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Monthly Market Commentary

A key development in October was a big rally in Sterling, which appreciated 6.5% against the US Dollar and 3.4% in trade-weighted terms.

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by
Jon Cunliffe

in Fiduciary news

12.11.2019

A key development in October was a big rally in Sterling, which appreciated 6.5% against the US Dollar and 3.4% in trade-weighted terms. With a “no-deal” Brexit off the table for the time being the Pound enjoyed a powerful short-covering rally. The S&P500 rallied 2% over the month, but in Sterling terms lost 4.5%, reflecting the decline in the Dollar versus the Pound.

In recent weeks we have been increasing the ratio of US equity exposure, which is hedged back to Sterling and it currently stands typically in the 50-75% range where hedged share classes are available. Looking ahead, and despite ongoing election and Brexit uncertainty, we see further moderate upside potential in Sterling versus the Dollar, given its cheapness to
interest rate differentials and short positioning in the market.

If we take a step back, we’d highlight that this year has seen broad-based asset price performance with almost every asset class producing above-average returns. Much of this has been driven by the US Federal Reserve changing course. Rather than increase its policy rate by a total of 75bps it has cut that rate by that amount, so short-term US interest rates are fully 1.5% points lower than was anticipated at the start of this year. Elsewhere, the Fed has addressed tighter liquidity in the collateralised interbank lending market by engaging in reverse repo activity with the commercial banks and, in so doing, boosting its balance sheet which had previously been in run off mode.

Elsewhere, a whole host of developed and emerging market central banks have eased policy rates and the European Central Bank has reinitiated its bond buying programme. This monetary policy support augmented by expectations of an easier fiscal stance globally and a better narrative around the US-China trade dispute have boosted market returns in the face of a manufacturing and corporate earnings recession, which feels very much like the sluggish 2014-16 period.

With the S&P500 now almost 30% above the levels seen in the dark days of last December, and a strong rally in cyclical equities (despite negative earnings growth), we get a sense that the market is now pricing in a much more constructive economic and corporate earnings environment for next year. What is noteworthy in this quarter’s corporate earnings data is the fact that revenue growth had remained resilient whilst downwards pressure on margins has weighed on companies’ bottom lines.

We are not anticipating a recession, but if we are correct in our view that nominal world GDP growth (which over time aligns with revenues) is likely to be modest next year, we are a
little worried that the markets might be overestimating both top-line and earnings growth for 2020. In this context we would highlight that this year’s rally in the major equity indices has been driven by earnings multiple expansion which could begin to be threatened if either earnings disappoint or bond yields continue their rise on expectations of global reflation for next year.

Against this background we currently expect much more modest investment returns next year, with little difference between the returns for equities and investment-grade bonds.
 

 

The value of investments, and any income derived from them, can fall as well as rise and investors may not get back the original amount invested. Past performance is not a reliable guide to the future.
 
Charles Stanley is a trading name of Charles Stanley & Co. Limited, which is authorised and regulated by the Financial Conduct Authority. A member of the London Stock Exchange. Registered in England No. 1903304. Registered Office: 55 Bishopsgate, London EC2N 3AS. Tel: 020 7739 8200. Charles Stanley & Co. Limited is a wholly owned subsidiary of Charles Stanley Group PLC.

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