The Weekly - Remember, Remember

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30/10/2017
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Remember, remember, the month of November, inflation, debt, treason and plot! This week could well see an interest rate rise, most likely referencing inflation and consumer debt levels. In addition, in three weeks’ time we are likely to experience a government debt constrained budget which will be no doubt ripped apart. As to treason and plot, Spain is providing a fair dose whilst the political infighting in the UK and the US is ever present.

The markets believe the Bank of England will return interest rates to 0.5% on 2nd November. If so, this will be the first interest rate rise in ten years, but we view this as mostly symbolic and its impact will be limited. With stronger than expected growth figures released last week, Mark Carney is able to reverse rates and provide a little ammunition against rising inflation, credibility intact.

How will this rate rise effect markets and, more importantly, which investments should one consider at this time of year, and which ones should be consigned to the bonfire?

Our negative sentiment towards fixed interest remains, although we believe this should have been sent to the tower some time ago! A marginal increase of 0.25% is not going to make this asset class any more attractive, especially when any move is largely priced in. The yields remain unfavourable with the 10 year gilt yield currently standing at around 1.3% - a negative real return.

We don’t believe an interest rate rise will cool the UK stock market. There are opportunities in value stocks, recovery stocks and businesses that favour consumer goods which are essential for any well diversified portfolio. The power of brands should not be underestimated, and these companies often offer attractive dividend yields which are generally resilient, even in downturns.

Observing the hottest areas, Bitcoins have performed well, but do all investors truly understand the pricing mechanics of this market – a dazzling performance but it could blow up in your face! Of course it is eye-catching when you read stories that somebody who bought £2,000 worth of Bitcoin 5 years ago is now a millionaire. However, the reality here is, even if the price continues to go up, we do believe there are other asset classes that can also perform well which are significantly less opaque. It is always easy to look back with hindsight, but the same can be said of any investment that performs well.

Some investors in Bitcoin may also not be aware that there are tax implications. Just because something is unregulated it does not mean you don’t pay tax. This may make investors reluctant to sell their holding in Bitcoin because they are sitting on healthy profits and don’t want to be stung with capital gains tax. This is the mistake that many made back in the dotcom bubble, and rather than realising taxable gains they got hung, drawn and quartered when it collapsed.

US markets on the whole are priced for tax policy perfection and expensive, as highlighted in the last weekly; highly efficient, lofty valuations and weak Sterling means no treats, only tricks. This isn’t to say that everything within the US is necessarily worth avoiding. Despite these market highs, technology companies continue to race ahead and surprise the markets. Amazon, Alphabet (Google), Microsoft and Intel results all succeeded in surpassing market expectations.

Whilst many stock markets are reaching all-time highs, one that we remain favourable on is Japan. Shinzo Abe won the snap election bringing certainty to Japanese economic policy, and many experts believe that their economy has plenty of room to grow. The central bank of Japan has also reiterated their commitment to a loose monetary policy until inflation rises – this will undoubtedly be a benefit to their stock market. A relatively weak Yen also provides a compelling investment case. Even if the Nikkei seems high, it is important to remember that it is still only half the value it was from its heyday back in the 1980s. Those nervous of reaching new highs may find this appealing.

Of course Japan isn’t completely risk free, especially with Kim Jong-Un on the doorstep threatening his very own firework display. This feels like the biggest potential risk on the table at the moment but even if that ‘event’ should transpire, most investors are looking for buying opportunities having an abundance of cash rather than the opposite. Any sell off will likely be short-lived.

 

Euro Retreats on ECB Tapering Announcement

The Euro came under selling pressure last week after the ECB revealed it will begin the process of winding down its QE programme next year. Whilst the programme has been extended by 9 months until September 2018, the pace of monthly asset purchases will be halved to €30bn as expected from January. Coupled with uncertainty surrounding the situation in Catalonia, the Euro dropped to a 3 month low against the US Dollar (-1.7% to $1.158). Sterling meanwhile, added +1.2% against its European counterpart to close the week at €1.132 although it did lose some ground against the Dollar (-0.6% to $1.311).

Global equity markets had another largely positive 5 days with all of the major indices (bar the domestic ones) finishing the week in positive territory The technology sector helped lift the S&P500 once again (+0.2%) offsetting weakness seen elsewhere and the impressive Q3 GDP data which revealed the economy grew at a better than expected +3.0% is also likely to have provided a late week uplift for the US market. In Japan, the Nikkei 225 rose for the seventh straight week (+2.6%) to reach a yet another record high. European equities were also in a buoyant mood with the French CAC40 and German DAX30 rising by +2.3% and +1.7% respectively. Disappointingly, the FTSE100 bucked the positive trend seen elsewhere recording a -0.2% weekly decline whilst the FTSE250 was flat.

Sovereign bonds had a fairly uneventful week in both the UK and the US. 10-year Gilt yields were 2 basis points higher at 1.391% whilst the US Treasury equivalent was 5 basis points higher at 2.427%. In the Eurozone, German 10-year Bund yields dropped by 9 basis points after the ECB announcement ultimately finishing the week at 0.390%.

In the commodity markets, oil continued its recent resurgence with Brent rising by just over +4.5% to $60.44 a barrel. Demand for oil has accelerated over the course of the summer and this factor coupled with declining global inventories has helped lift its price by more than +17.0% over the last 3 months alone. Gold felt the effect of a rising Dollar with the precious metal declining by -1.0% ($13.00) to $1,269 an ounce.

 

The Week Ahead

A busy central bank calendar combines with a number of economic data releases to keep markets on their toes this week. The Bank of England meets this Thursday and despite some cautious comments of late from Deputy Governor Sir Jon Cunliffe, most economists are expecting the Monetary Policy Committee to vote in favour of a 25 basis point rise to interest rates. The Bank is also scheduled to simultaneously release its latest Inflation Report. The Federal Reserve and the Bank of Japan are also scheduled to meet on Tuesday and Wednesday, respectively, and whilst many are expecting the former to raise US rates again this year, the move is not anticipated just yet.

In terms of data, Europe is due to publish economic growth estimates for the third quarter, following in the footsteps of most other developed nations who published last week. Purchasing Managers Index (PMI) data which measures business activity levels is also due across much of Europe, the UK and the US. Finally, the week will draw to a close with the release of the latest US Labour Report on Friday. Published on the first Friday of every month, this will detail the latest non-farm payroll data, the unemployment rate, and wage growth numbers.