Monthly Market Update: Positive markets and slow recovery

Fri 14 Aug 2020

For the better part of the last three years the core of our investment policy has been simple: “Don’t fight the Fed”. As accomplished economist Mohammed El-Erian put it, Quantitative Easing is not the biggest game in town, it is rather the only game in town. Prices for risk assets are almost completely dependent on money printing and they been so for more than a decade. The strategy has paid off, especially during the recent crisis when our asset allocation was left unchanged, albeit slightly overweight equities, despite a 3-4 standard deviation volatility event, with the rebound benefitting our clients. At the time of writing, the S&P 500 was near all time highs and the international part of our portfolio has been performing very well.

Having said that, we have to note that our resolve not to “fight the Fed”, does not mean tying our portfolios’ fortunes entirely on the US central bank’s mast. Not fighting the Fed for us means not being significantly and long-term underweight risk. It does not, however, mean a full risk overweight in blind faith that money printing is the singular answer to all investor questions. The reason is that, while monetary, the policy is still derived from institutions like central banks who, for all their claims to independence , maintain open doors to their countries’ Treasuries. For more than a decade governments have made growth the responsibility of central bankers, to avoid increasing their debt load. The result was a stable financial system, but at the cost of growth unequal enough to fuel off-the-mainstream political movements and introduce the notion de-globalisation. Quite simply, what was working for stock markets, was not working for the economy. But at least growth, however sluggish, was still present.

The Covid-19 crisis, which turns out to be more persistent than originally hoped for, needs to be faced by a global political, economic and financial system that is, to say the least, imbalanced, additionally experiencing the convulsions of true de-globalisation. The challenge is momentous. Covid-19 has caused an economic slowdown unprecedented since Japan surrendered to the Allies in Tokyo Bay. US GDP fell 10% year-on-year in Q2, while the UK number is almost double that. Corporate earnings are down anywhere from 25% to 50%.

Quantitative Easing works against a backdrop of a functioning global economy. However , the persistence of the virus and the confluence of a weak and uneven economy and de-globalisation could conceivably challenge the economic system enough for QE to stop being the primary driver for risk assets and the –currently dismal- economic narrative to take precedence. British investors are additionally faced with the challenges of a possible hard Brexit, as well as the biggest Covid-19 mortality rate per capita in the western hemisphere. Thus we wouldn’t be too surprised of a new round of volatility within the next few months, as the global economy has yet to find a solid footing.

We may not be able or willing to fight the Fed. But it is also our responsibility not to turn a blind eye to risk build ups such as the ones we are witnessing and maintain a balance. Our investment committee continues to maintain that asset allocation and diversification principles should keep investors within their risk/reward targets, especially over the longer term. Insofar as an open capitalist economy is our primary economic system, we stand by established portfolio guidelines, reviewing less the principles behind them and more our long term asset assumptions.

Please find our monthly market update with more detailed views on asset allocation, risks and major themes on the following link: https://www.linkedin.com/feed/update/urn:li:activity:6699933379321757696/