MPS August Newsletter

As a result of this narrowing yield differential between regions, there has been a significant strengthening of the yen relative to US dollar, and some overcrowded “carry trades” in the hedge fund world were forced to unwind. Falling yields in both the US and UK meant bonds performed well over the course of the month, with the UK buoyed by stronger-than-expected economic data, whilst inflation held steady at 2% - increasing the chance of further rate cuts before the year end.

In equity markets we saw some profit-taking in the US as tech earnings slightly underwhelmed against elevated expectations, whereas more rate sensitive small-cap companies responded well to a lower yield environment. UK equities rallied 3% in July in response to improving economic news, outperforming most other equity regions. Japanese stocks stalled but the strong yen meant sterling returns were still positive for UK investors.

Strategy returns

July was a mixed month across the strategies. The higher-risk MPS models posted negative returns, while gains in bond markets helped lift the lower-risk strategies into positive territory.

• Weakness in US, Asian and Emerging Market equities meant higher risk strategies were most impacted to the downside, albeit only the very highest risk strategy saw falls in excess of 1%.
• Medium-to-lower risk strategies had the combined benefit of greater exposure to rallying bond prices and a higher proportional exposure to UK equities, both of which performed well over the month. The strategies’ alternative investment exposure also contributed to returns, with gains across the commercial property, listed infrastructure and private equity holdings in particular.

Trading activity

In the strategies’ UK equity allocation, we took profits on our long-standing holding in 3i Group. The stock has been held since the inception of the fund in 2021 and has been a fantastic performer. 3i Group continues to provide investors with a private equity portfolio comprising exposure to sectors with perceived structural tailwinds. However, given its re-rating and with the stock trading at a healthy premium to net asset value, we decided to trim the position and rotate the proceeds into another financials holding – Barclays – which continues to trade at a notable discount to peers while showing strong progress on its new financial plan.

In Europe we also made some changes to the strategies’ exposure, reducing our holding in BNP Paribas in favour of adding to Nordea – a slightly lower risk position. We also further added to our holding in SAP, the global leader in business management software, with the position notable for its defensive, high-quality characteristics.

In the US we added to existing holdings in Amazon and TSMC, stocks that we continue to favour despite recent weakness.

In the fixed interest allocation, we trimmed our index-linked gilt exposure in favour of topping up the conventional gilt holding. Across the strategies’ bond exposure we retain our bias toward sovereign bonds over credit.  

Outlook

So far in August we’ve seen rising equity market volatility as concerns rise that the economic soft-landing may be harder than everyone had hoped for. Markets are now pricing in five rate cuts from the Fed in 2024, and with unemployment rising in the US, it’s reasonable to expect the first rate cuts imminently. As rates come down in the US, that should ease the path for the UK and European central banks to lower rates also, helping to re-accelerate growth globally.

At this stage it looks like a hard landing can be avoided if interest rates are lowered far enough and soon enough – and with rates currently at their highest level in 17 years, there’s certainly a lot of room for manoeuvre. Over the last year we have been topping up our bond exposure and leaning into sovereign debt and high-quality corporates – this will help protect our lower-risk portfolios if we do see further deterioration in the economic outlook.

For our higher-risk clients focused on longer-term growth opportunities, we are holding our nerve with equities, and will use short-term weakness to top up our quality holdings across regions.