Fund Management Diary Meeting held on 12 January 2016 Rational markets crazy politics and economics As markets continue to rollercoaster, the fat tail risks become more and more relevant, particularly at a time when the has all but given up being the world s policeman, leaving behind chaos in the Middle East, challenges from China both economically and militarily in the SE Asia seas, nuclear obduracy from N Korea and finally, Russia starting to flex its muscles politically. This is undoubtedly a testing time and it is significant to note that some prominent hedge funds have decided to withdraw from markets. A leading hedge fund manager, reporting to his clients, stated that events in China and India are increasingly shaping the global economy, with obfuscation and distortion making official statistics on the state of the economy unreliable. He states that, Never has so much of the world been governed by leaders where the logic of that peculiarly parochial yet multi-headed beast nationalism trumps all, with everything pointing to a common theme that markets are becoming so unpredictable that tried and tested strategies are breaking down. As our readers are aware, we suggested last week that the strategy for investors should be to Head to Wind in sailing terms, allowing the storm to ride out, which is a luxury not available to hedge funds and high frequency traders, who look to short term returns. However, it would be appear that the majority of these are still looking to follow the momentum trends and utilise algorithms, which inevitably follows the herd instinct which currently is principally being dictated by China s slowing economy and pivotally, renminbi weakness. The overall outcome of the recent movements in currency is for some $800bn to have moved out of China and while this may have some reminiscences of George Soros s attack on the pound when the Bank of England attempted to link sterling to the deutschemark, this in our opinion is a dangerous game. The Chinese have over $3.3tr in reserves, with capabilities of stimulating and giving direction to their economy and already this was demonstrated on Monday when they moved in on offshore renminbi trading, where the main carry trades were being undertaken by market operators, who were forced to rapidly change tack. Market forces often become irrational and this was more than evident in the dot.com bubble and therefore we feel it is appropriate to set out some of the comments of Axa s Mark Tinker as follows: a) The obsession with PMI data, which is based on anything below 50 being a sign of a shrinking economy. This ignores that while GDP growth may have fallen from 6. to, it is actually still positive and given the changes from manufacturing to consumption, the overall figures would be welcomed by most developed countries. b) The actual biggest change has been in supply dynamics and therefore a GDP move from 6. to belies the laws of big numbers with growth today adding as much to economic activity as 10% did five years ago, when the economy was manufacturing and export based.
c) In 2007/8, the evidence of an overheating property market in the, which had been compounded by bank over-leveraging through collateralised debt obligations (CDOs) and credit default swaps (CDSs), did not faze market operators and even the ratings agencies were giving AAA statuses to the CDOs and CDSs. In the same way, it is our belief that China will be able to create a more balanced economy between consumption and manufacturing relying on exports and while the position may be tough at this time, unlike market participants, few economists are betting against this outcome. Financial instability, particularly at times when all the bets seem to be taken in one direction, is almost inevitable and governments and regulators start to consider imposing capital controls. Circuit breakers were originally imposed in the, and China has been involved in similar operations more recently. A subject which is politely ignored by policymakers is that more recently, central banks have been peddling a concept known as macro-prudential regulation, however, at a time of unconventional monetary policy, this is untested and indeed many would argue that in actuality, the rules would not be fit for purpose. In bubble situations, rapid action is often required with treasury ministers and central bankers having to think on their feet and deal directly with outcomes. Our concern is that hedge funds and high frequency traders are moving into dangerous waters at this time and with retail banks no longer exercising the market-making role due to reserve ratios and regulations, it is hampering their historic role. A further dangerous fat tail at this time is the situation in the energy sector, with Saudi Arabia prepared to flood the market, which is a highly illogical and dangerous situation. It appears that the abundance of crude oil is so great that tankers are even being brought out of mothballs and are being paid to store oil while at anchorage. As set out in last week s diary, with crude selling below $35/barrel, this is nearly $40 less than the Saudis need to maintain revenue and yet they are considering selling a stake in their state-owned Aramco, to replenish their coffers. This is a company which also finances a considerable part of the Saudi economy; it is also likely that discount to their asset reserves will be as much as 6 and there would be a considerable question mark over investors returns! Given that the Saudis are trying to drive out of business, oil producers such as Russia and Iran and destroy the shale oil industry, to mention a few outcomes, the likelihood of them achieving their aims must be slender indeed. Against the background as set out in our themes, there is little wonder that when history is written, it will be difficult for scholars to understand the circumstances now existing in financial markets. In our opinion, overall growth in the global economy remains firm and soundly based companies will continue to trade profitably and investors should concentrate on stock picking, predominantly in value companies at this time. This is a theme that the Margetts funds adopted in the early summer of 2015 and we believe currently serves the best interests of our investors, within our risk rated models. Strategy Our strategy remains consistent in that we remain committed to equities which are not overly sensitive to inflationary or deflationary conditions, with an emphasis towards value. We remain wary of bonds, but favour special situations. We will be particularly watching for changes in the economic outlook, as set out in our themes, to determine our portfolio selections.
Providence The Income selection has been a strong contributor to performance with the exception of the Schroder Alpha Income fund which has slightly lagged the sector. The team are not concerned about this holding as the long term track record is strong. The relative performance of the M&G Global Dividend fund has dipped in line with the oil price and whilst this is disappointing, the team are not looking to make changes, given the current high levels of market volatility. The price of oil has become a political issue, but we expect oil prices to rise in the future, despite short term falls. The L&G Asian Income fund has dipped behind the sector after a period of recovery which is disappointing. Given the relatively higher levels of volatility more recently, the team are not looking to make any fund switches, but will continue to monitor the holding going forward. Equity Income 39% Bonds 31% Other Select The Henderson Emerging Market Opportunities fund has been a strong contributor to overall performance, along with the SVM Growth fund. Overall, the team are not looking to make any changes as the fund is invested in line with our themes. Equity Income 2 12% 10% Bonds 14% 8% Emerging
International The Emerging Market holdings have been relatively strong against the sector during the recent market falls and have been in line with or higher than the sector over three months. The L&G Asian Income fund has dipped behind the sector after a period of recovery which is disappointing. Given the relatively higher levels of volatility more recently, the team are not looking to make any fund switches at present, but will continue to monitor the holding going forward. 33% 12% 3% Emerging 1 Japan 23% Venture The Old Mutual Alpha fund has lagged the All Companies sector, which is likely to be driven by the fund s higher allocation to large cap stocks. The performance is closely correlated with the FTSE 100 which helps support the relative performance differential. Given the relatively high market volatility over recent weeks, the team are not looking to make any changes. The Aberdeen equity and the Newton Asian Income funds are being closely monitored within the Asian allocation and the same goes for the JPM Emerging Income fund in the Emerging weighting. These funds have lagged the relevant sectors over three months. Specialist Other 3 Emerging 2 1%
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. Issued by Margetts Fund Management Ltd Margetts Fund Management Limited is authorised and regulated by the Financial Conduct Authority For any information about the company or for a copy of the company's Terms of Business, please contact the company on 0121 236 2380 or at 1 Sovereign Court, Graham Street, Birmingham B1 3JR You can e-mail us at admin@margetts.com