Investment Newsletter January 2014

By Mike DeverellInvestment Manager

Equilibrium Asset Management LLP (a limited liability partnership) is authorised and regulated by the Financial Conduct Authority. Equilibrium Asset Management is entered on the Financial Services Register under reference 452261. The FCA regulates advice which we provide on investment and insurance business; however it does not regulate advice which we provide purely in respect of taxation matters. Copyright Equilibrium Asset Management LLP. Not to be reproduced without permission

A Happy New Year to all2013 was a very kind year for most investors and December turned out to be a good month after a difficult start. We eventually saw the usual “Santa Rally”, the FTSE 100 finishing the year at 6,749 after beginning December at 6,650. It didn’t look like it would happen for a while, especially when the index dropped to 6,440 on 13 December.

However, the subsequent rise means that the FTSE 100 has gone up in December every year except one since it was created in 1984. Given how much the FTSE 100 is ingrained in most UK investors’ psyche it always surprises me it is only 30 years old this year!

Investment Newsletter January 2014

We hope that 2014 continues in the same positive vein as 2013. Our December newsletter gave a few thoughts for the year ahead and so we shall not go into detail again. However, those that did read it will recall that we’re not as positive on equity markets as we have been previously.

We should clarify that “not being as positive” does not mean we don’t think stock-markets will go up! We think markets should rise, however we also think we’re pretty safe in saying that the FTSE is unlikely to increase as much in 2014 as it did last year!

In fact, we’re generally quite optimistic about the year ahead. Some of the issues which were worrying investors have subsided. In particular, politicians in the US have got their act together and come up with a budget deal that means there is not going to be a repeat of the Autumn shutdown.

We also have more clarity from the US Federal Reserve over their quantitative easing programme. They are reducing (or “tapering”) the level of stimulus but only by a miniscule amount. It seems ridiculous just how much financial markets have obsessed over this issue when we consider the facts.

The Fed has been injecting $85 billion of new money into the system every month by buying bonds with digitally created cash. From this month they are going to reduce this to $75bn per month. This is still a huge amount of stimulus and, whilst they are likely to reduce this further as the year progresses, this is still money being injected into the economy rather than taking it out of the economy via interest rate hikes, for example.

The US economy (and therefore the global economy) should continue to do well, although we are concerned that the stock-market across the pond may have got a little ahead of itself and so we have reduced US exposure.

This is not to say that there are not risks out there. We still have concerns that easy central bank policy could eventually lead to higher inflation. It could also lead to asset class bubbles and we are already seeing high levels of growth in residential property markets (especially in the South East) that are not being justified by rising wages.

Wage inflation has just about reached the same level as price inflation (as measured by CPI) for the first time in years. Perhaps 2014 will be the year that wages begin to rise again after several years of declining in real terms.

In the UK, whilst we may not be doing any more QE, there are still schemes like the Government’s Help to Buy initiative, which is simply another form of economic stimulus. Given that stimulus is continuing on both sides of the Atlantic in one format or another, it seems very unlikely that interest rates will rise in 2014. This is good news for borrowers but bad news for savers, and cash rates are unlikely to improve in the near future.

Inflation has also come down and so this gives central banks another excuse to keep rates low. Even when they do increase rates they will do it incredibly slowly for fear of choking the recovery.

In the meantime, as the economy continues to recover we are continuing to see some fantastic returns from commercial property. Our property portfolio has gone up about 1% a month for the past 6 months and we are optimistic that returns will continue in this asset class, even if they slow a little from this very fast pace.

On a risk adjusted basis, property looks extremely attractive right now and yet very little is being talked about it in the financial press. When investors begin to wake up to this opportunity, the dynamics of supply and demand should mean that the rally could have some way to run.

This would of course be welcome, but could also lead to price inflation increasing again.

Whilst these issues may be some way off, it is our job to think well ahead. We aim to have a plan for every foreseeable eventuality and stay ahead of the curve to safeguard your hard earned savings.

New Year Optimism

Warning Signs Ahead

Equilibrium Asset Management LLP (a limited liability partnership) is authorised and regulated by the Financial Conduct Authority. Equilibrium Asset Management is entered on the Financial Services Register under reference 452261. The FCA regulates advice which we provide on investment and insurance business; however it does not regulate advice which we provide purely in respect of taxation matters. Copyright Equilibrium Asset Management LLP. Not to be reproduced without permission

FTSE

General Economic OverviewThe UK economy has continued to improve and inflation has fallen back. The US remains strong and Japan has improved dramatically this year, but the Eurozone economy remains weak.

The withdrawal of quantitative easing (“tapering”) in the US has begun, but speculation over the pace of this withdrawal will dominate markets over the next few months.

Interest rates are likely to remain low for at least the next 12 months in our view (possibly much longer), after which they will only begin to increase slowly.

Equity Markets

We believe returns will slow in equities after a very good 2013. A -1 score means we expect around 9% pa rather than our long term 10% pa assumption. We favour emerging markets, Japan, and smaller companies in the UK.

Fixed Interest

Corporate and government bonds have proved very sensitive to concern about the Federal Reserve tapering quantitative easing. However, our funds have great flexibility and have done reasonably well in this period. We expect returns to stay relatively steady.

Property

Property returns continue to improve. There is momentum building and rental yields remain attractive. We therefore believe property should provide in excess of our long term 7% pa over the next 18 months or so.

Cash

With interest rates remaining at record lows, returns on cash could remain below average for some time.

Balanced Asset Allocation

For a typical balanced portfolio we are underweight equity, overweight alternative equity, underweight fixed interest and neutral property.

A neutral score (=) means we expect the asset class to move in line with our long term assumptions: 10% pa for equity, 7% for property, 6% for fixed interest, 5% for residential property, and 3% for cash. A +5 score means we think the asset class could outperform by 50% or more. A -5 means we think it could underperform by 50%. A negative score does not necessarily mean we think the asset class will fall.

These represent Equilibrium’s collective views. There are no guarantees. We usually recommend holding at least some funds in all asset classes at all times and adjust weightings to reflect the above views. These are not personal recommendations so please do not take action without speaking to your adviser.

-1

-2

+3

-5

Asset class key+ positive - negative = neutral (normal behaviour)

+5 strongly positive-5 strongly negative

Score

Equilibrium Asset Management LLP (a limited liability partnership) is authorised and regulated by the Financial Conduct Authority. Equilibrium Asset Management is entered on the Financial Services Register under reference 452261. The FCA regulates advice which we provide on investment and insurance business; however it does not regulate advice which we provide purely in respect of taxation matters. Copyright Equilibrium Asset Management LLP. Not to be reproduced without permission

Asset Class

Market Views January 2014