Ken Baksh Monthly Commentary - November 2020
Written by Charlie Palmer on 01/10/2020

NOVEMBER 2020 MARKET UPDATE FROM FUND MANAGER KEN BAKSH

During one-month period to 31stOctober, equity markets, as measured by the aggregate FTSE All – World Index rose by around 0.3, but there was again very considerable variation country by country, and the last week of the month saw some of the largest equity declines since March,2020. Asia and some emerging markets rose, but there were sharp falls in UK and Europe and even the tech-heavy NASDAQ declined in price terms, by over 3%. Asia excl Japan now leads the year to date returns in local currency while Japan, sterling adjusted has just overtaken USA, in sterling terms. The VIX index rose sharply to 38.6, a level not seen since spring 2020, as more caution permeated the equity markets. Government stocks fell while more speculative grades rose in price terms, perhaps reflecting a search for yield away from hugely indebted Governments. Currencies were reasonably stable although the Chinese Renminbi continued to strengthen, and the Japanese Yen received some safe haven support. Apart from oil, commodities had a slight upwards bias.


In terms of global economic data, the IMF produced its medium-term forecast looking for an aggregate 4.4% decline this year to be followed by a tentative 5.5% rebound in 2021.This is like the most recent OECD projection. However, much caution in extrapolating these trends is warranted as, for instance, UK extends its furlough scheme and enters a monthly national lockdown, and USA debates(still!) the size and duration of emergency income payments and ponders differing Presidential economic outcomes. In addition, global COVID data still points to rising active cases, and over 1.2 million deaths at the time of writing, and many localised lockdowns are present/imminent. A sharp global V shaped economic recovery looks highly unlikely (W and K shaped often mentioned now!) given the variable and uncertain pandemic progress and related varying policy actions. The variation in growth between countries is much larger than “normal” recessions due to a combination of virus incidence/response, industrial composition, consumer confidence and stimulus measures. Both forecasts(IMF and OECD) above point to rising inequality.


At the end of August Jackson Hole monetary policy symposium the Fed adopted a new monetary policy strategy that will be more tolerant of temporary rises in inflation, cementing expectations that the US central bank will keep interest rates at ultra-low levels for years. At this time of writing, the election dominates the news, but the third quarter preliminary GDP (+33%-annualised measure from an exceptionally low base) reading   released on 28th October gives some idea of the relative economic resilience. The election itself (timing of firm result, candidate, and upper, lower breakdown) is clearly impossible to call at the moment, and even the market reaction to this unpredictable event (remember previous Trump election victory and the 2016 Brexit vote)  is  difficult to assess. After short term volatility I would expect US assets overall to revert to data/rescue package/COVID watching, although there could be some divergent sector trends e.g geo-political winners and losers, tax winners and losers, health, oil and gas, infrastructure and environment. Weighting the NASDAQ components appropriately will be one of the key asset allocation decisions.


At the October ECB Council meeting interest rates were left unchanged as were the amounts of the various asset repurchase programmes and the operation of the refinancing programme. However, Council members are increasingly divided about further economic stimulus against a worsening Covid background and weaker inflation, and Christine Lagarde hinted strongly that more stimulative measures could be employed before the end of the year. Very recent Sentiment surveys suggest, 

 as in the UK case, a setback in October, particularly in the services sector, and more pronounced in Southern Europe, pointing to double dip recessions with further deflation. Germany and France have just announced longer lockdowns and more countries are likely to follow.


Asia excluding Japan, led by China(across all sectors and property), is generally in better shape than other major regions( virus response, economic mix), while Japan itself, with a relatively muted COVID experience, is expected to experience a relatively smooth transition under the new PM,Yoshihide Suga.The Bank of Japan has trimmed its growth forecast for this year but predicts a stronger economic rebound in 2021 as it kept monetary policy on hold at its October meeting.


China specifically has been reporting relatively strong economic data e.g provisional third quarter GDP, and is likely to post positive GDP growth this year of around  2%-4%. South Korea recently announced a much smaller year on year GDP decline than expected, at 1.3% for the 3 months ending September.


