FUND MANAGEMENT DIARY Meeting held on 11 October 2016 The Pigeons coming home to roost As Italy approaches its December referendum which many commentators believe to be vital for its banking industry and alleviating the problems for small investors facing capital losses, due to investing directly into the banks income offerings, the Italian Treasury has accumulated 5 billion into its coffers. This has been achieved by issuing a 50 year bond yielding 2.8%, which received subscriptions for 18.5 billion being some 3.7 times oversubscribed. This can only be described as lunacy, with an extremely low income return and an enormous loss of capital, albeit as a result of inflation, failure of the Euro, political instability, ending of austerity, normal wage growth, just to mention a few factors. This should be compared to events some 30 years ago when the US government issued a 30 year treasury bond yielding 8.875%, being a period of high inflation and expensive money. Investors undoubtedly did well obtaining a secure income and at the end of the period in dollar terms returning their original investment. However in spending terms the value of their money had halved in real terms as had the purchasing power from the income. If, at the same time, a purchase of the S&P 500 Index had been undertaken, as can be seen from the chart set out below, the value of their capital would have increased by 573% and by the same token, an initial yield of 2.86% would have retained the purchasing power where the yield in today s terms would amount to being over 1, with many investors saying that this was a no brainer. We believe that the same arguments can be made against purchasing the 50 year bond as set out above, with the risk factor involved exponentially many times greater. It should be remembered that the S&P returns are in dollars, being one of the most stable currencies in the world. Investment return from the S&P 500 Index over 30 years Source: Bloomberg
Against this background, we are currently in the midst of Europe s multiple economic crisis being based on 27 different national models, with a number being unsustainable. At the top of the pile is Germany with reliance on manufacturing, France - agriculture, Spain housebuilding and tourism through to Greece at the bottom of the pile. The UK has stood out in terms of its financial services industry which is not trade related and tariff free (although the EU threatens a Tobin tax). Wolfgang Munchau, writing in the Financial Times, quoted from the 1982 book The rise and decline of nations which notes that powerful lobby groups can hold countries to ransom up to the point where a shock destroys the economic system. We have, on many occasions in our diaries, concluded that Europe is an accident waiting to happen with the main fault originating from the EU currency due to trade imbalances combined with the propensity to maintain austerity, rules and regulations as central economic tools. This is now becoming the major stumbling block with regard to the Brexit proposals forcing the UK government to look as a starting point at a hard exit prior to the negotiations. We believe that on the question of free movement of people, the UK is more than happy to include this on the basis that people coming to the UK have the prospect of work for which they would be issued permits, but this will not include economic migrants. This could be a position that many European countries would also wish to adopt, but true refugees would remain under asylum rules of being granted haven in the first country in which they land. Theresa May has also been clear that the UK s break must be clean, with authority returning to the UK parliament, together with the judiciary and she is not looking to join the single market on the basis that this would incur charges to the UK taxpayer, but more on the basis that trade deals should be done to the mutual advantage of the parties concerned. Inevitably, it would appear that the negotiations will need to be conducted under WTO (World Trade Organisation) rules so that tariffs can be negotiated between 40-0%. Given the balance of trade deficits that the UK has with the majority of the EU countries, it would seem logical that the Germans would wish to negotiate on their industrial capacity, the French on agriculture, the Danish on bacon, etc. Also, there are a number of mutual projects, particularly on defence and aerospace and for the EU to wish to impose tariffs in this area would seem non logical. Therefore, sensible negotiations can ensue on this basis and if it is mutually beneficial, then the only reason for the EU to act differently would be if it wished to act punitively, which from a global prospective would be more detrimental to it. Adverse comments from certain areas of the press have also been instrumental in the recent falls in the value of the pound. In itself, this underlines to Europe that the cost of their goods and services are already nearly up by 20% since the Brexit vote. This has boosted UK companies with overseas earnings, of which 60% are outside the Eurozone, together with tourism, while containing internal expenditures. While
