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Quotidian Investments Monthly Commentary – June 2017

July 10, 2017

At its mid-June meeting the Federal Reserve, as had been signalled earlier in the year, decided to make a further modest uplift to US interest rates.  What was not expected, though, was that its future interest-rate outlook now appears to have become much more aggressive than markets were anticipating.

In the immediate aftermath of the Fed’s announcement the US stock-market witnessed a three-day sell-off and, in particular, prices in the Technology and Pharmaceutical sectors were marked down across the board by between 3% and 5%. Within a week, however, these valuations had been revised upwards again but it was a salutary warning of potential fragility in what have been 2017’s best performing (and perhaps now overbought) sectors.

June’s UK general election had been intended to give the present Government a much stronger hand with which to enter Brexit negotiations with its EU counterparts.  Sadly, a toxic combination of arrogance and complacency made even worse by a manifesto that seemed to have been written by a semi-literate (and certainly politically illiterate) child brought about the dismal result it deserved. 

The final outcome has raised the very real possibility (unthinkable just a few weeks earlier) of Corbyn’s circus (with its unattractive collection of of clowns, jugglers and tightrope walkers) actually being presented with the chance to stamp their Marx on the UK economy.  What a political, economic and investment nightmare that would be. 

I am reminded of a quotation attrubited to Churchill but probably mis-appropriated from elsewhere:  “If you are not a socialist at the age of 20 then you have no heart; if you are still a socialist at 40 then you have no brain!”  A similar unattributed aphorism which is also apposite here: “The problem with socialism is that you eventually run out of other people’s money!”

Brexit negotiations therefore began with the UK somewhat on the back foot and, predictably, the EU’s opening salvo was characterised by bravura, unevidenced financial demands and simplistic threats.  As ever, the EU continues to exhibit its anti-democratic and protectionist raison d’etre.   The uncertainty surrounding these long-winded negotiations are likely to continue to weigh heavily on UK equity markets.

As a precursor to the G20 meeting being held in the first week of July, the Bank of England’s current governor, Mark Carney, made a presentation to a gathering of central bankers in Portugal (incidentally, the collective noun for such a group should be a constipation of central bankers).  In it he asserted that the prolonged period of weak growth and weak investment is coming to an end (which, strangely, is the complete opposite of the tune he was loudly whistling just one year ago in the lead up to the UK’s Brexit referendum).  It wouldn’t surprise us if this announcement is just a clumsy attempt to pave the way for an impending intention to remove or reduce monetary stimulus.  That would, though, be an unpleasant surprise for the equity markets which have become addicted to a steady supply of newly printed money.

Central bankers generally (and, more specifically, Alan Greenspan in the USA) were instrumental in the genesis of the financial crisis from 2007 0nwards.  In their misguided attempts to ‘manage’ (or manipulate) the global economy and by proxy global stock-markets, with their policy of near-zero interest rates and their experiments with quantitative easing they were primarily responsible for the financial depression and carnage that ensued.

Given that recent history, central bankers and the politicians who indulge and support them would perhaps be well advised to adopt the philosophy of minimal interference which has proved to be the cornerstone of high achievement and success in other walks of business and life.  That may be too much to ask of those who so obviously hold themselves in such high regard as self-styled ‘masters of the universe’.

On 30th June 2017 the FTSE 100 closed at 7312.72(a fall of– 2.76% for the month) and now stands at just +2.38% for the 2017 year to date.  By comparison the Quotidian Fund’s valuation at the same date shows an increase for the month of June of +4.07%and for the 2017 year to date the Fund is now up+30.43%.

The CBOE Volatility Index (VIX) measures turbulence in equity markets but it should only be seen as a guide; it doesn’t necessarily give any insight to the proximate cause of such volatility.  The VIX has been steadily falling to new lows in recent weeks but, at the same time, volatility among individual sectors of the stock market — especially in tech and healthcare stocks — has been rising.  There is also a growing disconnect between the sanguine forecasts on these sectors from Wall Street and what is actually happening in the US economy and its legislature.

As well as the VIX, we also look at the Citigroup Economic Surprise Index. This is simply a measure of whether economic data (GDP, jobs, unemployment, housing starts, consumer confidence, retail sales, etc.) are exceeding or falling short of expectations and this index now indicates more negative than positive surprises in the current flow of data reports.

In fact, the CES index has dropped to one of the lowest levels on record. The last time it was this low was in 2011, just before the Dow dropped nearly 20% during the summer months of that year.  Of course, one shouldn’t be too pedantic with technical indicators of this sort but, given the extraordinary investment return we have achieved this year to date, we now feel it prudent to bank that gain and take stock-market risk out of the equation for the time being.  Our view is that there is now more downward pressure than upside potential at the present moment. 

We are concerned that the leading sector of the US stock market this year (technology) came under heavy selling pressure this month.  Taking into account the relatively dismal flow of economic data, the uncertainty of Trump’s measures to replace Obamacare actually being adopted and the economic impact of the Federal Reseve’s decision to further increase interest rates (together with the prospect of yet further tightening before the end of 2017) it is only a matter of time before the Dow, the S&P and the Nasdaq move to the downside.

We therefore sold 90% of our equity holdings on 23rdJune and now sit for the time being in the relative safety of cash/money instruments.  The ideal, of course, would be to buy back in to equities at lower prices than our exit point.  Whether that becomes possible remains to be seen but our re-entry timing will depend upon our view of the underlying strength in the renaissance of upward momentum.

As with any typical market correction this will likely be a relatively temporary reverse before equities gather the strength to go higher again but we prefer caution at this stage before seeking to re-enter the stock-market when the prospect for achieving further gains is weighted more in our favour.

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