The final quarter of the year saw equity markets surge to new highs on news that the US and China had agreed terms for a partial settlement of their long-running trade dispute. Although the wide-ranging dispute is far from over and could potentially rumble on for years, stock markets rallied at the prospect of stronger global economic growth and a rise in corporate profits. Economies and stock markets most exposed to manufacturing fared best, with China, Asia and Emerging Markets all gaining ground. Global equities closed the year at new highs, having exceeded highs first achieved in January 2018.
Inevitably, not all assets provided such positive returns. Fixed interest stocks continued their steady retreat from their summer highs as the prospect of recession diminished and investors sought better value in other assets, primarily equities. Other defensive assets remained out of favour.
Although there has been a steady flow of bids for UK businesses and assets by international companies over the past three years, that suggested Sterling and UK assets were cheap, the final quarter saw the return of mainstream portfolio investors attracted by low valuation. This inflow, together with relief over the election outcome saw sterling rise, reducing returns on US dollar investments by 7.6% for the quarter and by 5.1% for the year. Strength against the Euro reduced returns, by 4.4% for the quarter and 7.2% for the year.
Our weightings are based on sterling as a base currency
The Fixed Income market continues to be relatively benign following the Federal Reserve (Fed) meeting in December. The governor of the Fed suggested that rates would likely stay the same for the near future following three rate cuts in 2019. The market has often not believed the Fed in the past when it comes to this type of guidance but on this occasion appears to. This is likely because growth and inflation remain robust suggesting further cuts are not justified while the likelihood of changing course again and raising rates seems remote as well.
UK equity markets ended the year on a high note as the UK top 100, 250 mid-cap and all UK shares indices returned 2.78%, 5.35% and 3.32% respectively. Financials and Consumer staples were the top performing sectors in a month where all were positive. Sterling gained 2.57% against the US dollar to finish the year at 1.326. The bulk of the market and currency performance came after the UK had chosen to re-elect the incumbent government with a strong majority. Following the election, Chancellor Sajid Javid announced that Andrew Bailey, current head of the FCA, will become Mark Carney’s successor at the BOE.
The UK Manufacturing PMI fell to 47.5 in the period, well below Octobers 48.9 and remaining below the 50 mark indicative of underlying growth for the eighth successive month. Production declined at its fasted pace since July 2012 and new work orders fell again as concerns around Brexit, global trade and the economy persisted. Weaker demand, cost reductions and recruitment freezes contributed to a drop in employment, though at a slower pace than the last four months. Business sentiment remained positive, supported by increased efficiency, new product launches and a degree of uncertainty removed following the recent UK elections.
Mortgage approvals hit a near three year high in November as banks said yes to 43,715 new applications. First time buyer levels hit their highest annual number since 2007 as 353,436 buyers took a step onto the property ladder. The Halifax believe that house prices will show modest growth of 2% – 4% in 2020, buoyed by low mortgage rates, growth in real incomes and an overall shortage of housing stock in the market.
The majority of our UK equity exposure remains in the larger cap internationally focused space, though recently we have gradually increased exposure to the mid cap sector which derives a larger share of earnings from the UK.
It was a positive month for sterling investors in Europe as the MSCI Europe ex-UK gained 1.04%. Across the regions it was mostly positive with France’s CAC, Spain’s IBEX and Italy’s MIB returned 0.73%, 1.67% and 0.11% respectively; the notable exception was Germany’s DAX, with a decline of 0.50%.
Eurozone Manufacturing PMI figures indicated an eleventh straight month of contraction with a reading of 46.3, slightly below November’s figure of 46.9. The pace of job losses was at its fastest since records began whilst new orders continued to decline. Output prices fell for the sixth consecutive month, offset by a continued fall in input prices. Confidence on the future of the manufacturing sector hit a six month high at the end of the year.
Household credit grew at its fastest rate since 2009, rising 3.5% for the year to EUR 6.201 trillion; lending to non-financial corporations also increased by 3.4% to EUR 4.588 trillion.
At present we are neutral in our European equity exposure with a bias towards larger companies with diverse and multinational revenue streams. If there is an agreement between the US and China on a trade deal, we would hope to see some upside to European equities.
The equity market enjoyed another strong month. The three key indices all did well, these being the Dow Jones Industrial (+1.87%), the broad based S&P 500, which includes the financial sector, (+3.02%) and the technology – led NASDAQ (+3.9%). In contrast US Treasuries were weak, as optimism prevailed and investors were less attracted to their “safe haven “status. Nonetheless interest rates and bond yields are still at very low levels by historic standards, and this factor remains the key driver in the upward momentum that we are seeing in equity markets.
Looking forward, seasonal factors often lead to a rally over the holiday period, and “risk off “remains the prevailing investor sentiment. Election years such as the one we are in are generally good for investors, but this historic imperative has set to be against prevailing risk factors such as valuation, continued trade friction and geopolitical uncertainties ,for example in the Middle East.
The Bank of Japan held its key short-term interest rate at -0.1% during its December meeting and kept the target for the 10-year Japanese government bond yield at around 0%. Policymakers emphasized a more positive assessment of the economy, despite a consumption tax hike and a typhoon in October, whilst offering a more negative assessment of exports, production and business sentiment mainly due to the impact of natural disasters and sluggish demand from overseas economies.
The Jibun Bank Japan Services PMI was revised lower to 49.4 in December 2019 from an initial estimate of 50.6, signalling the largest increase in service sector output in over three years. 50 points separates an expansion in business activity from contraction. The latest reading therefore revealed that the consumption tax increase and a typhoon weighed heavily on business activity in the lead up to the end of final quarter of 2019. Backlogs of work fell to their lowest level since May 2018, whilst new export business declined to a six-month low, suggesting the economy may remain under pressure as slower global growth hurts demand.
Although GDP in the third quarter increased by 1.8%, due to increased consumer and business spending, wider concerns of longer term economic contraction prompted by recent data indicate that the Japanese economy has entered a cyclical lull. GDP growth has benefited from a boost in the rate of job creation, which has been recorded at its fastest level in six months on the back of expansion plans and the provision of new services.
The Nikkei 225 posted returns of 0.54% over the course of December, with the TOPIX returning investors 0.40%.
2019 saw the MSCI Emerging Markets index up 20% (following a 2018 that ended 15% down). These swings are commonplace within the region and 2020 is expected to be another volatile year with a continuation in trade-wars, an escalation in US-Iran tensions and a looming US election. As such, we continue to prefer countries with strong domestic demand that are less exposed to external vulnerabilities.
Given the US election may moderate US returns, if the dollar continues to weaken it could unlock valuation opportunities in Emerging Market assets.
We enter into 2020 very slightly underweight PIMFA benchmarks for the region.
The UK Property market has performed positively in reaction to the UK election with all sectors benefiting. The best performing were those that benefit from a higher degree of certainty over the regulatory framework they will be operating going forward, healthcare assets are a prime example.
The UK election has had a positive impact on the infrastructure part of the alternatives universe. This is because it has provided more certainty over the public/private partnerships that exist in this sector and reduced the likelihood of nationalisation that was detailed in the Labour manifesto.
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