Investment Comment September 2020

Global stocks recorded their largest August gain since 1986. Apple became the first US listed company to reach a $2tn market capitalization. The VIX index, which measures volatility, fell to its lowest level since March. However, there remains significant uncertainty ahead, in epidemiological, economic and political terms. We anticipate continued volatility to reflect this and are comfortable maintaining moderately defensive asset allocation recommendations relative to history.

Federal Reserve Chairman Jerome Powell addressed the annual Jackson Hole summit virtually on August 27^th, announcing a new inflation targeting regime. Inflation targeting will now be averaged over a period at 2%, rather than staying fixed at 2%. The implication is that where inflation has been historically low, monetary policy will accommodate a rise above 2% for some time afterwards without necessitating a rise in interest rates. Previously, the Fed would pre-empt rises in inflation by increasing interest rates. With the last decade seeing persistently low inflation, this change suggests that the Fed’s position towards low interest rates is likely to remain in place for some time. This change supports our hypothesis that developed market Central Banks will look to allow inflation to reduce the impact of recent borrowing as a politically easier route than implementing austerity.

US equities have continued to gain after recovering their entire losses for the year, with the MSCI US index finishing August +9.83% year to date, and +5.33% in August alone. However, the returns are not evenly distributed. Just three stocks, Amazon, Microsoft, and Apple, have contributed to 25% of the entire gain of the global stock market returns this year.  The virus has initiated unique structural change compared to previous recessions, demonstrated by the dispersion in returns across sectors. The MSCI World Technology is up 32% along with Consumer Discretionary (+21%) and Healthcare (+7%), while the comparative Energy index is down 37%, Financials (-18%) and Materials (-12%) from the beginning of the year to the end of August.

Japanese equity markets rallied strongly in August, up 5.49% in the month, before fading slightly on the news that Shinzo Abe, Japan’s longest serving Prime Minister, is to step down due to ill health. The eponymous programme of Abenomics was a combined monetary, fiscal, and structural drive to boost Japan’s economy out of the stagnant period experienced for over 20 years. Although his term was a rare period of stability in Japanese politics, many of Abe’s most ambitious policy proposals fell short, including the state aim of Abenomics to induce growth. Market participants will be watching closely to see whether his successor continues with the same agenda.

Ant Group, founded by Alibaba’s Jack Ma, pursued a dual listing in Shanghai and Hong Kong. The move is a sign of Chinese tech companies eschewing US listings in favour of domestic exchanges as tensions between the two countries continue. China has encouraged domestic listings on Shenzen’s Chinext and Shanghai’s Star50 bourses by loosening profitability criteria and removing maximum daily share price rise restriction, whilst the US-based Nasdaq conversely tightens its listing rules.

India experienced one of the world’s worst economic contractions due to Covid-19, with GDP declining substantially. Despite a strict lockdown, the spread and economic damage of the virus has not been blunted, owing in part to high population density in cities and a mobile intra-national workforce. Tensions also continued with China, both in the physical space of the Himalayan borderland and in cyberspace, where Narendra Modi’s government mulled action against Huawei and its 5G infrastructure developments in the country.

The Eurozone recovery faltered in August. The MSCI Europe ex-UK index rose by 2.21%, but the macroeconomic picture is mixed. Germany forecast that its contraction would not be as sharp as previously feared, predicting a decline of less than 6% for 2020 and a 5.2% rebound in 2021. German unemployment unexpectedly fell in August, but by contrast Italy’s jobless claims were higher than expected, rising to 9.7% and ahead of market consensus of 9.1%. The Euro also ended the month at its strongest level versus the dollar in two years. As investors move out of the traditionally safe-haven dollar, and the ECB’s authority is enhanced by its handling of the recent crisis, the Euro is gaining at the expense of the dollar. However, a stronger Euro will hamper Eurozone export recovery and put even more downward pressure on the bloc’s inflation rate.

The UK remained an equity market laggard in August, as the MSCI UK rose 1.50%. The index, which when compared to the global benchmarks contains larger weightings of energy and financials, remains 20% below the start of the year, underlining the global disparity in equity returns. The UK housing market showed signs of strength, with mortgage approvals rebounding almost to February’s level, encouraged by the stamp duty holiday and latent demand now able to view and bid on houses. The furlough scheme began to wind down, with subsidized payments reducing from 80% to 70% of participants’ wages.

Emerging Markets registered the lowest MSCI Index gain, at 0.19%. Equity investors have been focused on the concentrated rebound in US equities, finding the risk-reward more attractive than in less developed equity markets.  Emerging Market credit has benefitted from sophisticated central bank interventions early in the pandemic, such as quantitative easing. Although the challenges facing emerging markets differ from developing markets, preventing the liquidity crunch caused by lockdown is a common recent theme. For EM, this often involves foreign currencies, especially dollars: the Federal Reserve, IMF, and local central banks have broadly coordinated to prevent dollar liquidity crises. As a result, credit spreads have tightened more quickly than in the previous financial crisis, a good indication of financial conditions normalising and lower volatility. As always with Emerging Markets, there is a wide variance within the grouping.

August is usually a subdued month for financial markets, and indeed this month saw the lowest monthly volatility since February. It was however marked by a seemingly subtle but historic change in how the Federal Reserve views inflation. As the world’s most important central bank, its interest rate policies and the corresponding effect on the dollar as the world’s reserve currency are of crucial importance to global capital markets. However, ongoing uncertainties remain and until we see an effective vaccine or treatment for Covid-19, we anticipate continued volatility. From a portfolio perspective, this means continuing to trust well-established managers who pick investments for the long-term based on their fundamental qualities.

Risk warnings
This document has been prepared based on our understanding of current UK law and HM Revenue and Customs practice, both of which may be the subject of change in the future. The opinions expressed herein are those of Cantab Asset Management Ltd and should not be construed as investment advice. Cantab Asset Management Ltd is authorised and regulated by the Financial Conduct Authority. As with all equity-based and bond-based investments, the value and the income therefrom can fall as well as rise and you may not get back all the money that you invested. The value of overseas securities will be influenced by the exchange rate used to convert these to sterling. Investments in stocks and shares should therefore be viewed as a medium to long-term investment. Past performance is not a guide to the future. It is important to note that in selecting ESG investments, a screening out process has taken place which eliminates many investments potentially providing good financial returns. By reducing the universe of possible investments, the investment performance of ESG portfolios might be less than that potentially produced by selecting from the larger unscreened universe.