Ken Baksh investment view June 21
Written by Charlie Palmer on 01/06/2021

JUNE 2021 Market Report`

 Investment Review

During the one-month period to 31st May, major equity markets, as measured by the aggregate FTSE All – World Index rose slightly.  NASDAQ fell, while Europe, including UK, and emerging markets outperformed.  The VIX index fell further to a level of 16.76 a fall of over 26% from the year end. Government Fixed Interest stocks, rose slightly in price terms, the US 10 year for instance, closing the month at a yield of 1.58%, while the UK Government All Stocks Index climbed to a level of 180.66, up just 0.03% on the month, though still down 7.313% since the year end. Other bonds also exhibited small gains. The Euro and Pound rose during the month while the dollar slipped, falling to a recent low versus the Chinese currency (graph below). Commodities generally had a strong month with several showing significant year to date gains. Crypto currencies were one of the few areas to show much volatility over May!

In terms of global economic data, there have again been marginal increases to 2021 aggregate forecasts, largely driven by USA and China, but also more encouraging projections for Europe. The World Bank produced a January forecast of 4% 2021 world economic growth, followed by the OECD estimate of 5.6% 2021 growth, published mid-March. The IMF in its mid-April report predicts 6% global growth this year falling to 4.4% in 2022 but highlights the considerable regional variation. COVID-19 developments during the month featured firstly an accelerated roll out of the key vaccines, but also high levels of cases and deaths in India, parts of Europe and Latin America, localised breakouts in Asia and the emergence of more virulent strains.

The fact that the global infection rate and number of deaths ( at least 3.57 million , May 31st) continue to grow, masks huge geographical differences, themselves tiggering differing virus containment tactics, Government support and Central Bank actions. 

One sobering thought is that, at the time of writing, a small percentage of the world ‘population have received a vaccine of any sort. The chances of reaching global herd immunity before late next year appear small and, of course, if the virus remains rife, the risk of dangerous variants emerging is high. 

Recent US Federal Reserve meetings have reiterated the adoption of the 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 an extended period, as well as maintaining bond purchases. At the May meeting Biden highlighted the growth in the economy and gave more detail regarding communicating/enacting any tapering measures. Shorter term economic indicators have included very mixed labour market trends against a background of of strong ISM readings. Also, the recent inflation figure of 4.2%,and the core PCE indicator released on 29th May, coupled with several company pricing concerns, have kept the inflation debate very lively. GDP, announced in April, grew at 6.4% on an annualised basis in the first three months of 2021.  Recently revised independent economic forecasts are now expecting over 6%-8% GDP growth for full year 2021 with unemployment ticking down to around 4.5%. The economic debate is now shifting to Biden’s latest plans covering infrastructure, research and development, clean energy, education, and social programmes, as well as longer term tax raising measures (corporation tax, capital gains tax, selective higher income tax etc). Analysts will be scrutinising near term Federal Reserve minutes especially in the areas of inflation and employment for signs that the tapering of bond purchases may be close.


At the ECB December meeting the emergency aid programme was increased, and the 1.8 Trillion Euro loan approved. More details, at national level on the disbursement of these funds is currently emerging. Recent ECB meetings have seen interest rates maintained at -0.5% and a continuance of the pandemic bond buying programme, a subject of growing debate. Very recent European sentiment surveys have pointed to a varying but generally positive trends from for April and May, after the widely expected first quarter economic decline., with the area currently expecting to have at least 70% of the population partially vaccinated by Q3 2021. The EU commission currently expects 4.4%-4.8% economic growth this year. April Eurozone inflation rose to 1.6% and surveys suggest that many companies are likely to pass more factory gate price increases to consumers as the year progresses. On the political front, a relatively quiet period although appointment of new German chancellor this autumn, and the French parliamentary elections next year will receive increased attention going forward.


 Asia excluding Japan, led by China (across all sectors and property), continues to remain in reasonable economic shape although the recent news flow has been dominated by Indian Covid issues, minor virus outbreaks elsewhere, new Vietnamese variant, Taiwan specific semi-conductor developments and growing Hong Kong tension.

There have been no major changes to Chinese economic forecasts with estimates of 5% to 7% GDP growth overing most of the 2021 projections. Producer prices rose at 6.8% in May, much higher than expected. The spring 2021 National People’s Congress placed emphasis on green policies, urbanization, and scientific research.

While there have been no major changes in Japan’s economic trajectory, Yoshihide Suga has suffered a setback in his first electoral test as Japanese PM after opposition parties won a string of victories in by-elections across the country, and the outlook for the coming Olympics is not certain. At corporate level however, shareholder activism is rising and some of the undoubted value in the market is being unlocked by private equity and other transactions

Within the UK, official GDP figures showed a 9.9% GDP decline in 2020, the worst performance in the G7, and a 1.5% decline over the first quarter of 2021, mainly weighted towards January. More recent PMI figures sentiment indicator and other real time data points suggest that April and May have seen accelerating growth. Unemployment remains around 5% and hiring has picked up, with indeed labour shortages in some areas. However, business failures are increasing (Source: Begbies), the rent “holiday” is due to end, Brexit difficulties linger (European trade, farming,fisheries,entertainment), many emergency loans are up for repayment, and the Furlough scheme wind-down may provide headwinds over coming months.


