Market Commentary – 24th May 2017
From Trump bump to Trump dump?
President Trump is buried in a deep political controversy regarding his connections to Russia following his decision to fire James Comey as FBI director. Further to this, his request of Comey (before he was fired) to end the FBI’s inquiry into former national security advisor Michael Flynn, and Trump’s threat to release recordings of his conversations with Comey suggest the president has something to hide. Adding fuel to the idea that he has ties to Russia, Trump reportedly shared classified intelligence with Russian officials in D.C.
Closer to home, from a political point of view, things have been relatively quiet as we edge closer to the snap election next month. The three main parties have published their general election manifestos, with Labour and the Liberal Democrats offering much more expansionary plans for fiscal policy than the incumbent Conservatives. In particular, they plan to substantially increase capital spending and also raise current spending, which would be funded by a combination of higher borrowing and higher taxation.
Global Economic News
In the UK, we may be largely dependent on services for growth but manufacturing is powering up again! Factory orders are growing at their fastest rate since February 2015, and output in the past three months rose by the most since 2013, according to the CBI’s monthly industrial trends survey. Earlier this week, Britain’s budget deficit widened at the start of the new financial year, according to data from the Office for National Statistics. The deficit in April came in at £10.4bn, up 13% compared with the same month last year, the ONS said. That was partly due to flat VAT receipts which grew by only 0.2% in annual terms. However, there was good news in terms of retail sales, with sales volumes rising 2.3% month-on-month in April, more than compensating for March’s drop which is a good barometer for consumer confidence. However, we think it is likely that much of the month-to-month volatility over the past couple of months is down to the ONS struggling to adequately adjust for the different timing of Easter from year-to-year, while April’s good weather probably also helped sales. CPI inflation accelerated from 2.3% in March to 2.7% in April, the highest reading since September 2013. And while the timing of Easter was also partly to blame for the pickup in inflation, the prospect of further hikes in domestic energy prices and the continued pass-through of last year’s sterling depreciation means that the CPI measure is likely to move above 3% as soon as next month. From a retail point of view, we feel that the election and uncertainty around Brexit has also contributed to retailers putting investment plans on hold. In the past week, other economic data suggested that the new government will face the familiar problem of weak wage growth which, combined with the further pickup in inflation, is increasingly eating into spending power. But more upbeat data on employment and retail sales offered further evidence that Q2 is shaping up to be better than Q1. In markets, The UK’s FTSE 100 share index is pushing towards a new record high, despite the terror attack in Manchester.
In Europe, Economic confidence hit its highest level in nearly a decade in April, thanks to rising consumer spending and a stronger global economy. The European Commission’s economic sentiment gauge gained 1.6 points to 109.6 during the month – the highest level since September 2007. It is the latest sign the eurozone is getting over its prolonged debt crisis, after recent data showed inflation and employment was picking up across the bloc. Following the French election, French PMI data has strengthened, in particular in the services sector which beat estimates. This shows that the macron-omics seems to be settling well with the French economy.
In the US, President Trump unveiled his budget proposal earlier this week titled “A New Foundation for American Greatness”. The annual release of the Administration’s budget is traditionally viewed as an indication of the president’s policy priorities more than a working document with any chance of passage in Congress. In this document, we feel that there are five essential elements in this budget blueprint. First, it is interesting to note that the release of the budget comes at a time when the President is making his first international trip. Second, on the tax front, the budget blueprint doesn’t contain much more detail than the now infamous one pager with bullet points presented in late April. We know that the tax cuts focus primarily on lowering the statutory corporate tax rate from 35% to 15% and reducing the number of tax brackets from seven to three at 10%, 25% and 35%. Third, the plan intends to slash spending by $3.6 trillion over the next decade without reducing Social Security and Medicare outlays (it is questionable how this will be achieved). Fourth, the desire to balance the budget over the next decade is a noble cause since we know that larger fiscal deficits generally bring about higher borrowing cost, deter private sector activity, reduce national savings and weigh on productivity growth and capital accumulation. Fifth, the growth assumptions pencilled into the Office of Management Budget appears overly optimistic. The Administration sees real GDP growth firming from 2.3% this year to a sustained 3.0% pace from 2021 onwards. From a more general point of view, markets have stabilised following last week’s market rally, as the budget was released early this week which put things into perspective.
The Barometers below look at some of the data we review on a day by day basis and by having these detailed, it gives you some insight into what is happening.
US Earnings are important because if the US starts to slow down, then so does the rest of the world:
As of today (with 95% of the companies in the S&P 500 reporting actual results for Q1 2017), 75% of S&P 500 companies have beat the mean EPS estimate and 64% of S&P 500 companies have beat the mean sales estimate. For Q1 2017, the blended earnings growth rate for the S&P 500 is 13.9%. If 13.9% is the actual growth rate for the quarter, it will mark the highest (year-over-year) earnings growth for the index since Q3 2011 (16.7%).
UK & Non-UK Gilt Yields;
UK and Non-UK Government Debt are a good measure, as they indicate whether we expect the economy to improve or worsen, with rising yields reflecting positive environment and reflecting positive interest rate movements as we look out. The opposite with lowering yields as the expectation is worsening economic conditions.
