Monthly Markets Update - June 2017

Market Risks and Opportunities - Q3 17

Dear Clients,

Please see our current views regarding markets, including where we see potential risks and opportunities.

HOW WE ARE POSITIONED FOR Q3 17?

We anticipate that markets will remain mixed and in consolidation mode into the new Quarter.

? Investors have been taking a profit on several US stocks after an impressive run-up and some uncertainty over US politics; meanwhile, European stocks have been constructive after the benign results of the French elections.

? Bond prices have initially stayed in a range as the market had already discounted the June rate hike and another one in December, however suffered a global selloff last week due to the central bankers’ hawkish stance.

? Commodity markets are expected to remain mixed or bearish, with iron ore trending lower on the back of weak Chinese data and oil breaking lower after disappointment from the OPEC cut.

? The US Dollar to trade sideways this year to lower as Fed hikes are discounted.

• Overall we remain medium term constructive on stocks; however, we would be wary at the current levels and we would buy into a correction. Despite underperforming Europe and Japan equities recently, US equities have made new highs. Nonetheless, we remain vigilant and foresee political risk as a result of Trump policies and a possible escalation of the Russian ties scandal, as dangerous developments in North Korea.
• Market complacency is at its extreme, but we do not think it is sustainable: therefore, we advise to buy protection and volatility while it trades at multi year lows.
• It is interesting to note that since the expected rate hike by the Fed on 14th June, the USD has weakened and the US yields have initially declined.
• Another hike is forecasted for December (with September an open question) as the Fed seems comfortable with the current pace; on the other hand, however, the weakening USD this year has loosened financial conditions.

• While we are wary of Brexit and the upcoming Italian elections at the end of the year, we believe the existence of cheap valuations, a generally underweight position in European assets and a cheap currency, make European equities attractive.
• We are constructive on Emerging Markets, as markets look solid and seem immune to the US interest rate hikes.

• We still like South East Asian economies, as reforms have helped boost investments and growth. India, Indonesia, Vietnam and Philippines are our favourite.
• We are wary of the Chinese slowdown, and for this reason we would like to carefully monitor the markets most exposed to China and the countries, like Australia, who directly benefit from China.

MARKETS OVERVIEW 

Equities – Cautiously Bullish

? Equities have rebounded from the sell-off in mid-June. However, we are concerned that a pullback may be coming due to valuation multiples looking stretched and the potentially stubborn political impasse. For this reason, we prefer to lighten our long equity positions in the short term. For the long term, we are selectively choosing overweight equities, especially versus bonds: they offer the best return prospects versus other asset classes over a 12-month horizon.

• At the end of last year and the beginning of this year, flows out of bond markets and into USD denominated assets have primarily benefited the US stock market. Investors will want to see more progress on economic plans over more promises. Any disappointment with scale or timing would leave markets vulnerable. Therefore, we caution to not be overexposed at current levels. It will be a stock pickers’ market, and remain focused on preferred sector exposures including consumer, cyclicals, durables and financials and health care stocks.

Bonds – Bearish

• With a rising interest rate environment, most bond markets are vulnerable. After the big rise last year, US bond yields have stalled in a range. Yields have been trending lower as the market discounts the Fed’s interest rates hikes. Most sovereign bonds are still looking expensive and vulnerable to any hawkish changes from the Central Bank policies, especially in Europe, UK and Japan.
• If investors need to be positioned in fixed income, we prefer either inflation protected bonds (e.g. TIPS) or high quality corporate bonds with short duration trading at or near face value.
• Our previous view was to use bonds as an alternative for cash balances which were earning next to nothing. However, in this environment the risk of capital loss on bonds outweigh the potential rewards for trying to get a better than zero percent coupon.

Commodities – Expected Sideways Markets

• Oil prices remain under pressure with continued high inventory levels and signs that non-OPEC production will keep rising in response to the rebound of prices over the past year.
• Oil demand continues to grow at a steady pace of 2%. On the other hand, supply is quickly increasing. The US rig count has almost doubled since the lows of May 2016, so we think a range 45/55 seems reasonable with short term risk to the downside, but medium term bullish.

• Gold has been rallying in the past months amid European political risks and worries about US fiscal policy. Gold has been rallying as the Dollar was sold off. At the current level, we are neutral on Gold, unless the situation with north Korea would escalate.

Currencies – Consensus neutral on USD

• Until there is more clarity on Trump’s policies, the US dollar will continue to move sideways to lower against most currencies. While interest rate hikes will benefit the USD, the Administration’s fiscal policies could put a ceiling on the value of the greenback. The main driver of the US dollar strength will come from the US interest rate rise, and if the Fed is more hawkish than expected, we could see a renewed interest in buying USD. We are bullish on the Euro as investors are still too underweight. Economic data could surprise on the upside, pushing the ECB to begin increasing rates earlier than expected, as Draghi has mentioned in the last meeting.

Alternatives – Bullish

• We are generally positive on Property markets, with a preference for commercial over residential. Our favoured countries for exposure include Australia, UK, South East Asia, USA, and Vietnam. Please ask for more information on some of the projects we are currently working on.
• We also are positive on Private Equity as we see better growth opportunities at lower valuations compared to most stock markets.

BULLISH SECTORS

• Cyclical names, like Consumer Discretionary, Industrials and Technology outperformed. Energy was the biggest loser.
• Technology has been the best performing sector over the past 12 months. Given that it is the most expensive sector, we still think it is time to reduce longs and take profits particularly because we believe exposure to China could be negative.
• The Healthcare sector continues to benefit from improving pipeline productivity and an increasing number of new drugs approved by FDA.
• We also like the Consumer Discretionary sector because of the domestic nature of its business. Its names are less vulnerable to Trump trade wars and valuations are attractive, potentially allowing these sectors to benefit from the domestic economy.
• Lastly we like the Financials again: valuations have cheapened, and we see a renewed push up in Rates in the US and in the rest of the world.
• Improving business and consumer confidence should continue to support credit demand.
• Stronger economic growth will reduce non-performing loans
• Capital ratios have improved, and a steeper yield curve should be positive.
• Energy shares could be the wild card if oil rebounds; they look much cheaper compared to 3 months ago.

HOW WE MANAGE RISK - PORTFOLIO PROTECTION, HEDGING & TAKING PROFITS

As opposed to just going to cash, we prefer alternative strategies such as hedging via options and option writing strategies to smooth out portfolio volatility. We also actively monitor profits using trailing stop losses with the view of protecting and locking in gains.

PORTFOLIO MANAGEMENT SERVICES

Please let us know if you would like to hear more about our Discretionary Portfolios and how we consistently generate an additional 0.5% to 1.5% per month using our Options Overlay.

CONTACT

We would be more than happy to have an informal chat about these and the other services we offer as well as the current opportunities we are looking at.