In this week’s bulletin
Intervention by the ECB put paid to lingering investor concerns about the future of the eurozone – after falling sharply early in the week both the currency and equity markets rebounded sharply.
- Positive economic data from China, the US and eurozone boosted confidence further, encouraging investors to favour equities over bonds.
- The resilient performance of global markets during the latest sovereign debt turmoil has impressed many City experts who now believe a new bull market is underway with the FTSE100 set to test its record high of 7,000 in 2011.
- With many ISA accounts failing to achieve real, inflation-adjusted returns investors are being reminded that the average dividend from the UK’s top companies is 3.7% net of basic rate tax and are expected to grow strongly next year.
- Tipped as one of the City’s up and coming stars, Kevin Murphy together with long-term co-manager Nick Kirrage, look after UK equity funds for St. James’s Place. The two managers explain their approach and share some of their current views.
My Word is my Bond
The euro dived, government borrowing costs soared to new highs and stock markets tumbled at the beginning of last week as the Irish rescue failed to quell fears for the future of the eurozone. Despite the EU’s intervention, it’s much-vaunted bail-out package failed to impress with investors still fretting over whether contagion would spread to the Mediterranean: specifically Spain and Portugal. At its nadir, confidence fell to such a low point that even Italy’s government expressed worries over turmoil on international debt markets as new data showed unemployment rising and thousands of protesting students paralysed Rome. The result was that by mid-week Spanish, Portuguese and Irish companies – including banks – found themselves priced out of the bond markets as the crisis spread beyond sovereign governments. Credit strategists at Citigroup commented that, “It is really tightening up again. It is difficult to see where [peripheral banks] are going to get funding other than from the European Central Bank.”
This was exactly in chime with the ECB president’s own thoughts. M. Jean-Claude Trichet warned the markets that they should not underestimate Europe’s determination to resolve the escalating eurozone crisis as he hinted that the ECB might expand its government bond purchases – a form of quantitative easing – to drive down surging borrowing costs. And that was the turning point. Hopes that the ECB would step in, together with comments from the US that it would contribute more to any rescue fund via the IMF, were sufficient to boost the markets’ morale causing the euro to jump along with global stock indices. Evidence that the ECB had indeed boosted sharply its purchase of government bonds cemented the deal enabling markets to reverse earlier losses and add to the substantial gains seen mid-week. As understated as ever, M. Trichet replied, when quizzed at his monthly press conference about the level of support planned, that the ECB’s bond purchases were “continuing”.
Full Steam Ahead
There was another boost for stock market sentiment last week in the form of upbeat manufacturing data from China and the UK, along with evidence of improved consumer confidence in America capped with higher German retail sales. Defying a half-hearted recovery in the US, rising global commodity prices and cooling measures imposed by Beijing, China’s factories roared louder than ever last month. The country’s official purchasing managers’ indices (PMI) rose to 55.2, with any reading over 50 showing expansion. More worryingly – but ignored for now – were the inflation data which hit a two-year high. Inflation in China is being driven by unprecedented lending by China’s banks and rising wages. Unsurprisingly the commodity markets responded positively as traders marked up prices leaving copper near the year’s high – gold reacted similarly and the price of a barrel of oil jumped to $91.40.
Here in the UK, British manufacturers are on a hiring spree as they enjoy the best business conditions for 16 years. The UK PMI figure rose to 58 last month, up from 55.4 in October and its highest reading since 1994 as companies reported increased sales to France, Germany, the US and the Far East. Economists at ING said, “The data suggests that the UK will not slow significantly in the fourth quarter versus the third quarter. It also suggests that fears of a potential ‘double-dip’ will continue to fade.” The PMI data also showed that employment at British factories rose at its fastest pace since 1992, meaning that staffing levels have increased in each of the last eight months. In the US it was a similar story, with an increase in the Chicago PMI and better-than-expected consumer confidence figures buoying the mood.
Whilst sentiment improved as the week progressed it was not all good news. UK consumer confidence hit a 21-month low as the looming prospect of government public sector spending cuts sent a chill throughout the UK. Not helping was news from the Nationwide Building Society that house prices fell again last month by 0.3%, bringing the cumulative fall over the last three months to 1.3%, marginally better than the previous quarter, hinting that the market may be flattening out. Nationwide’s chief economist said there was “little evidence” to suggest the downturn was set to accelerate because there were relatively few forced sellers. A similar climate exists in the US where house prices dropped for the third consecutive month, reversing gains made in the spring and raising expectations of a double-dip. Friday’s US payroll numbers completed the set of poor data, with the unemployment rate nudging up to 9.8% following a much smaller-than-expected payroll increase of just 39,000. But as The Financial Times pointed out, the trouble with the data is that it represents the difference between two very large figures: the 130.50m Americans employed in October and last month’s 130.539m, leaving plenty of room for statistical error.