The Treasury’s average of forecasts suggests that the economy will grow by 4.4% this year and 5.7% in 2022.The average of leading independent economists now expect growth of 5.5% for 2021 (see graph), with some estimates as high as 8%. This would be the fastest rate of growth since 1989, and any expansion above 6.5% would be the strongest since the second world war.

Forward looking economic growth estimates cover a wide range,  as the positive argument of relief/catch up spending, by an element of the population from records savings (16.1% estimated by ONS for Q4 2020)  has to be balanced against rising bankruptcies,  unemployment(4.8% latest unemployment rate), greater poverty, loan repayments and the spectre of higher taxes, and certain residual Brexit negatives (e.g. trade admin, tourist travel, financial services, EU defence, pharmaceutical co-operation, airline shareholder voting structure, Scottish/Irish future…).

Inflation, currently 1.7% year-on- year, may drift higher in coming months, partly the basis effect, but also utility bills, council tax, fuel prices, while the strong climb in house prices, fuelled at least partly by the temporary stamp duty relief, is widely expected to moderate.

The Chancellor’s March budget centred on the “Jobs now, tax later” theme and received relatively small market and media reactions. Several muted tax adjustments which could have affected portfolio investment were omitted while the well flagged corporation tax increase from 19% to 25% only takes effect after April 2023.

Provisional government borrowing figures for the financial year 20/21 show a figure of approximately £330 billion, which while lower than some estimates, was still over14% of GDP, close to the percentage level reached at the end of the Second World War. Recent monthly figures show a better-than-expected trend,though debt levels are still extremely high in absolute terms.

The MPC recently agreed that no more stimulus was needed now, but further QE and/or negative interest rates are being actively debated, and at the time of writing, more hawkish noises are emerging from Council members.



Although currently further from investor worries, growing concerns regarding global trade tensions (many), government debt (over 100% Debt/GDP), USA/China/Taiwan/Belarus/Russia/Australia/Hong Kong/Ukraine, Middle East relations,  BREXIT follow up and possible taper tantrums. It will be increasingly important to watch inflation trends, as any “shock” necessitating greater than forecast bond yields could have serious repercussions for many asset classes.

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.

 

Monthly Review of Markets


Equities

Global Equities showed a lacklustre performance over May 2021, the FTSE ALL World Index registering a gain of 0.48% and fall of -2.13% in sterling adjusted terms. Europe excl UK was the leading performer in both local currency terms. Nasdaq and Asia underperformed, falling in absolute terms. The FTSE and FT All-Share marginally outperformed both gaining about 0.8% over the month. Since the beginning of the year Europe is significantly outperforming the average while NASDAQ, the Japanese Nikkei, other Asia and other emerging markets are lagging. The VIX index, ended the month at 16.76, a monthly fall of 9.55% and is now about 26% lower than the year end level.

UK Sectors

There were again very mixed UK sector performances during May, with for instance Mining shares showing a   12.4%   gain while telcos,non-life insurance and travel and leisure(better to travel than arrive!) names  showed absolute price declines. Mining shares,Telco’s,Life Assurance and Banks,  lead the year to date gains the latter sector showing 23.6% appreciation. Since the beginning of the year, smaller company funds have outperformed equity “income” funds which have moved broadly in line with the “average UK fund.”. Mixed asset funds have shown growth of between 1% and 5%, depending on the equity weight, since the beginning of the year (Source Trustnet 31st May 2021). 

 

Fixed Interest

Gilt prices remained virtually unchanged during the month, the UK 10-year yield for instance finishing the month at 0.79%.  Other ten-year government bond prices showed marginal gains with closing ten-year yields of 1.58%, -0.17% and 0.07% in USA, Germany, and Japan respectively. Corporate bonds rose slightly in price terms as did more speculative grades.  All the followed core preference shares have significantly outperformed core government stocks in capital and income terms over the year to date and are still recommended if seeking fixed interest exposure with annual yields in the 5.3%-6% area or 10.3% for the more speculative idea. Recently issued convertible bonds, especially in the tech sector are nursing sharp investor  losses, suffering a triple whammy in the negative sense!


Check my recommendations in preference shares (note recent FCA/Aviva “apology”), corporate bonds, floating rate bonds, zero-coupons, 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

Sterling strength was one of the monthly features on all major crosses, while the Japanese Yen weakened even against a soggy Dollar.

Amongst other currencies, more hawkish interest rate noises/actions from the likes of Canada, Norway,and very recently New Zealand are starting to be reflected in certain cross rates.

China’s currency (below graph) is hovering near its strongest level against the dollar in three years, posing a challenge for Beijing as it seeks to balance demand for the country’s exports with surging commodity prices.

