Well, more encouraging inflation figures from shop price rises buoyed our market after the Bank Holiday. That said, who noticed that up till then, the global markets had retracted by 5% ($3trillion) in the month (the calculated losses from the S&P500, China’s CSI300 and Europe’s Stoxx600).
This was affected by China and its banks’ distress as well as globally soaring borrowing costs which will impact overall commerce and actual viability of some businesses, let alone their profitability. This is according to Refinitiv data analysed by A J Bell. US Treasury bond yields have hit a 14-year high too.
However, still remember the reality backdrop too – according to Janus Henderson, global dividends in the second quarter reached a record $568billion, up 6.3% on the year. It is not often talked-about but equities tend to keep pace with inflation (not in a straight line!) and likewise the income from them as companies have to charge more for their goods and services, just to stand still. 88% of companies either held or increased their dividends, with Europe leading the pack (albeit from a lower base than say the UK). Half of total payments came from banks!
Investors can remember that if they restrict their spending to the sustainable income generated from their investments, they can afford to weather short-term gyrations which impact capital values, as the income arises almost till the cows come home… of course there are anomalies but that then points to basic investment disciplines like spreading one’s risks and different asset classes, etc.
The magnificent seven
A very interesting article by Peter Atwater, an adjunct lecturer in economics at the College of William and Mary, Virginia, in the FT: We should examine why investors are betting on the sure things
Yes, I shall be accused of prejudicial endorsement bias but why aren’t we jumping after Apple, Microsoft, Alphabet, Amazon, Nvidia, Tesla and Meta Platforms? Jennifer Hughes in the FT 26 August expands upon this by reminding us that these seven were responsible for ‘88% of the gains in the market’ and representing ‘three-quarters of the S&P500’s gains’. What frightens me is that investors do not understand this nor the prospective risks their simple ‘cheap’ global tracker funds may present to them based on this dominance. In the preceding four weeks to the date of her article, these stocks had actually lost $700billion of market value instead.
More optimistically she notes that even a pause in their ascent would not be a bad thing to avoid a significant retrenchment later instead. However, most of these gains in their share prices have not been on results these businesses have actually achieved but greater speculative optimism in what their future results will generate. This is reflected by ever more optimistic ‘price to earnings ratios’ which make the whole of the US look precarious (and the UK, say, ludicrously cheap in comparison).
The simple answer is that in our view, these seven, worth a theoretical $11trillion based on present market values, are far too dear and conversely, there are so many seriously undervalued assets out there instead which could give phenomenal results for investors yet are also much better protected against a market rout (as they have far less distance to fall), it makes the choice ‘easier’ even if it seems to be a controversial decision to avoid or limit the exposure to what ‘everyone else’ has been chasing. Mr Atwater doesn’t decry these companies but he does note that ‘with lower confidence comes a more impulsive and emotional reaction to threats’. So, be wary. These seven are seriously over-extended
The trend is your friend
This adage was a favourite for investors – go with the flow and ride the gains. However, trends finish today and are not predictors of tomorrow (sheer superstition, often fuelled, however, by speculative fervour which can indeed create the inevitable outcome, up or down). Maybe the ‘magnificent seven’ represents a simple trend which will end soon.
We are reminded too that investors pile-into the ‘latest good idea’ but when maybe it is really the time to buy is when the idea fizzles-out altogether. Abrdn’s Global Absolute Return Strategy started when all the fund management groups launched their ‘absolute return funds’ offering sensible, stable and secure returns from diversified portfolios, using their expertise to cap the peaks and avoid the worst troughs ‘all-weather funds designed to perform well irrespective of market conditions’ – just what most ‘ordinary’ investors want. The principle is sound but I was always cynical and when ‘all’ other advisers were adding them to strategies, we looked-on from the sidelines – something didn’t resonate for us. At its peak, the Abrdn Fund ran £53billion. After having made consecutive year losses and not the hoped-for small gains and shrinking to £1.4billion after redemptions, it is now closing after being unable to deliver. Some are saying that it became too risk averse and short-term capital preservation ruled, so it caught its own cold – maybe selling at market troughs and crystallising losses rather than increasing exposures, etc.
There is one other lesson – don’t throw the baby out with the bathwater. Now is not the time to be shedding ‘alternative assets’ either but time to be filling one’s boots with them (well, sensibly!) Maybe tomorrow’s GAR trend-ending signals the end of this slavery to ‘cheap’ global passives – index trackers where too many investors (and their advisers) don’t think they have to even consider looking under the bonnet. That’s multi trillions of pounds – not mere billions. Another lesson? Don’t try to be too complicated but remember markets generate sustainable dividends, interest and rents and these arise whatever happens to capital values short-term. Global passive funds (and its leaders) pay miserly dividends presently… usual caveats apply of course – see above!
