Broomer's Blog

From the monthly archives: October 2018

We are pleased to present below all posts archived in 'October 2018'. If you still can't find what you are looking for, try using the search box.

It's not Friday 13th but...

Financial advisers are understandably running scared of the conventional gilt market. Instead many have turned to the indexed linked market seeking safety from growing global inflationary risks. For me this is liking watching the victims of a horror film trying to scramble away only to place themselves in ever greater mortal danger. The index linked gilt market has a scary duration that leaves it extraordinarily sensitive to changes in real interest rates.

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A Treasure in Treasuries

Government bonds come close to the ideal complement for equities in a balanced portfolio. They provide both a steady income and the potential for capital appreciation at times when equities might be stumbling. Indeed few, if any, other assets provide this sort of diversification benefit. However, with gilts currently trading on such paltry yields, managers of balanced portfolios have been left in a quandary, since UK government bonds now provide little in the way of income and scant potential for capital return if the economy slumps.

We estimate that 10 year gilt yields need to be close to 2% to ensure that they will buttress a portfolio meaningfully in the event of a recession. Of course, we could look to the more sensitive longer dated issues, however, these bonds are extremely vulnerable to any revival in inflation and so compounds the asymmetric risks inherent in such rich valuations.

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Outlook Sept 2018

The FTSE All Share has drifted this year but decent money has been made from international stocks. The MSCI World has been driven higher principally by the performance of US stocks which in turn have been driven by the ecommerce stocks. The US economy is responding to Trump's spending package and earnings are benefiting. EPS growth is exceeding 20% yoy, a little less than half of which came from Trump's tax cut. Encouragingly, corporate revenues are up 9.5% over the period, well ahead of nominal growth rates. Speculative hunger appears to be significant: those who only lost half their shirts on cryptocurrencies, now have the chance to lose the rest in cannabis stocks. Piling into Facebook and Amazon is far more rational in comparison and who are we to stand in the way of such momentum. Expectations of 10% EPS growth next year sounds demanding but could be possible as a virtuous circle of confidence, spending, investment takes hold.

We were right to fear tightness in the oil market as we did at the beginning of the year. The oil industry needs continual investment to maintain supply and the freeze on development has had an inevitable consequence once the stock overhang had been dealt with. We highlighted last quarter about some of the secular changes that could worsen the inflationary outlook. Now CPIs are ticking up globally as energy prices work their way through. The effects of the trade tariffs are yet to be reflected.

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