FAB Asset Allocation Committee adds to global equity overweight into weakness

Weekly Investment View – 12 February 2018

The S&P500 closed 5.16% lower over the week (at 2,619.55), 8.82% below the all-time closing high of 2,872.87 posted late last month - so off Thursday’s lows of greater than 10% below the closing high, and after some very wild swings as weaker holders liquidated. In last week’s report we suggested “Wait to buy/don’t sell” equities. This week we are saying “Buy/add to global equity positions”. Last Monday was the worst day for the S&P and the Dow since August, 2011, with structural bulls (like ourselves) beginning to sense an opportunity to add to long positions, despite the chance of a further US government shutdown later in the week (there was one, but it only lasted a few hours before the all-important US budget deal was agreed, and signed by President Trump). One of the key points (alongside the bullish view on global equities) in the ‘FAB Global Investment Outlook 2018’ was that we expected volatility to return. The closing VIX (volatility) reading last week was 29.06, (vs. a range of about 15-20 in times of more normal volatility), up from the close of 17.31 the previous week, although thankfully below the 50+ level reached momentarily intra-day early last week. Admittedly we didn’t have readings in the 50 region in mind! Markets these days have become even more ‘instant’ (in terms of the way they discount new news or views), so provided investors and their advisors have clear market views it can pay off to operate opportunistically/tactically if a short-term countertrend looks to have gone too far.

“The US budget deal, together with tax reform, will stimulate the US – and other – economies”
With the market already braced for the possibility of bad news (i.e. a further US government shutdown), US equity (and other) markets saw renewed downside on Thursday, which carried over into Asia and the Far East early on Friday.
However, a bipartisan agreement was reached in Congress after which President Trump signed a large spending deal into law after both chambers of Congress approved the bill early on Friday morning (EST). The bill will result in a two-year, $300 billion boost to spending on military and domestic programs. It also extends the debt ceiling, and authorizes almost $90 billion more in aid for 2017’s various natural disasters, helps fund the response to the opioid crisis, and also extends the Children's Health Insurance Program for an additional four years (important to Democrats). There had of course been a measure of opposition from conservative GOP and other lawmakers to the plan in its totality, based on its likely effect on the US budget deficit. Meanwhile, the Democrats still want to see adequate provisions made for the ‘Dreamers’, hundreds of thousands of young immigrants in danger of deportation. Treasury Secretary Steven Mnuchin applauded the bill's passage (and we note for our readers his message and analysis of months past that the combined effect of the Trump Administration’s economic initiatives should lead to higher economic growth – which in turn should offset the initial increase in government debt. As in the nature of such compromises, neither side got everything they wanted, but we were slightly surprised by the rapidity with which the latest agreement was reached – we thought it would take longer. The legislation funds the government through to the 23rd March while lawmakers finalize an appropriations bill with the levels dictated by Congress (followed by appropriations legislation for the current fiscal year ending 30th September, and the following year). We believe there will be less purely political pressure on the dollar as a result of the passing of this budget.

“Our favourite equity overweight remains Asia-Pacific (ex-Japan)”
Unsurprisingly the US equity correction dragged other global equities down with it.
European stocks were 5.01% lower over the week in terms of the STOXX Europe 600 index, Japan’s TOPIX closed 7.09% lower, and Chinese stocks corrected by 10.08% on the CSI 300 index (having been amongst the recent winners). Our favoured broader MSCI Asia-Pacific (ex-Japan) index (a quarter of which is China) closed 7.31% lower, slightly worse than the MSCI EM average (7.15% lower over the week), and which remains our largest overweight equity position.

“The outlook for the Indian rupee appears very stable”
In fixed income, US Treasuries closed slightly lower over the week (with the yield on the 10-year bond up one basis point, to 2.8512%).
The equity sell-off in the US had encouraged a move back into Treasuries. Meanwhile, the yield curve between US 2- and 10-year bonds steepened as the 2-year yield corrected by just under seven basis points (down to 2.0732%); with the benefit of hindsight it is easy to say this policy-sensitive rate had risen too far, too fast. A further downward correction in this now looks likely, and would be generally helpful to markets. In FX markets, the dollar rallied by 1.40% on its index over the week (to 90.442) as the bears came up against the bipartisan US budget deal. The euro/dollar pair was 1.69% lower over the week, with the yen 1.24% stronger vs. the dollar, at ¥108.80. Elsewhere, in the major currencies, cable traded 2.06% lower (to $1.3827), as Brexit worries resurfaced mainly in the form of EU negotiator Barnier’s latest aggressive stance, to the effect that a transition deal for the UK was not ‘a given’. Relative sterling strength earlier in the week resulting from a more hawkish stance on rate policy from the Bank of England gave way to more practical considerations: the EU cannot make Brexit appear easy. Elsewhere in foreign exchange markets we will lastly mention the USD/INR pair, in the light of Reserve Bank of India policy, and borrowing heavily from the latest view from our FAB Global Markets colleagues. Their short, intermediate and long-term expectations centre around 64.00, vs. Friday’s close of 64.3975. In its monetary policy meeting last week the RBI kept its policy rate on hold, and maintained its neutral stance, despite indicating that inflation risk was skewed to the upside (i.e. expecting a 5.1% annualized rate in the first quarter of fiscal 2018 (up from 4.7%). The yield on India government 10-year bonds closed at 7.490% last week, down from a recent high of 7.60%, and we remain firm holders.