In sterling adjusted terms, UK equity markets are now leading year to date,up about 9% with the sterling adjusted world average showing a gain of 5.6%.

 

Commodities

A generally positive month for commodities, with gold for instance up about 8%(inflation, $?) while coal jumped  over 20%. Oil rose a little, while copper climbed over $10000 per tonne on the LME again. Some of the “softs”, platinum and palladium declined in price terms. Over the year so far oil, copper,corn and coal are all showing gains in excess of 30%.Chinese attempts to talk down the  cost of some basic raw materials had limited effect, and the rise in their local Producer Price Index can feed through to consumers at some stage.


Looking Forward 

Notwithstanding the large human toll and uncertainly still posed by Covid-19 (lockdowns, geographical variations, vaccines) there is growing optimism regarding the course of the global economy.


Central banks generally continue to adopt an easy money policy, supplemented by other measures while Governments provide increasing short- and long-term fiscal support.

However, both supports will inevitably be questioned/reversed as and when the pandemic eases, and investors will have to assess the impact on various asset classes. 


For equities, the two medium term key questions will be whether/if rising interest rates eventually cause equity derating/fund flow switches, government, corporate and household problems, and how the rate of corporate earnings growth develops after the initial snapback.


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


Observations/Thoughts

  • SECTORS-The dramatic change in equity confidence, from early November, largely because of the Biden election victory and vaccine announcements prompted large sector/style changes with new focus on value, cyclicals expected to benefit from sharper economic growth. This trend has continued into May 2021 with previously unloved sectors such as oil, banks, property, and selected retailers showing above average growth, in share price terms. This “theme divergence” is also leading to a certain amount of passive rebalancing favouring value over growth. Momentum trades may also be undergoing a reversal.
  • ASSET ALLOCATION-Strategist are becoming increasingly bullish on Europe, switching some from USA (valuation, tech dominance, currency? fiscal situation) and some from Asia (last year’s story, Chinese wobbles, resurgent COVID). Although I was rather too early on this trade, I too would still recommend some tactical switching in the short term. Metrics such as PE,Yield,Price-Book,earnings growth,still look  relatively inviting despite the  equity outperformance so far this year ,in both local and currency adjusted terms. At the macro level, pan European deficit, currency outlook and bond market prospects are not as potentially troubling as USA. Banks, Motors, Luxury goods (both good plays on Asia), Infrastructure and Renewables would be favoured areas, and many investment trusts are currently attractive on yield and discount grounds.
  • AS further statistical confirmation of the above, the divergence between my high and low risk COVID stock baskets remains high as more favourable vaccine news and economic upgrades (especially USA), have emerged. Since the 6th of November turning point, the weekend of the first significant vaccine announcement and the US election, the benchmark FTSE 100, S&P and NASDAQ have all risen  approximately 15%-20%.My “balanced” basket, broadly indicative of client portfolios managed has gained about 29%.Meanwhile,over  the same period, many of the “higher risk” usual suspects, IAG, Carnival, EasyJet, Cineworld and Gym Group etc have risen on average by  close to 70%,although still  down on pre-pandemic 2019 high prices. Conversely the defensive basket is barely showing any growth at all (+4% on average), and many WFH stocks have actually declined in absolute terms e.g Netflix,Peleton,Regeneron etc


  • The last months have shown the importance of maintaining a balanced portfolio. Many companies in the value/cyclical area seem likely to recover further, while great selectivity will be required chasing the Covid-19 risk stocks. Some of these names could recover quite strongly, in the longer term, but risks of bankruptcy, dilution, government interference/control should be considered. Conversely, previous” winners” must be assessed both on their relative valuation, as well as relative earnings growth in a post pandemic world. Technology,for example is a good example of an area with longer term secular growth, especially in areas such as cyber-security,cloud,AI,but shorter term valuation measures and price movement suggest that great selectively is required.  Higher bond yields will also have increasingly diverse effects on equity valuations and fund flows. On varying vaccine/lockdown developments it is possible to identify sub-trends e.g staycation versus airlines.
  • Emerging Markets-Very difficult to adopt a “blanket” approach to the region with so many different COVID, commodity, debt, geo-political variables. Interestingly the rush into Emerging Market assets, both bonds and equities, at the start of 2021 has moderated as many dramas have unfolded e. g Turkey, India, Ukraine. Extra due diligence is required and remember to understand the currency as well as local market dynamics.
  • However,within the emerging space, I continue to have a relatively favourable view on Asia, where relative COVID success,  stable FX,inward investment and   export mix are supportive.Vietnam,South Korea and Taiwan are currently favoured. The active versus passive debate in 2021, will take extra significance where “China versus the rest” and appropriate tech weighting will be important considerations. More caution is required in many South American markets with poor COVID-19 situations, deteriorating fiscal balances and inefficient governments, many of which are up for change. Parts of Central Europe are currently showing some resilience, especially when linked to German exports, but the Covid-19 situation is currently worsening in some areas.