Within the UK, provisional GDP figures, showed a decline of about 20% for the second quarter, much weaker than other developed countries. More recent data showed recovery in late June, July and August, with large variations by sector. However, recent indicators and anecdotal company statements have shown greater than expected weakness, and negative growth for the fourth quarter is highly likely. The GfK consumer index, covering the period to mid-October showed particularly weak trends in spending and mobility. At this time of writing, a national lockdown has been announced to be in force until early December, and the Chancellor has proposed an extension to the furlough scheme as well as announcing other targeted support schemes in recent weeks.

The overall picture is still one of depressed activity and with rising infection levels, increased hospitalizations, colder weather, uncertain labour market and Brexit (in one shape or form), it is hard to be optimistic for the fourth quarter. As of 29th October, corporate restructuring specialist, Begbies Traynor, reported that over half a million companies were in “significant distress” as at the end of September,9% higher than March when the coronavirus lockdown started.

Analyst’s estimates expect average global corporate earnings to decline around 20%in 2020 with a tentative rebound of over 25% next year. There is exceptionally large country to country variation. Europe, including UK, is expected to underperform the US, while Japan is one of the zones experiencing more economic and corporate resilience. This is also true in China, but also Korea and Taiwan where the combination of better COVID experience and export mix (technology, medical) is cushioning the economic blow.


Corporate activity is picking up strongly both within borders e.g Veolia/Suez and more widely e.g. G4S, William Hill,McCarty & Stone, predators sometimes being private equity groups.


Although currently further from investor worries, growing concerns regarding global trade tensions (many), government debt (over 100% Debt/GDP), USA/China/Hong Kong relations, BREXIT, and imminent US election (November 3rd) are not far away. More intangible in nature, the pandemic also seems certain to amplify global inequalities (regional, medical,employment,poverty,demographic) which could manifest in growing social unrest.


Equities

Global Equities showed a gain, in aggregate over October ,2020. The FTSE ALL World Index registered a gain of over 0.3% over the month and is now up a little since the year end, in dollar terms. The UK broad and narrow market indices, both fell by over 4% during October, now underperforming the sterling adjusted world index by nearly 28% since the beginning of the year. China and other Asian/emerging markets were the month’s major outperformers while Europe excl UK and the UK, fell sharply in price terms. The VIX, now at a value of 38.6, has moved back into the higher risk area, last experienced in April.


UK Sectors

Another very volatile month for UK sectors. Some of the more “defensive” sectors such as utilities, and telco’s showed price gains during the month along with banks (better than expected results, lower provisioning, dividend re-instatements?) while basic resources and life assurance fell quite sharply. Year to date, all sectors are in negative territory. Corporate activity is increasing with bid activity involving G4S, William Hill and McCarthy & Stone amongst the UK names. The “average” All-UK unit trust is now down about 21% year to date with smaller companies outperforming significantly and income companies underperforming (-26%), the latter often suffering from capital declines as well as reduced income. I will be writing on this sector shortly suggesting a BUYING case.  


10 YEAR FTSE



Fixed Interest

Gilt prices fell (Yields rose) about 1% over the month, the 10-year yield now at 26 basis points (0.26%).  Other ten-year government yields also rose closing the month at US, 0.86%, Japan,0.04%, and Germany, -0.63% .However, lower quality credit rose in price terms, whether US junk, emerging markets or mid quality UK corporates. This somewhat unusual divergence, during a period of uncertainty, maybe suggests a search for yield but avoidance of government debt, a stance, within reason, with which I can concur, but great care is warranted in instrument selection.   Check my recommendations in preference shares (note recent FCA/Aviva “apology”), corporate bonds, floating rate bonds, speculative high yield etc. A list of my top thirty income ideas from over 10 different asset classes is also available to subscribers.


Foreign Exchange

Currencies were relatively stable during October, a slightly stronger Yen on risk aversion and Sterling oscillating with various Brexit statements but only small moves were registered overall. One ongoing feature however was the continuing strength of the Chinese currency, largely on relative economic performance. Interestingly, in sterling adjusted terms Japan has now overtaken the S&P as one of the leading equity markets year to date.