Over the last week, we have seen bond yields go lower with corresponding valuations rising across Europe, and the UK with valuations remaining relatively flat in the US. Volatility remains high in these assets which should not be functioning like this. This is a further example of why we are still not directionally investing into these assets.
GBP to USD/Euro/JPY;
We monitor the GBP rate to see how much of the returns are coming from underlying equity valuation increases and movements in the currency, to see if we should be locking in the gains and hedging the risks. We have changed our 12-month expected range for sterling across the US Dollar, Euro and Japanese Yen. This is to reflect a stronger pound, following Brexit, and less negative risk due to the UK economic data stabilising, and therefore uncertainty risk is dropping off. As the Brexit negotiations mature, we expect Sterling to weaken over the coming months as negotiations set off and both sides prevaricate, then reappreciate towards year end to roughly where we are now or slightly higher.
The pound has kept up its momentum over the past week. Assuming sterling’s upward move continues it will have gained 1% against the dollar this week. But some might argue that this is driven from a weaker dollar rather than a stronger pound. The lingering political storm in the US surrounding President Trump continues to heap some pressure on the dollar, casting doubts over whether Trump can deliver the pro-growth economic reforms which were supporting expectations for the Federal Reserve to carry on lifting interest rates gradually this year. Sterling is having a harder time against the euro and changes hands at €1.16, putting it on track to finish the week below €1.17 for the first time since Theresa May announced next month’s snap general election.
GBP / USD – Range 1.32 – 1.20 – Today at 1.29 (Edging nearer to the much anticipated 1.30 level)
GBP / EUR – Range 1.22 – 1.12 – Today at 1.16
GBP / JPY – Range 150 – 130 – Today at 145.24
We monitor the oil price as it is strong indicator of global consumption when balancing the output and storage data. Strong supply and usage denotes a strong global economy. Opposite reflects underlying weaknesses.
The price of oil over the past week has moved up further and as I write this, WTI Crude is currently trading at $51.74 and $54.46 for Brent, up approx. 5.85% for WTI and approx. 5.00% for Brent. This is a big topic in the press at the moment as OPEC will sit down with other major oil producing nations on Thursday in Vienna to discuss continuing with output cuts. As the issue remains with over supply and not higher demand, we hope that markets can find equilibrium as when OPEC and Russia agreed last year to reduce production by 1.8m barrels a day between January and June to support a rise in the oil price. It is widely expected that the deal will be extended.
Gold is a safe haven and a spike in price can be an indicator of increasing underlying economic concerns and as always, the opposite.
Over the past week, we have seen gold prices remain relatively flat, increasing only approx. $3 an ounce to $1251.69 a troy ounce, which would indicate that markets are relatively strong and investor confidence remains relatively high. We suspect that this could be due to Trumps diplomatic trip to the Middle East and investors are watching and listening to his every move in the fragile situation.
Model Portfolios & Indices
Over the last week, we have seen most of the indices that we track, weaken. The US markets have had a bit of a rally following the political scandal in Washington last week however the main indices, which include the S&P 500, DOW Jones Industrial Average and the NASDAQ, have now started to gain some ground. The FTSE 100 is closer to 7,500 due to volatile trading in the US and a jump in the value of Sterling which is now nearing $1.30. The FTSE 250 is benefitting from low Sterling, however as this edges towards $1.30 we will see a slowdown in the figures as midcap stocks will see an increase in costs, which will filter its way into profits increasing their exposure to exchange rate risks rise.
Given the above, we have seen our model portfolios perform well over the past week with the active models again outperforming the passive comparative models (OBI Active 8 compared to OBI Passive 8) and benchmarks. Following this month’s Investment Committee Meeting, we have increased our equity exposure as well as being more directional with OBI Active 8 and making it more aggressive than it has been in the past to take advantage of the positive markets. Since making the changes, we have benefited from these positions and the positive equity markets. Since inception (around 4 months ago), we have seen the following positions exceed our 6 and 12 month targets:
- Our European Equity positions have now exceeded our 6 month targets;
- Our Property position has exceeded our 12-month target;
- Our UK mid-cap and Global equity positions have exceeded our 12-month target.
We have further decided to not take any profits on the positions as the earnings data we are looking at has improved since we set the forward guidance in January. Consequently, we feel that risk has not increased and instead the range has moved up, which has been apparent sub Investment Committee Meeting, so the value at risk on the positions has not become higher than we originally set in January despite the growth in asset values since.
This Day in History
On this day in 1862, the Westminster Bridge across the River Thames opened, linking Westminster on the west side and Lambeth on the east side. The bridge is painted predominantly green, the same colour as the leather seats in the House of Commons which is on the side of the Palace of Westminster nearest to the bridge. This is in contrast to Lambeth Bridge, which is coloured red, the same colour as the seats in the House of Lords and is on the opposite side of the Houses of Parliament.
As always have a great week and stay safe.
Jason Stather-Lodge CFP, MCSI, APFS
CEO & Founder
Chartered & Certified Financial Planner
Chartered Wealth Manager