MPS July Newsletter

The quarter proved to be a rewarding one for equity investors, benefiting higher risk strategies, as markets overcame their initial fears surrounding strong economic data in the US to focus on positive earnings updates and the renewed hope of a ‘soft landing’. While politics came to the fore, with elections called in the UK and France, the backdrop remained broadly favourable with the UK, European and US stock benchmarks all chalking up fresh record highs at some point over the period. The quarter was notable for seeing a marked uplift in the fortunes of the UK stock market, which broadly matched the North American index and outperformed European indices. In the US, the generative AI trade continued to dominate market leadership, led by NVIDIA, which briefly became the largest company in the world following share price gains off the back of stellar results and a stock split.

Turning away from equities, and gilts performed well in June, returning 1.3% on the back of softer economic data. However, returns for the quarter were still negative and remain so year-to-date, given the resetting of interest rate cut expectations.

Strategy Performance

The strategies delivered positive returns in June, leading to pleasing gains for the quarter.

• Over the period the largest contributions to returns were from the strategies’ UK and North American equity exposures, with both allocations outperforming over the period.
• Emerging markets delivered strong gains as China rebounded and political developments in India and South Africa proved supportive for investor sentiment.
• Europe finished only marginally positive following June’s Parisian political concerns, while yen weakness eroded returns for a sterling investor in Japanese equities, resulting in a loss over the quarter.

As mentioned, it was a far from vintage period for fixed interest investors. The strategies’ allocations finished broadly flat, so ahead of the broader gilt and sterling credit markets. And finally, we saw a positive return from the allocation to alternative investments.

To conclude, it was a pleasing quarter for both absolute and relative MPS strategy performance.

Activity

There were no changes to the strategies’ headline asset allocations throughout June or indeed the quarter; we have been happy to leave things as they are. Crucial to emphasise, however, is that this decision does not preclude us from making dynamic adjustments to underlying stock and fund exposures, and a number of these were made over the month.

Firstly, we added to our position in Apple, exiting our long-standing position in Phillip Morris to help fund an increased weighting to this stock as well as top up other preferred names. Apple is a stock we have traded actively over 2024. In the first four months of the year we held an underweight position, which benefited strategy performance as the stock underperformed the market on the back of slowing growth and declining iPhone sales. The company’s results in May then came in better than analysts’ expectations, while in June the stock rallied further following the announcement of its partnership with OpenAI to integrate ChatGPT into its devices at its annual developers show. These developments leave us more positive on the stock’s outlook, which we have mirrored by adding to the holding.

In Europe, we added a position in Inditex, the biggest fashion retailer in the world and owner of one of the largest global brands, Zara. The position was funded through a reduction in our holdings in specialised food ingredients products supplier Kerry Group and luxury goods company LVMH. Inditex’s unique model of just in time production, fast product cycle and vertical integration ensures a market-leading ability to respond to trends and bring products quickly to market. We also believe the US represents a real opportunity for the company, with Inditex well positioned to gain market share.

Within the models’ alternative investments allocation we broadened our exposure to strategies seeking to generate positive returns with a low correlation to broader equity markets. We did this through the addition of the Neuberger Berman Event Driven fund, which seeks to take advantage of mispricing that can occur as a result of corporate change and market environments with high corporate activity.

And finally, we exited our holding in Federated Hermes Unconstrained Credit on the news that the lead portfolio manager of the fund had departed. We replaced the position with another buy-rated idea – the TwentyFour Strategic Income fund, which offers specialist exposure to some of the higher-yielding parts of the bond market.

Outlook

Economic data continue to paint a mixed picture, which has left central bankers more reluctant to loosen monetary policy than was widely assumed at the start of the year. Although inflation is back at far more palatable levels in year-on-year terms, rate setters remain concerned that the fight is not over and that a significant reduction in interest rates could cause another push higher in price pressures.

Against this backdrop, we remain constructive in our outlook for multi-asset investors. The first half of the year has been rewarding, but it has certainly not been an indiscriminate ‘everything rally’ fuelled by the unbridled optimism that we saw at the end of 2023. Yes, this has been a good time for stock markets, particularly large technology companies exposed to the generative AI theme, and there are some pockets of the market that are undoubtedly pricing in fantastic growth expectations, necessitating the need to tread carefully. However, across certain sectors and asset classes it has been a fairly underwhelming, and in some cases negative, period of returns.

When summarising our outlook, it is interesting that the key messages outlined at the beginning of the year continue to remain relevant, helping to shape our positioning of the MPS strategies:

• Firstly, we believe this to be an increasingly supportive environment for active managers, with stock dispersion growing and individual opportunities continuing to emerge. The renewed bid activity seen across UK equities so far this year is a case in point and has enabled us to generate pleasing outperformance within this allocation.
• We retain our ‘overweight’ position to equities. Recent gains have been supported by strong fundamentals, and we believe earnings growth can continue to drive equities higher from here. This includes targeted exposure to our preferred names within the ‘Magnificent Seven’ and those companies at the coalface of generative AI. At the same time, we also see growing potential for a broadening out of market leadership from here, and have begun adding to segments of the market that we believe to have been overlooked.
• Earlier this year we highlighted our belief that interesting opportunities existed within the investment trust universe, primarily for consideration within the strategies’ alternative investment exposure. We believe this remains the case, particularly in areas such as real estate and infrastructure, where we see attractive valuations, strong cashflow generation and the continued need to deliver key infrastructure renewal and expansion requirements.
• Finally, we remain constructive on the outlook for bonds. Inflation concerns, a resilient global economy and the resetting of interest rate cut expectations have proven a headwind for fixed income investors so far this year. The thesis behind our current overweight allocation is that bonds act as a shock-absorber should growth underwhelm, while generating a healthy source of income given the current attractiveness of yields. While there remains uncertainty around the scale and timing of rate cuts for the rest of 2024, the data appear increasingly supportive for downward movements, with the ECB and Bank of Canada starting the firing shot for what we expect to be a slow, but gradual, move to more dovish policy across central banks.