More Zoom to Come?
Notwithstanding last week’s initial wobble, global stock markets ended the week in good spirits with most of the major indices gaining around 1.5% and Wall Street topping the leaderboard with a rise of almost 3%. The stock markets’ resilience has surprised many and a number of City experts believe this augurs well for 2011 according to The Sunday Times, with the FTSE 100 index forecast to hit a new high of 7,000 by the end of next year. Over in The Sunday Telegraph it was a similar story but this time with a Far Eastern flavour with many fund managers looking forward to a new bull market driven by emerging economies. Jim O’Neill, chairman of Goldman Sachs Asset Management said, “We’ve entered a new bull market in global equities,” crediting emerging markets with the turnaround. Private investors seem to agree – the global emerging markets sector attracted more than £336m in October; the highest figure ever.
One of investors’ long-term concerns is inflation but it seems that billions of pounds are languishing in cash Individual Savings Accounts (ISAs) losing value in real – inflation-adjusted – terms according to The Daily Telegraph. The official rate of inflation (CPI) is currently 3.2% but, unsurprisingly given base rates at 0.5%, some 82% of all cash ISA accounts are failing to beat inflation. It’s worth remembering that historically UK dividends have risen at a faster rate than inflation – currently the average dividend yield for FTSE 100 companies is 3.7% (this is net of basic rate tax) giving a ‘real’ return. Morgan Stanley predicts dividend payments could grow as much as 20% in 2011 according to The Sunday Times. And it may be time to review your With Profits bonds according to Telegraph Money with many of these investments having delivered lacklustre returns over the last ten years.
Recovery in Their Sights
The Sunday Times thought its readers might be interested to know who the rising stars of finance are – young professionals with the ability to innovate and adapt and who are tipped to become the next generation of City leaders. One of these stars is Kevin Murphy, an investment manager with Schroder’s, who co-manages some £4bn with his long-term colleague Nick Kirrage. In an interview last week the two managers explained their approach to stock-picking and how they go about managing the St. James’s Place UK equity portfolios.
“From an investment perspective it’s very important to have a disciplined approach,” explained Nick Kirrage. “Kevin and I are value investors which means we are looking to buy shares in businesses that are trading in the market at a significant discount to their intrinsic or fair value – usually because the market is not prepared to be patient. Short-termism is a common feature of markets today and that actually throws up a number of opportunities when investors decide to fall out of love with a stock. A key aspect for us is that we pay particular attention to the strength of a company’s balance sheet and its ability to turn profits into cash, so the central concept is to invest with a margin of safety to reduce potential loss of capital. So when we come across a company that might be interesting – there are probably a few hundred we are analysing and filtering at any point – we always carry out a downside ‘stress test’. When we are both satisfied that we want to make an investment we build up a position gradually – we don’t attempt to ‘time’ the market because if we are right then the value will be released over time.”
Kevin also outlined their current strategy. “The portfolio we are running for you comprises around forty stocks. From our analysis we have identified some key sectors where we believe there is compelling long-term value – these include construction and building, insurance, autos and banks – and approximately 75% of the portfolio is exposed to these areas. So in the portfolio you will find the likes of Lloyds, Barclays and Inchcape. One stock we own – the jewellery firm Signet – is a good case study that encapsulates our recovery approach. The stock is dual-listed in both the UK and US and has a consistent track record of solid growth. However it was badly hit in the recession and its share price fell from $50 to $8 so we took the opportunity to assess the actual risks to the business and came to the conclusion that whilst it had debt, there was no real balance sheet problem. We bought the stock at very lowly prices and in the last 18 months, the share price has gone from $8 to $40. But usually, investing in recovery situations means you do need to be patient – they don’t all recover as quickly as Signet!
“Following the market lows of last March it was no surprise that a large number of companies came onto our radar – it was then a question of selecting those companies we liked most. The market is currently not expensive but it is no longer cheap either. Using our own analysis, we expect the market to revert to more average type returns over the next ten years following the last decade which has been particularly disappointing from a broad market view. For example the FTSE All-Share would have delivered a total return of just 33% in the last ten years – our portfolio has increased by over one and a half times.”
Adding a cautionary note Nick commented, “Of course we cannot be sure of repeating this but with a relatively low starting point we are confident that the recovery-style approach that we have will continue to add value for our investors over the medium to long term.”
One Final Word
Our sincere thanks go to all those clients who participated in the recent Daily Telegraph Wealth Awards. At the award ceremony held at the Mansion House last week, St. James’s Place won the award for the Best Wealth Management Company – making this our fourth consecutive year as an award winner.