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Quotidian Investments Monthly Commentary – January 2016

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February 15, 2016

The long anticipated decision to increase interest rates in the USA for the first time since 2006 was finally confirmed by the Federal Reserve in their December mid-month meeting. As expected, the increase was at a rate of just 0.25%.

In her summary following the rate announcement Janet Yellen emphasized that negative economic forces were being offset by solid expansion of domestic spending and added that foreign economic risks “appear to have lessened since the summer.” She described the dollar’s rise as “transitory” and made a point of stating that any future interest rate rises would be of a similar minimal size and would only be implemented in harmony with US economic growth.

Despite her dovish commentary the immediate aftermath of every Fed meeting is always volatile in equity markets with whiplash moves in both directions. The real underlying trend typically asserts itself once the short-term turmoil ebbs away.

Indeed, equity markets, in typical fashion, immediately reacted violently; in the following two hours stocks initially sank, then they soared, then they sank again, and eventually the Dow surged 224 points upwards by closing bell. The dollar remained roughly flat.

2015 will go down as another year of above average volatility. Following steady and generally upward momentum in the first half of the year equity markets did then have their periods of bedlam from August onwards.   In August itself we saw the 2015 version of a “flash crash” when the Volatility Index (VIX) spiked from below 11 to above 50 in just three weeks.

Take your pick as to the culprit/s for the dramatic August sell-off that saw the Dow shed 2,400 points in just those three weeks (and I’m probably omitting a few worries from this list):

  • China’s seeming economic slowdown – although China’s GDP growth still shows a clean pair of heels to much of the rest of the world
  • European debt and immigration concerns – indeed the very existence of the EU in it present form remains questionable
  • Deep falls in Commodity prices in general and the price of oil in particular
  • Corporate profits under pressure
  • Fears that the Federal Reserve would increase interest rates in the USA, and, perversely
  • Fears that the Federal Reserve would not increase interest rates in the USA!

August and September saw a convergence of most of the items on the ‘worry list’ and although stock market volatility subsided briefly in October it returned with a vengeance in November and December.

In December, which is traditionally a bullish month for stocks and shares, extreme volatility kicked off once again.

First, the People’s Bank of China (PBOC) followed up on its big “one-off” yuan devaluation in August with yet another effective devaluation of similar magnitude. For as long as the dollar remains strong the PBOC may feel the need to adjust the yuan lower in response (thus potentially injecting more turbulence into equity markets as was the case in August).

In addition, the European Central Bank (ECB), the Bank of Japan (BOJ), the Bank of England (BOE) and many other global central banks are walking a similar tightrope too; trying to “devalue” their own currencies by using various forms of monetary stimulus. The trick is to do so without going as far as to trigger a crisis of confidence with resultant capital flight out of their own economies. It’s a risky business.

On 31st December the FTSE 100 closed at 6242 (which represents a fall of -4.93% for the 2015 year). It also confirms a decline of 1.79% during the month of December.

By comparison the Quotidian Fund at the end of December stood at +16.56% for the year, having been marked down in value by -1.22% in December itself. At year end we stand 21.49% ahead of our benchmark (it being the FTSE100 index). It is worth noting that this December mark down occurred on the very last two trading days of the year (when trading volumes were thin to non-existent). This is a perfect example of artificial pricing but, of course, we are obliged to “mark to market”. No doubt the real trend will emerge as 2016 gets into its stride.

You will have seen in our November monthly report that we anticipated the short-term market reaction to the very likely event of a December rise in US interest rates. Given that this increase had been widely signaled by the Federal Reserve for the past nine months or so it was hardly Einsteinian insight on our part.

We highlighted “market expectations of the long-heralded US interest rate rise now actually being implemented at the Federal Reserve meeting in December.  In reality that should not be a problem but market-makers still seem to feel obliged to perform an initial knee-jerk negative reaction when interest rates rise”.

We went on to say that “We do not expect that to create a long term problem”.

Indeed, the actuality closely followed that script.  On the day of the interest rate announcement markets gyrated frantically before closing on the high side.  The following two days were profoundly negative but the panic subsided again just another two trading days later.  

Volatility is established as a feature of stock markets nowadays and likely to remain a permanent element.  That being so, our role encompasses managing that volatility as best we can.  We are pragmatic and do our utmost to extract emotion from the decision-making process. Stock selection is the key to consistently above average performance; aiming to be in the right stocks in the right sectors of the right markets at any given point in time is our guiding strategy. That philosophy served our investors well in 2015 (and indeed for years gone by).

Fundamentally, if we believe that market negativity is a true reflection of real economic problems then we would seek to liquidate or reduce our exposure.  In many cases, though, equities are simply being subjected to synthetic price reductions (by market makers seeking, inter alia, to test the resolve of certain types of investor).  If we deem this to be the case then we seek to take advantage of short-term opportunities and top up reliable holdings at ‘bargain’ prices.

Many of the worries on the list above will no doubt continue to dog equity markets in 2016. Despite that, however, we remain sanguine to the achievement of positive performance in 2016 via meticulously selected stocks in carefully chosen sectors of the equity markets of very specific countries. We continue to have confidence in the individual stocks and assets that currently comprise the Fund’s purposefully focused and concentrated portfolio.

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