Commodities

Apart from oil and some precious metals, which declined on demand concerns, commodities were reasonably stable in price terms. “Soft” agricultural product prices were however quite firm for a variety of supply related issues.


Looking Forward  

Over the coming period, there is expected to be considerable “event risk” which could affect all asset classes. A “pause/setback” in European and US economic activity after the recent rebound is likely considering the growing number of localised/national lockdowns. 


On top of this are the US election (both result and clarity of the vote itself), vital period for the UK/EU Brexit discussion, and the bulk of third quarter earnings releases (both actual numbers and corporate statements)


Estimates of earnings downgrades for 2020 have stabilised although the timing and magnitude of any bounce back makes forecasting, using conventional metrics, a hazardous exercise! The reliability of “E” in the PE ratio will be brought into question, asset value write downs will be significant e.g property sector and dividends will be constrained both for financial and moral reasons. Certain sectors will be subject to state intervention, while others may succumb to administration or opportunistic take over. Longer term changes in consumer habit will also affect corporate fortunes e.g home working, business travel,tourrism. 




Following the format of last month, I make the following observations. 



Observations/Thoughts

  • SECTORS-After a temporary “pause” in share price performance the pharmaceutical sector has regained some momentum which may continue, with, at the global level, several COVID vaccines in phase 3 trials and various trial results due October/November, many promising test kits, and non-COVID drug developments. Note that some energy related corporate bonds have lagged the oil price recovery and look interesting for income, on reduced dividends, and capital gains and many of the large equities in the sector are starting to stabilise (Note RDSB dividend statement). Mining stocks remain of interest with a growing number of underlying commodities responding to global growth impulses e.g copper while precious metals are still seeing interest. In the more defensive market environment, which I expect, certain Utilities are worth revisiting for maintained, or even increased, dividend payments, stable business and growing ESG credentials, although regulation/government interference should be considered. The Telecom sector is starting to be the subject of more global corporate activity, and both major UK names represent value plays now. Technology holdings should be maintained but be aware of some stretched valuations(priced to perfection?), tax issues, as well as non-financial developments, some of which may surface/resurface during the  US election period e.g Google, Facebook, Twitter. Much of the Banking sector specific i.e. ultra-low interest rates, dividend deferrals, debt provisioning and   stock specific( e.g HSBC news) now seems priced in, with many bank names trading well below book value, although domestic banks e.g Lloyds, will remain strongly associated with UK COVID developments. In many cases bank preference shares offer higher yields and better capital security now, although very recently HSBC,Santander and Standard Chartered have also hinted at restoring ordinary share dividends-a controversial topic!. Clearly a very selective approach is needed in the areas of Retail, Hospitality and Travel. The likes of IAG,Whitbread and WH Smith have all completed large rights issues, which could certainly buy time over an uncertain period.Finally,having being negative on the general sector for a considerable length of time, I am turning more neutral on the quoted property sector, both direct equities and investment trusts. Recent results have brought out the absolute lack of homogeneity within the sector.
  •  Looking at my three” home-made” stock baskets, balanced, high risk covid and covid winners, there have been a significant difference in share price performance, over the approximately seven months since the sharp market crash. As the default performance the balanced fund/FTSE 100 is down approximately 25% from highs of last year, experiencing a bounce of about 22% since March 23rd, although obviously overseas indices have fared much better. The “higher risk” basket is still down 46%,despite the 56% bounce…with many travel/tourist/hospitality names still nursing losses of 70% to 80%.The lower risk basket is down just 12% (no surprise there!) but has shown a bounce of over 80%.This  skewed risk return profile is quite unusual.At this time of writing, my preference would be to still run some of the defensive winners, but watch the valuations  and avoid some of the “tempting” bargains that seem to be on offer on the higher risk list.
  • Currently, there appears to be value in some of the latter category but extra due diligence in the area of fund/stock selection will be required. Many of these names could recover quite sharply but risks of bankruptcy, dilution, government interference/control should be considered. Also expect an increase in corporate activity.
