Key Points
- Higher income on portfolios to reflect the higher interest rate environment
- Maintaining a cautious exposure to bonds as the upward path of inflation and the raising of rates to combat that inflation may have peaked, but not certain to fall quickly- which means bonds could still struggle to provide low risk returns
- Reducing our exposure to highly valued US mega-cap technology companies as a short term tactical position, we will add them back in on a fall in value, if for instance the inflation environment and or their financial results are seen as over appreciated- which is our house view.
- Increasing our investment within commodities both energy and materials, with an eye on those commodities that are most likely to do well as the world transitions to a lower carbon/recycling environment. We think this will take longer than we would like, but accept that government regulation and consumer activity is driving that change, all be it slowly.
Last 12 Months
We understand that this last few years have been difficult for clients, the volatility brought on by the pandemic, Russian invasion of Ukraine, the breaking down of supply chains and the high levels on debt taken on by the globe to fund the pandemic fight , that then drove inflation to heights we haven’t seen for a generation and then interest rates rising to combat that inflation pushed growth/tech stocks and global bonds down by 15% have made it challenging to be invested. If as a UK investor you add in the madness of this time last year when the tax cuts proposed by the briefest of Prime ministers led to a relative fall in our currency by over 15%, a little bit of peace and quiet would be nice. The nadir for asset valuations was October last year, Casterbridge could only mitigate the fall in value, but we did so well (as compared to peers) because we risk controlled our exposure to ‘growth stocks’ and to bonds- we were invested in them but at a much lower exposure than the rest of the market at that time. It could’ve been much worse elsewhere isn’t too much comfort, but it is nevertheless true. Since the beginning of 2023 we have had further ripples of risk in the form of banking system threats, both in the US (Silicon Valley Bank) and Switzerland (UBS was forced to take over Credit Suisse), but since March the fear in markets has disappeared and an enthusiasm for AI (artificial intelligence) has driven a number of technology companies to very high valuations. We retain exposure to technology via investment trusts- Polar Cap Technology (Mega Cap ) and HGT (Private equity technology investment), as well as direct exposure via companies like Microsoft. In the short term we are not going to add more technology to the portfolio, unless the valuations can be justified- if the future profits are all in the existing price of the share, that’s not attractive for our clients. However technology continues to be one of our core themes, and we will return.
Current Activity
The higher rate environment has allowed us to return to a more balanced construction of return (eh what?). It is now possible to build a portfolio with a yield (natural income from dividends, coupons payment on bond and interest on cash) to give a yield (income) from portfolios of 3-4%. Within the equity arena this means you need some exposure to the UK equity market as the level of dividends paid in overseas markets are significantly lower- however we will always have more funds invested overseas in equities than in the UK- largely because the ongoing inflation environment means we need growth and we believe that is best found in the US and Emerging Markets. We have taken a decision to reduce exposure to China and more aggressive EM equities both of the EM equity funds we have purchased have an income bias. We are adding to your US equity exposure via HealthCare, Energy and Content providers, businesses that will provide growth opportunities with valuations that aren’t effervescent and where possible a sustainable dividend- although this is more difficult in the US. Similarly in Europe we are supporting our themes of Health Care, Technology and now Commodities. We are looking at utilities as good dividend payers but also as part of our exposure to the growth in wind energy- it’s where government spending is going…if they can get the pricing right for the auctions. There has been some selling of growth and risk assets and we are trading into these new areas, we are holding any funds that aren’t invested immediately within a treasury account at 5% interest rate for clients. This opportunity in yield, has to be reflected in portfolios because clients can see the rates being offered at banks. We all know that inflation means that we have to be invested for capital growth, but that is never a straight line, so portfolios will pay an income while we wait.
Where Are We Going From Here?
Well, the global economy is proving more resilient than anyone expected, which is good, but that is as an average there are some geographies, industry sectors and socio economic groups that are having a particularly tough time. Interest rates and inflation are probably peaking, but it’s clear that inflation is going to be more stubborn to get to move from 5% back to the target 2%. The job market and the pay rises for employees continue to be strong, so inflation isn’t going to dissipate overnight. However, the political winds are not good for central banks that want to raise rates further to crush that inflation. We might see a couple more rises if inflation surprises upward, but it’s more likely that rates will stay at this level for longer to ‘starve out’ the inflation rather than crush it…but you never know. I think it’s unlikely in a US and other countries election year, the political uncertainty is bad for economies, and central banks know that…but never say never. As always if this raises more questions than it answers, please let us know.
Important Information
This article is for information only and does not constitute advice or recommendation and you should not make any investment decisions based on it. The views and opinions of this article are those of Casterbridge at the time of writing and may change without notice. Any opinions should not be viewed as indicating any guarantee of return from investments managed by Casterbridge nor as advice of any nature. It is important to remember that past performance and the value of an investment, and any income from it, may go down as well as up and the investor may not get back the original amount invested.