having a positive effect on balance of payment differentials this indicates the potential future journey which is likely to be undertaken. While concerns are being expressed regarding the City of London, all EU rules and regulations will be adopted at commencement of Brexit and under the rules of equivalence, the financial markets should be unaffected unless the EU decides otherwise. We note that both Frankfurt and Paris are looking to recruit traders from London, but they are already running into problems as EU regulations impose upper salary limits of 100-150,000 which is unattractive to key employees, not to mention further difficulties with regard to local employment laws. It appears that the UK is more than happy to support Passporting to the employees of the major banks and financial institutions of the EU and it would appear that the personnel would prefer to remain located in London, particularly for example the French who would otherwise face a wealth tax in Paris. However, again if the EU becomes intransigent, then we believe our major financial institution should look to set up subsidiaries in Dublin (remembering that we had a joint stock exchange) with the bulk of dealing continuing from London. As stated previously, London will always remain the main financial hub between East and West where procedures, settlements and expertise will remain the reason for why business is conducted in the City. We have nothing to fear but fear itself and there is no nation better than the British when they have their back to the wall! Strategy Our diary further confirms our belief that following the US presidential election this should be the start of a change in US financial policy with the likelihood of a move to both an increase in the money supply and fiscal stimulus, which should be inflationary. This will favour investing in real assets as being important, confirming our overall strategy favouring equities providing earnings and dividend growth, as illustrated in our chart of the S&P 500 Index. Our caution in bonds is reflected in our portfolio positioning, where we have been investing in special situation bond funds (short duration and inflation linked) for some time.
Income No trades will be placed this week as the portfolio is well balanced in line with target levels. The M&G Global Dividend fund continues to perform well, outperforming its benchmark by 4.5% over the past 12 weeks. The fund has experienced a strong performance with the recovery and subsequent stabilisation of oil prices since the spring of this year. UK Equity Income 33% 8% UK 6% Other 6% Europe Cash / Money 39% Real Value The Troy Trojan Income fund has experienced a relatively weak performance during the strong returns of the past quarter. This is not a cause for concern as the fund is expected to produce a more defensive performance, lagging market rises while beating falling markets. As such, the position is attractive for this lower risk portfolio and in addition creates appealing diversification through the different style it offers to the portfolio s three other UK holdings. UK Equity Income 23% USA 7% Europe 3% 42% Cash / Money 21%
Real Growth The Majedie UK Income fund has experienced a strong recovery this week, contributing to a market beating quarter. This is a pleasing development given the fund s disappointing positioning and performance around the time of the EU referendum. USA 9% 8% UK Equity Income 16% 38% UK 20% Europe Cash / Money 5% Dynamic Growth The portfolio s high level of international exposure has proven beneficial given the falling value of sterling in recent weeks. The portfolio s Asian exposure has also been a key contributor to returns as investors are awakening to the attractive valuations and strong growth prospects of Eastern markets. Within this portion of the portfolio, the M&G Asian fund has been the strongest performer, returning 19% over the past three months. USA 11% 1 20% UK 40% Europe Emerging 7% Cash / Money
Important Information Please note that the contents are based on the author s opinion and are not intended as investment advice. This information is aimed at professional advisers and should not be relied upon by any other persons. Any research is for information only, does not constitute financial advice or necessarily reflect the views of the author and is subject to change. It remains the responsibility of the financial adviser to verify the accuracy of the information and assess whether the fund is suitable and appropriate for their customer. Past performance is not a reliable indicator of future performance. The value of investments and the income derived from them can fall as well as rise and investors may get back less than they invested. Important information about the funds can be found in the Supplementary Information Document and NURS-KII Document which are available on our website or on request. For any information about the Future Money funds please contact the authorised corporate director, Margetts Fund Management Ltd, on 0121 236 2380, admin@margetts.com or at 1 Sovereign Court, Graham Street, Birmingham B1 3JR. A copy of their Terms of Business which relates to investments into the funds can also be obtained using these contact details. Issued by Future Money Ltd Future Money Limited is authorised and regulated by the Financial Conduct Authority Future Money Ltd 148 Leadenhall Street London EC3V 4QT 020 3008 8066 www.futuremoney.co.uk