  • Emerging Markets-Very difficult to adopt a “blanket” approach to the region with so many different COVID, commodity, debt,geo-political variables. Much of Latin America is experiencing an acceleration in COVID cases, as is India, while closer to home Turkey faces a worsening geo-political, currency situation  However I have a relatively favourable view on Vietnam, where the macro factors (COVID success, economic GROWTH!), stable FX,inward investment are positive features. Other Asian markets are also worth a look. Russia, both bonds and equities, may appeal to value, income-oriented investors and enjoys a relatively favourable current/fiscal balance situation, although political developments can unsettle e.g mining sector tax. The prospect of a Biden victory could also affect sentiment e.g softer on China, but harder on Russia and Turkey. Emerging market bonds are starting to weaken after the relative total return outperformance earlier in the year. Please contact me for my favoured pooled investment plays
  • Not on near term investor (or government!) worry lists but be aware of the huge government DEBT problem building. Latest figures show aggregate global debt in excess of GDP at the global level. Apart from short term haven buying, I expect conventional government FIXED INTEREST to suffer in the long term, but other fixed interest options are available.  In the UK, it should be noted that increased supply is occurring at the same time as reduced monthly QE buying.
  • FX- The pound may continue to be vulnerable over coming months on a mixture of COVID developments, relatively weak economic data, Bank of England uncertainty, political wrangling and ongoing Brexit discussion. Dollar and Euro may be beneficiaries or Yen for safe haven, lower correlation characteristics. China and or Switzerland may resort to currency weakening action/rhetoric
  • COMMODITIES-Gold remains firmly in positive territory from the beginning of the year, although weakening recently. There are growing signs that gold jewellery demand has been falling quite sharply I.e recent price rise fuelled almost entirely by investment flows.Copper,which has now rallied about 50% since its March low, has benefitted from Chinese demand, “green” stimulus issues and some covid related supply issues.  In several areas, supply demand distortions are creating very volatile conditions e.g WTI oil, uranium, palladium, coal. In a UK context it might be worth remembering that planting and harvesting will be disrupted by both weather and labour shortages, which could potentially lead to pockets of food inflation.
  • ESG Considerations-I have been reviewing a number of ESG (Environmental, Social and Governance) issues recently, both from personal interest, client curiosity and cognizant of the huge amounts of resource (both human and financial) being diverted to the sector. While applauding the longer term merits of such a move, I would advise extra layers of due diligence regarding “greenwashing”, choice of benchmarks, and shorter term considerations of values versus wallet  (increasing stretch between tech and oil being a good example)-be careful what you wish for!
  • COMMERCIAL PROPERTY…The last few months have seen mixed fundamental news from the commercial property sector (Impact Health Care,SERE,Intu, Land Securities, British Land,TR Property, etc),and the key takeaways seem to be very much as anticipated i.e. further large write downs and weak rent collection in most things retail (excl food retail), steadier but slightly more stable London offices, and strong developments in the areas of logistics, healthcare and storage. The overall tone is for figure/statements to be marginally better than low expectations. European statistics are generally more favourable than UK. Student accommodation, a former investment favourite, is taking a hit from both domestic and international demand. Extra due diligence is currently required in this sector both by asset type (direct equity, investment trust, or unit trust. On the more positive side there is growing evidence of corporate activity as predators, especially private equity or long term overseas institutional players see value. Many large property funds are re-opening, and it will be interesting to see updated cash levels, property valuations and data on investor flows.My current view is that investors may wish to slowly move back to a more neutral situation for he sector with  my preference  for investment trusts rather than unit trusts.   


Full asset allocation and stock selection ideas if needed for ISA/dealing accounts, pensions. Ideas for a ten stock FTSE portfolio, model pooled fund portfolios (cautious, balanced, adventurous, income,COVID specific), 30 stock income lists, defensive list, hedging ideas, and a list of shorter-term low risk/ high risk ideas can also be purchased, as well as bespoke portfolio construction/restructuring and analysis of legacy portfolios. 

Feel free to contact    regarding any investment project.

Good luck with performance! 

Ken Baksh Bsc,Fellow (UK Society of Investment Professionals)

1st November,2020 


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