UK EQUITIES
So, no move from the Bank of England this month but expectations are high that we will get a rate increase in December. The bank expects inflation to reach around 5% by the spring but still held firm with only two members of the committee voting for a rate rise despite expectations we would see a 0.25% hike this time. The market reaction was pretty much what you would expect with sterling weakening slightly and gilts rallying on the news. Broadly speaking, the City expects rates to reach around 1% by the end of 2022 so several rate rises are already “priced in” within this time frame. The Bank of England is still sort of persisting with the transitory thesis, suggesting that a fall back in energy prices in the second half of next year will bring inflation back down towards target but confirming that it expects rate increases to be necessary at some point soon. In truth then, plenty of uncertainty persists but it looks as if tighter policy will have to be contended with soon.
Despite performing well recently, UK shares are still trading at a 40% discount to global peers on some measures, which represents a 30-year low. It is difficult to justify such a substantially cheaper valuation than many of the UK’s peers and we have been somewhat more enthusiastic about the domestic market over the last six months or so. The vaccination roll out has generally been a great success, the consumer savings level is high, and the economy seems to be staging a decent recovery. However, there are some unfortunate headlines surfacing around the possibility of the UK invoking “Article 16”. The UK government feels that the Protocol agreed with the EU as part of the Brexit deal is creating too many practical problems regarding the flow of goods from the rest of the UK into Northern Ireland. If the UK decided to suspend articles of the Protocol relating to state aid, customs and product standards this would be seen by the EU as an attempt at gaining access to the single market through the “back door”. Although it may take time to materialise, we could find ourselves in a position where tariffs are imposed between the UK and the EU or possibly even the two parties trading on WHO terms. In reality, this is still unlikely, but it is unsettling. Arguably a fair amount of bad news is priced in here– perhaps not a falling apart of the Brexit deal in full, but certainly a marked deterioration in the situation. There are other reasons the UK is relatively cheap of course – not least the perceived vulnerability
GLOBAL EQUITIES
Investors have wholeheartedly embraced equities of late as most of the bond market looks like an accident waiting to happen. The performance of leading stock markets has been extraordinary, and we have commented before on the excesses which are showing up in various places whether it be in particular equity markets, in the cryptocurrency space or elsewhere. Retail participation is high, and it feels as if all the “bets” are in one direction. Activity in the options markets also strongly suggests that momentum is being “chased” by investors fearful of missing out and that this is driving much of the stellar returns we have seen and continue to see. This of course creates two types of danger. One is that if one takes a more conservative and considered position (which we have generally done) then one lags in terms of performance. On the other hand, if one increases risk asset exposure in anticipation of this continued market “melt up” then one is vulnerable to a correction which it seems must come at some point soon. Perhaps for these reasons, we are maintaining exposure to risk assets at existing levels this month.
Investment Line is written and edited by members of the Mattioli Woods Group investment committee and is for information purposes. It is not intended to be an invitation to buy, or act upon the comments made, and all/any investment decisions should be taken with advice, given appropriate knowledge of the investor’s circumstances. The value of investments and the income from them can go down as well as up, and you may not get back the amount invested. Past performance is not a guide to future returns.
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