The allure of investment trusts
Readers will know that we like Investment Trusts over their unitised brethren. This is not a prejudice because we can and do buy anything – whatever we think is best for clients – but primarily because the former are for sale at a discount to their underlying asset values. There are other reasons too. However, the main financial advisory industry and investment management arena tend to ignore them – which is odd when they too need to be doing their best for their clients (and there are their reasons) but for us, we disagree with the ‘reasoning’ in that if we can extract extra value from the same markets for our clients by using these, as opposed to using unitised options, ‘cheap’ passives and whatever, then it is in our clients’ best interests for us to pursue them first.
Not promoting it but a participating investment in our strategies, Migo Opportunities plc, has been managed by Nick Greenwood since its launch in 2003. I have known Nick since around 1983, from our Exeter days. Migo’s latest presentation to investment professionals encapsulates the extra value possible by using a discounted Investment Trust. It refers to Ecofin which stood at a discount of 30% to its underlying assets and over a few years, with a more favourable wind and being in assets the market trend began to like, that discount disappeared. From the worst, the asset value of the Trust rose 43% but the share price rose 104% as the discount shrank. This Trust also paid a healthy level of dividends too.
The pessimists could say that the discount can endure (true) but so what? If the assets move forwards, we still benefit but the longer the discount endures and the wider it is, the greater the likelihood, all things considered, that a corporate action will arise to remove that discount. Yes, we had Ecofin too and indeed sold-out when the discount disappeared.
According to Bloomberg, as at 30/6/23 there were 416 listed London funds with an aggregate value of £183billion. 366 of these have a market worth of less than £400million. These are our preferred hunting grounds but invariably we need a good dose of patience as well! However, readers will know that so far in 2023 we have had 10 ‘events’ which can unlock the extra value for investors – outright liquidations of the funds (or takeovers) or ‘reviews’ to consider their futures. On 25 August, another one – Blackstone Loan Financing Ltd also announced a proposed orderly wind-up of its portfolio and a return of cash to investors too, in view if the persistent discount to the value of the underlying assets.
Yes, don’t catch a falling knife and all those adages. You could indeed have caught some nasty colds and knives over the years. However, when buying ‘value’, more often than not it is not such a bad move – yes, the price you could have paid later may have been cheaper but if the fundamentals make sense, is that so significant versus missing-out altogether (or avoiding the opportunity and convincing yourself of your pessimism and expecting it to go to zero) or indeed only chasing-in after the best has already happened?
For example, look at Centrica Plc which bottomed at 31.8p in April 2020 and this week touching £1.54 or Rolls Royce Plc at 39p in October 2020 and since over £2.24 (and often you can enjoy dividends as well). These are gains of 375% and 475% respectively – rather whopping. Yip – we were buying-in ‘too soon’ but did acquire a few Centrica at 41p at the time and Rolls Royce was reprioritised for buying some time later but that has become our largest direct share on the back of this (we have chosen to run the position but a trim will now be in order). Of course, as ever it is what to do ‘now’ and not what the past delivered – good or bad. Inevitably too there will be others that seem to simply drift and drift and you and we have to wait for the catalyst to come – and it doesn’t always. Vodafone is a core example there and yes, we have been buying ‘too soon’ on that score and it is not alone.
Also remember – that if you invest say £100 in a stock, the most you can lose is £100. However, the upside is unlimited. Of course we don’t invest in anything hoping that it falls at all or goes to zero but we are realists, which is why we spread our clients’ money far and wide. Remember though, we must all afford some market ‘risk’ to ensure our capital is working for us – especially as inflation is otherwise like a flesh-eating disease consuming the real value of our cash.
We don’t hold any for clients but… should we? Just imagine a $1billion company turning-over $3billion+ pa, making a profit from a base energy it extracts from the ground and it distributes two-thirds of its profits as dividends to shareholders, presently a rate of 77%pa (so in other words, invest £1,000 and the last year’s income was £770).
It takes the company just over one year to make enough profit to be equivalent to the company’s whole market valuation. It has also just bought a competitor to add to its portfolio… it is certainly a fascinating opportunity and yes there are risks but there are with getting-out-of-bed in the morning too. The biggest yield one of our assets generates is 17%pa presently… and the market’s value of the company is significantly less than the underlying assets it owns too.
My best wishes
Philip J Milton DipFS CFPCM Chartered MCSI FPFS FCIB
Chartered Wealth Manager
Fellow Of The Personal Finance Society, Fellow Of The Chartered Institute Of Bankers