Investment Performance & Analysis: October 2018

Barney Hawkins, Investment Director, and Paul Durrans, Investment Analyst review the latest developments in the markets and the True Potential Portfolios.

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Paul – Welcome to today’s review of the True Potential Portfolios and Financial Markets. My name is Paul Durrans and I am an Investment Analyst at True Potential. I am also delighted to be joined by our Investment Director Barney Hawkins who is the Fund Manager of True Potential Growth Aligned Funds. We are both part of the team that manages the True Potential Portfolios.

Paul – Following a generally sustained period of positive market performance, markets have clearly been more challenging over the past couple of weeks. Equity markets across the board have fallen and bonds offered little protection. I think the question everyone wants to know is what’s been happening and what was the reason behind the recent pullback in markets?

Barney – There were a number of reasons which can be factored into why the markets sold off but the trigger was an improvement in the US labour market conditions, where unemployment fell to 3.7%, the lowest level in nearly 50 years and weekly wages rose at annualised rate of 3.3%. This was the catalyst for the sharp rise in bond yields as markets reappraised their expectations for higher interest rates. The yield on the US 10 bond moved from 3.0% to 3.2% and yields elsewhere also pushed higher. Interest rate expectations in the market are now converging towards the Fed’s own forecasts.

Paul – So, with less people out of work, the demand for skilled workers increases and they, in turn are able to demand higher wages from their employers. Higher wages can then generate actual inflation as consumers have more disposable income to spend. If higher inflation comes through, higher interest rates are needed to help contain it. Within the equity market have there been any trends which you have observed?

Barney – We’re beginning to see the first tentative signs of a rotation out of high value Growth stocks, such as Facebook, Amazon, Apple, Netflix and Google, the FAANGS into lower rated stocks with Value characteristics. It’s too early to say whether this trend will be sustained but it is a reminder that for Active managers volatility presents opportunity.

Paul – Is this a bit of a re-run of what we saw in February and have there been any signs of a bounce back?

Barney – Yes, it is similar to what happened in February this year when we saw better jobs data and wage growth which then led to interest rate expectations being revised and the market briefly selling off. We know that markets in March and April did swiftly recover, whether we will get the same this time around, only time will tell, but there are some early signs of recovery from equity markets.

Paul – Last week we spoke to all our manager partners during the sell off. What messages were they giving and were they adjusting the portfolios in response to the recent events?

Barney – To some extent the downturn was expected. Whereas Europe, the UK and Emerging Markets had been drifting back a little the US had been powering ahead so some correction in the US was arguably overdue.

The sell off was also exacerbated by ongoing political concerns: trade wars, Brexit, emerging markets and what’s happening in Italy. The speed of the decline is also a function of hedge funds and programme trades. They have said that the fundamentals in general haven’t really changed and that they still look broadly ok. It has been sentiment rather than the fundamentals which have caused the market sell off.

In terms of re-positioning, most of the managers were reviewing their stock and sector exposures but not really making many trades during this period.

Paul – This week we’ve had our rebalance meeting for the True Potential Portfolios, have you needed to reposition the portfolios at all?

Barney – We’ve not needed to do too much this month. We’re happy with how the portfolios have been positioned in terms of asset allocation and manager exposure. We have made small adjustments in the TPP Cautious + portfolio by trimming the True Potential SEI Defensive fund to reduce the manager concentration. And we’ve added to the True Potential Defensive fund. This reduces the exposure to both high yield and emerging market debt, both of which are likely to remain volatile as US interest rates go up. The switch also reduces the overall cost of the Portfolio. We’ve carried out the same manager switch in TPP Balanced + for the same reasons.

Paul – So to sum up, we still remain constructive on markets moving forward, positive on equities and underweight bonds. Monetary policy is still very much accommodative and still not yet restrictive for economic growth, valuations, earnings growth and economic data globally is still pretty good too. Of course, diversification remains paramount at the stage of the economic style and our managers continue to look for alternative sources of returns.

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