation.”

^A loss is only a paper loss unless an investor crystallises the fall in value by selling or switching to another investment.

~There is a historic negative correlation between commodity prices and the US dollar. Commodities are priced in dollars and when the dollar falls in value against other currencies it is cheaper for non-dollar investors to buy commodities and vice versa.

This blog post is intended to be general investment commentary only. Nothing in this article should be construed as investment advice. You should seek individual advice based on your own financial circumstances before making investment decisions.

Initial Thoughts on the Vote to Leave the UK


The result of the EU referendum was a huge surprise to me but the initial market reaction certainly was not. Sterling has fallen especially against the dollar whilst the FTSE 100 stock market initially plunged 8.5% but has reversed some of these losses. As I write at 10.06 a.m. the index is down 5.19%. As investors we know markets hate uncertainty and I expect volatility to continue for the next few weeks and months at least.

It is important to recognise not all the consequences of market falls are negative. So let’s consider a falling pound. Yes it makes imports and foreign holidays more expensive but there potential benefits. Exports become cheaper whilst the economy would benefit from modest inflation. Further around 65-70% of FTSE 100 company earnings are from overseas and therefore large companies and mega-caps are less dependent on the state of the UK economy compared to FTSE 250 and UK smaller companies. In addition if a company has earnings in overseas currencies such as dollars, euros and yen on redemption back to the UK and conversion to Sterling there is a currency boost. This should support dividends. Finally UK assets become cheaper for foreign investors and whilst there will be concerns about investing in the UK given the economic certainty, merger and acquisition (M&A) activity could be boosted by attractive valuations of UK companies.

You have no doubt listened to competing voices and experts on the UK economy throughout the referendum debate. Today I want to refer to two. The first Mark Carney, Governor of the Bank of England said today that the banking system in the UK is much better capitalised compared to the financial crash in 2008. I have not encountered anyone who believes we are witnessing the start of another global financial crisis on par with that which followed the collapse of Lehman Brothers. That was caused by too much leverage or debt in the banking system. Today’s events are geo-political with terms of global trade at stake.

Secondly this morning I read a blog post by Neil Woodford, founder of Woodford Capital. He is rightly recognised as arguably the best UK equity fund manager. His firm commissioned an independent report from Capital Economics to examine the implications of the UK leaving the EU. The conclusion of the report was that in the long-term the effect on the British economy would be largely unaffected. Woodford himself subscribes to this view. He is a long-term investor and believes that fundamentals ultimately will determine the movement of  equity prices. He does not buy the market, he buys strong companies with robust cash flows that can grow earnings, at attractive valuations. He backs his convictions and avoids short term noise on the belief that if a company has strong fundamentals it will deliver solid returns for investors. That is my opinion too. However with the potential for fast moving and unpredictable turns of events this is unlikely to be my last blog post on the subject of Brexit.

This blog post reflects my views and interpretation of third party commentators on the UK economy and the vote to leave the EU. Nothing in this article should be construed as investment advice. You should seek advice before making investment decisions.



Market Rumbles & Negative Yields on Bonds

Equity markets have been on the slide recently but this afternoon the FTSE 100 closed up 43 points. However the index is still below the psychologically significant 6,000 level. Naturally fears of a vote for the UK to leave the EU is clearly weighing on investors as is negative economic data and concerns about rising US interest rates. The flip side of uncertainty is a rally in traditional safe haven assets such as government bonds and the Japanese Yen. This is a risk-off market.

A rally in government bonds causes yields to fall and in some cases into negative territory. For example 10 year German Bunds turned negative for the first time yesterday. Buying such bonds at such high prices and ultra low interest rates means investors are guaranteed to make a capital loss if they keep the bond until redemption, even taking into account the interest received (these are called the coupons).* The question is why would investors buy bonds with negative yields? Institutions such as banks may be required to hold them due to regulation whilst pension funds hold bonds to match their liabilities with the guaranteed interest stream they pay. However for the private investor it would be daft to buy bonds with a negative yield.

So is it worth holding gilts? They are not yet negative in the UK so there is a case for their inclusion for portfolio diversification purposes and as a safe haven asset.  With returns expected to be like thin gruel low cost index trackers or ETFs can add value if not active management. Alternative cautious risk investments include cash, gold, currencies such as the Yen and Dollar or multi-asset targeted absolute return funds.

*Consider a bond that costs £105 to buy with a coupon of £1.50 p.a. The bond has three years to redemption. The investor receives three interest payments of £1.50 and a return of capital at its par value i.e. £100. The investor would have paid £105 to get a total return of £104.50.

The content of this blog post is intended to be my own general investment commentary.  It is not an invitation to invest in the defensive assets discussed as these may not be suitable for your financial circumstances or your risk profile. Aside from cash the investments mentioned do not guarantee to deliver protect capital in all market conditions. You should seek individual advice before making investment decisions.

BREXIT – Good or Bad for Investors?

I guess you have been following with interest the debate on the upcoming vote on BREXIT. Some people could be forgiven for thinking that BREXIT will either mean economic collapse for the UK followed by a plague of locusts or a country flowing with milk and honey and an economic boom. However we know the truth lies somewhere in between these extremes.

Tactical Trading

Whilst issues such as the economy have been widely discussed the impact for investors has not, so I thought I would offer my penny’s worth based on what I have gleaned from investment companies and my own thinking. Most fund managers argue investors should not make big asset allocation calls and investment decisions based on a binary outcome. I can explain this with an example. Investors fearing a vote for BREXIT would result in a sharp sell-off in UK equities and other holdings might be tempted to sell investments and portfolios to cash prior to the vote on June 23rd.  It could work. In the event of an out vote UK stocks at least are likely to fall the following day, who knows by 5-10% or more, with a downward trend thereafter. We know that markets hate uncertainty and the “leap in the dark,” card has been widely played by the remain campaign. In my view uncertainty, economically and politically, applies even if we remain in the EU, especially in the long term but I think it is fair to say as far as the markets are concerned a vote for BREXIT carries much more uncertainty especially in the shorter term.

