In this week’s bulletin:
- Global markets hit five-month highs despite double-dip and eurozone fears. Gold reaches another record high.
- Government announces planned tax clampdown on high earners in a bid to recoup more than £7 billion. At the same time, research reveals the UK has the largest pensions gap in Europe, confirming that we are not making the most of the tax advantages available.
- Vince Cable slams the short-termist approach in UK boardrooms and evidence shows investors are falling into the same trap. John Wood of JO Hambro gives his views.
- Stuart Mitchell of SW Mitchell gives his views on the outlook for Europe, where many companies are in very good health.
- The focus on investing for income continues as corporate bonds and equities come under the spotlight.
A range of conflicting signals contributed to another volatile week in global markets, with bonds, equities and gold all in demand. Global share prices climbed to five-month highs on Friday; gains which are all the more remarkable for coming against a backdrop of lingering fears about a double-dip recession and the health of the eurozone’s most indebted economies. Even as gold, a haven for anxious investors, hit record highs above $1,300 per troy ounce, the US S&P 500 index has risen by more than 9% in September and is on track for its third best monthly performance in a decade.
The week’s key event came in the US as the Federal Reserve signalled it was willing to sanction a further round of asset purchases, or quantitative easing, if economic growth failed to recover in coming months. After initially coming under pressure, US equities rallied strongly at the end of the week as doubts over the economy were soothed by encouraging data which showed that spending on durable goods rebounded in August and that the figure in July was better than previously reported.
The S&P 500 rose 1.8% over the week and the same US economic data lifted banks and energy stocks in the UK, leaving the FTSE 100 index up 1.6%, to register its fifth successive weekly advance. The minutes of the Bank of England’s last policy meeting, released after the Fed’s comments, were widely interpreted as an indication that further quantitative easing (or QE2, as it is becoming known) could also be seen in the UK.
In an attempt to recoup more than £7 billion in additional taxes over the next four years, Danny Alexander, Chief Secretary to the Treasury, last week announced a crackdown on tax avoidance, concentrating efforts on the finances of 150,000 people who are 50% taxpayers. Ministers warned that legal tax avoidance schemes as well as illegal tax evasion would be targeted, but critics argue that the politicians are blurring the lines – the former is merely planning your finances so you don’t pay more tax than you have to. The Sunday Times outlined possible targets for the taxman and those considered safe, for now.
Tighter rules are expected for non-residents and non-domiciles; property ‘flipping’ and stamp duty avoidance schemes are thought to be in the sights of the government, and HMRC may crack down on self-employed professionals who have set themselves up as limited companies to avoid National Insurance and income tax. Offshore bonds and tax-efficient investments such as VCTs and EISs were considered by the paper to be on the safe list.
The Sunday Telegraph also had advice on the subject, stressing the need to make use of all available allowances (especially between couples), check tax codes, plan ahead for ways to reduce inheritance tax and remember the basics such as maximising pension and ISA savings.
Against this backdrop, it was notable that The Times reported that the money held in equity ISAs has overtaken the funds held in their cash ISA equivalents for the first time since April 2000. Figures from HMRC confirmed that ISA investors had a total of £177.6 billion in equity ISAs at the beginning of the tax year, compared to £172.3 billion in cash. The numbers seemed to confirm that equities are back in favour with investors whose risk appetite is increasing in the search to improve on the derisory returns from money held on deposit. Latest Bank of England figures reveal the average cash ISA rate is currently 0.6% a year.
Worryingly though, The Financial Times reported news that there is a lot more UK individuals should and could be doing in terms of pension planning. Research by Aviva, with accountancy firm Deloitte, found that the UK has the largest ‘pensions gap’ per person in the whole of Europe. Each UK adult needs to save an average of an extra £10,300 a year to close the gap between the income needed to live comfortably and the actual income individuals can expect. The report covered those retiring between 2011 and 2051, which includes the thousands of baby boomers who start retiring over the next few years.
