Investment Line: Market Update - November 2017
Investment Line is a regular investment bulletin produced by Mattioli Woods plc. The communication provides an update on funds, highlights some of the areas we are currently focusing on, and our thoughts on the issues of the day.
One of the long-standing justifications for the extraordinary performance of equity markets over the last year has been the tax cut agenda of President Trump. Some investors have recently been adjusting portfolios to maximise exposure to those sectors that are likely to be the main beneficiaries of corporate tax reform. We are now moving close to these policy hopes becoming reality via a reduction in the headline corporate tax rate from 35% to 20% and the consolidation of individual tax brackets. The House of Representatives has now cleared the President’s plans, and this is clearly a positive, though challenges remain. Opposition in the House came from a number of sources including those who object to proposals to curb state and local tax deductions. The issue will be more contentious still in the Senate where Republicans hope to get the legislation passed just after Thanksgiving. The Republican majority there is only two and some of those Senators have expressed reservations about various aspects of the plan, ranging from the budget deficits that will be created to the expiration of individual tax cuts in 2025 and the effective repeal of elements of Obamacare. In short, this is a complex matter, and the possibility of delays to corporate tax cuts could act as a drag on markets. This shows just how much is being ‘priced in’ by investors who are looking for the next catalyst to extend/justify this extraordinary bull-run. At these valuation levels we are happy for other investors to convince themselves it can continue indefinitely.
Our concern over the prospects for most asset classes has led us to look for more sophisticated ways to stay engaged in markets whilst limiting risk for clients. The desire for additional protection for portfolios and low correlation has led us to introduce an exposure to managed futures. Fundamentally these instruments are based around momentum indicators and follow trends in markets. When markets indicate a clear uptrend, futures will be employed to profit from this, but crucially, when markets enter a downward trend (falling through price averages or breaking out of established price channels), futures can also be used to short the market and still generate a positive return. These are sophisticated quantitative trading systems and, used in conjunction with our other asset classes, should provide an important safety net. We acknowledge they may appear opaque and difficult to understand, but these strategies are highly credible and offer us a better way of limiting downside than do other approaches. The increased presence of passive strategies in the market may mean that when we do see a correction in markets, the size of it is exaggerated and the return of volatility should help trend-following strategies. This sits alongside our other alternative strategies, such as absolute return and structured products, and adds to the suite of diversifiers that we can offer clients.
It is now a year since we removed direct European fund exposure from portfolios having looked ahead to 2017 and decided the political risks were too great. We now find ourselves in a similar position as we move towards 2018. True, the potential obstacles to market progress never materialised but with an Italian election due between March and May it feels like an even bigger risk is on the horizon. The majority of the main parties have voiced concerns over the euro, and whereas France was an outlier risk this year, the possibility of an Italian election result that pits Italy against the EU and the single currency is much more real. The data from Europe is actually much improved, but sentiment can turn very quickly, and we expect investors to become more unsettled as the election approaches. We continue to play Europe through some of our specialist equity exposures rather than directly through geographically oriented European funds.
Investment Line is written and edited by members of the Mattioli Woods Asset Allocation Team, 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 fall as well as rise, and investors may not get back the full amount invested. Past performance is not a guide to the future.
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