The problem with selling to cash is that a vote to remain is likely to trigger a relief rally in equities not only in the UK but globally so the investor who sells to cash before the vote may end having to buy back in at higher prices. As I have previously argued short term tactical investment is notoriously difficult to get right and for most investors, who are in for the long term, doing nothing may the best choice. After all adopting a buy and hold strategy is probably what you signed up for in the first place.


So what are the consequences of a vote for BREXIT for investors? We need to consider this from a number of perspectives. JP Morgan argue the impact on Sterling will be crucial. A BREXIT is highly likely to lead to sharp falls in the pound on the basis the UK is a more risky place to invest and the economy will shrink, at least in the short term. This will makes imports more expensive which should push up inflation. On the other hand exporters will enjoy a tailwind from a weaker pound and modest inflation itself is beneficial for an economy, as it removes deflation risk and erodes the real value of debt. Moreover historically equities have done well in this environment.

A fall in Sterling against the major currencies of the dollar, euro and yen will boost returns to UK investors in overseas equity markets. This will provide some compensation if UK equities fall and this is a factor in favour of retaining global funds, unless they hedge their foreign currency exposure. A currency hedge only works when the Sterling strengthens. This is explained in a footnote.

Government Bonds

As a safe haven gilts or UK government bonds are expected to rally on a vote to leave the EU and this will hedge to some degree losses on equities. However around 25% of UK government debt is owned by overseas investors and with a drop in Sterling, returns in their local currency will fall. Large scale redemptions will send bond prices lower and yields higher. The cost of borrowing will therefore rise when the Treasury seeks to issue new debt and higher interest payments adds to the budget deficit. Another downward pressure on gilt prices would be from rising interest rates employed by the Bank of England to combat inflation.

Fidelity’s view is that in the event of a remain vote gilts will weaken in favour of riskier assets such as equities. This is a perfectly logical expectation.


In the event of a leave vote most commentators believe equities will fall at least in the short term. UK smaller companies should however be more insulated than larger companies which have significant overseas earnings and are more geared to the global economy. The crucial factor here is the predicted fall in Sterling. When overseas earnings are repatriated to Sterling they take a hit. In contrast smaller companies which are more domestically focused and principally depend on UK earnings will be less impacted by a weak pound.

Defensive stocks are likely to do better than cyclicals which are more economically sensitive. These include banks, construction and the consumer discretionary sector.

Summary & Conclusion

The question asked was “BREXIT – Good or Bad for Investors?” The key point for me is to distinguish the short term from the long term. In the short term the answer is clear. It will be bad. Markets hate uncertainty and a vote for BREXIT brings many.  Asset prices which to some degree have already discounted a BREXIT vote will take a big hit.  However in the longer term I think the UK economy and asset prices will repair and rally as trade deals are negotiated and the consequences of BREXIT play out. Questions about whether the UK will have access to the single market and the length of time taken to negotiate trade deals (from the back of the queue if you believe Obama) arguably misses the point. You don’t need a trade deal to trade. The UK economy has been a bright light in Europe and shares the creativity and dynamism of the US economy, so in the longer term I think the UK economy will be fine.

What has been interesting is that fund managers seem pretty relaxed about the vote in contrast to the doom and gloom and scaremongering by politicians. Long term they seem reasonably confident about the UK economy and the prospects for the funds they manage. They may have made some adjustments with the addition of defensive or overseas assets but there have been no radical overhauls of their portfolios. In part this is because they are long term investors and are conscious that the long term impact of BREXIT on the UK economy is very difficult to predict. All the voices that told us that if the UK did not join the Euro it would be a disaster for the economy were proved wrong. And which central banks or global financial institutions predicted the global financial crisis of 2008? Making predictions about the UK economy in 2030 seems plain daft to me.

I think the UK will vote to remain in the EU but if  you as an investor fear a vote for BREXIT there may be some action you could consider. You could buy gilts or gold or overseas equities. However I would not advocate doing anything radical or disruptive to your portfolio.

Finally if you need to withdraw cash from investments in the next few months or wish to crystallise profits you may prefer to do this prior to the vote, although do bear in mind the risk that a remain vote will raise equity values and you may cash out at lower prices.

Footnote on Currency Hedges

This can be explained by an example. Currently the pound is worth about 156 yen. Let us say you invest £1,000 in a Japanese equity fund. Your investment is valued at 156,000 yen. If the underlying fund grows by 20% in three years, in local terms your holding is now worth 187,200 yen. Let us say Sterling has weakened and has fallen to an exchange rate of £1 to 125 yen. If you sold the investment you would get back £1,497.60 (187,200/125). In Sterling terms you have made a 49.67% return on your £1,000 investment even though the underlying stocks returns in yen were just 20%. If however you were invested in a hedged fund or share class and the hedge was set at £1 to 156 yen the currency uplift from weak Sterling would be lost. You would also be expected to get back less than 20% due to the cost of the hedge itself.

Hedges are not a panacea for removing currency or any other risk. They can detract from returns. Of course in the example above if Sterling strengthened against the yen the hedge would be of benefit to UK investors.


The content of this blog post is intended to be my own general investment commentary on the impact of a BREXIT on investments. It is not an invitation to invest in the defensive assets discussed as these may not be suitable for your financial circumstances or your risk profile. You should seek individual advice before making investment decisions.