Stick or twist
The banks were again in the news and again in the sights of Vince Cable, the coalition Business Secretary, in his speech to the party conference in Liverpool. Amidst references to “the spivs and gamblers” and “casino bankers”, valid concerns were raised about the dangers of short-termism and the desire for quick results in UK boardrooms. The Sunday Telegraph picked up on this theme, pointing out that the blind pursuit of short-term performance is similarly pervasive in the world of investment. Figures show that the average holding period for a share on the London Stock Exchange has collapsed from around 7.5 years in 1966 to about 8 months today – a story repeated in the US market. The same issue afflicts investors in mutual funds – the average holding period in the 1950s was 16 years, perhaps four times as long as it is today. The article warned that such impatience runs the risk of bailing out of a winning investment which, with the benefit of hindsight, was simply going through a rough patch. Research shows that even the best fund manager should expect to experience a significant number of lean years. The final words to readers were to understand the randomness of investment returns in the short term and the importance of sticking to a long-term plan through the inevitable ups and downs.
This message was recently echoed by John Wood of JO Hambro. “The market in general has become very short-termist, giving rise to what I call ‘microwave management’ – if it doesn’t go ping after three minutes, take it out and try something else. This has created a great deal of sentiment momentum, but taking a long-term view means you have to see through these false signals and unsustainable trends. The current environment lends itself to ‘old school’ fund management with a focus on qualitative research and understanding of the company rather than being a slave to the numbers. Current valuations are very attractive and we are continuing to find streamlined companies with reduced levels of debt, in markets with growth potential. There is also scope for good dividend growth to boost total returns. A lot of the themes we are identifying are long term – anticipating a low growth environment over 3 or 4 years means we are not unduly concerned about double-dip fears. A couple of quarters of negative growth needn’t matter significantly given our long-term view.”
As questions remain over whether and what steps will be necessary to keep the UK and US economies on track, The Sunday Telegraph debated the merits of the European investment story, despite ongoing concerns in the eurozone. For much of the past decade Europe has outperformed other regions – since 2003 the Investment Management Association (IMA) Europe excluding UK sector average has risen by 80%, compared with a return of 60% from the UK All Companies sector and 22% from North America. Stuart Mitchell, of SW Mitchell Capital, who manages the European portfolios for St. James’s Place, recently gave his views on prospects for the region.
“We spend all of our time out on the road meeting companies and speaking to suppliers and people who sell the products of the companies we invest in. Business confidence has improved sharply since all the panic over Lehman and we’ve seen a sharp recovery in industrial production numbers, particularly in the northern part of Europe. The economic growth numbers in France, Germany and Holland are breathtaking – year on year they’re running at between 6% and 8%.
Your average European company is as strong now as it ever has been. You would expect companies to have a lot more debt than they do at this stage of the cycle, but they were much more reticent about taking on too much debt at the peak of the last cycle and in the last two or three years they’ve worked really hard to pay down debts and to improve profitability. Economic growth is recovering nicely and northern Europe doesn’t need austerity like Britain and America do. Northern Europe is very strong fiscally. Northern Europe didn’t lose discipline like the UK and America did with public and corporate debt. Europe is a completely different world to the profligacy of the Anglo-Saxon countries so we think the chance of a double dip is significantly less than what you might see in the UK and America. Looking forward, we believe growth in Europe is going to be quite a bit stronger than the consensus expects.
We’re reasonable relaxed, or much more relaxed than most others, about what’s been happening in Greece, which needs to be put in context. Greece is a tiny economy. It’s 1% or 2% of European GDP and the Greek debt in total is only €300 billion – comparable to a large corporate. The debt really is extremely limited within the wider European context. We think it’s very unlikely that the anxiety panic will spread into the other weaker eurozone countries, particularly the more important ones – Spain and Italy.”
Investing for income
The merits of diversification were again underlined as the press continued the focus on income investing. The Daily Telegraph reflected on the outlook for corporate bonds, in particular investment-grade, and fears of a ‘bond bubble’ as yields are dragged lower by declining government bond yields. Paul Read, the co-head of fixed interest at Invesco Perpetual, which also manages funds for St. James’s Place, argued that bonds were still a good source of long-term income, but were not as cheap as last year – “ a market in which you could get equity-like returns from fixed income.” He went on to say, “There are not that many good sources of relatively safe income available, so I think that corporate bond funds remain a core asset class and should be a very important part of portfolios.”
The Financial Times highlighted the attractions of equity income funds and the scope for attractive dividend yields from both UK and overseas companies. According to Capita Registrars, UK cyclical companies have significantly improved their dividend payouts in the first half of the year compared to 2009. Valuations of more defensive, yet profitable large-cap companies also offer very attractive yields and remain the focus for many income-seeking managers – AstraZeneca yields 5%, Vodafone 6.7%, GlaxoSmithKline is on 5.5% and British American Tobacco currently yields 5.1%.