“It’s good to have fewer speculative positions in oil – which continues to rebalance fundamentally”
In commodities, oil prices fell more than 3% on Friday, contributing to a fall of 8.44% for Brent over the week (to $62.79/barrel).
Although a fair bit of downside over the week, we regard this as a correction within what remains a fundamentally improving situation. Oil could be just a few dollars away from a reasonable accumulation point, provided hedge fund liquidation is thought to have run its course. WTI fell by 9.55%, as trading longs were liquidated and influenced by falls in other risk asset prices. Gold fell by 1.25% over the week, to $1,316.65/oz – which is deemed to be a very positive result for the underlying health of risk assets, particularly equities.

“US corporates may not yet have pricing power – but they will pay less tax, offsetting this”
INVESTMENT SUMMARY: The Asset Allocation Committee met twice last week and made the following changes to the model portfolios:

  1. The overweight in High Yield bonds was reduced to neutral, and the proceeds were exactly sufficient to:
  2. Increase the previously underweight position in Developed Market Government bonds back to neutral – hence a de-risking exercise in the event that default rates on higher-risk corporates increase.
  3. The overweight position in North American Equities is to be increased into current weakness.
  4. Moving to overweight (from neutral) in Emerging Market Equities as a group, thereby diversifying the global overweight in equities, and using the superior growth expected in EM vs. Developed. Only MENA Equities remains neutral, the rest now being overweight.
  5. Changes (3) and (4) above to be paid for by further reducing the already underweight position in Alternative Investments – Hedge Funds, and also out of Cash/Money Markets (the latter being already underweight).

For any inquiries related to this article, please contact Alain Marckus or Clint Dove.

Click here to download the article in PDF

Weekly Investment View – 11 February 2018

This report has been prepared and issued by Products & Services - Wealth & Private Banking (“P&S-WPB”) of First Abu Dhabi Bank PJSC (“FAB”) outlining particular services provided by P&S-WPB and does not constitute or form part of any offer or invitation to sell, or any solicitation of any offer to purchase or subscribe for, any shares in FAB or otherwise or a recommendation for a particular person to enter into any transaction or to adopt any strategy nor shall it or any part of it form the basis of or be relied on in connection with any contract therefore. This report is incomplete without reference to, and should be viewed solely in conjunction with the associated oral briefing provided by P&S-WPB. The report is proprietary to P&S-WPB and may not be disclosed to any third party or used for any other purpose without the prior written consent of P&S-WPB. The information in this report reflects prevailing conditions and our views as of this date, which are accordingly subject to change. In preparing this report, we have relied upon and assumed, without independent verification, the accuracy and completeness of all the information available from public sources or which was otherwise reviewed by us. In addition, our analysis are not and do not purport to be appraisals of the assets, stock or business of the recipient. Even when this presentation contains a kind of appraisal, it should be considered preliminary, suitable only for the purpose described herein and not be disclosed or otherwise used without the prior written consent of P&S-WPB. FAB clients may already hold positions in the assets subject to this report and may accordingly benefit from the buying or selling of such assets as referred to in this report. This document does not purport to set out any advice, recommendation or representation on the suitability of any investment, transaction or product (as referred to in this document or otherwise), for potential purchasers. Potential purchasers should determine for themselves the relevance of the information contained in this document and the decision to purchase any investment contained herein should be based on such investigation and analysis as they themselves deem necessary. Before entering into any transaction potential purchasers should ensure that they fully understand the potential risks and rewards of that transaction (including, without limitation, all financial, legal, regulatory, tax and accounting consequences of entering into the transaction and an understanding as to how the transaction will perform under changing conditions) and that they independently determine that the transaction is appropriate for them given their objectives, experience, financial and operational resources and other relevant circumstances. Potential purchasers should consider consulting with such advisers and experts as they deem necessary to assist them in making these determinations and should not rely on FAB for such purposes. FAB is acting solely in the capacity of a potential arm’slength contractual counterparty and not as a financial adviser or fiduciary in any transaction unless we have otherwise expressly agreed so to act in writing. FAB does not provide any accounting, tax, regulatory or legal advice. FAB is licensed by the Central Bank of the UAE.
London: Our London Branch is Authorized by the Prudential Regulation Authority. Subject to regulation by the Financial Conduct Authority and limited regulation by the Prudential Regulation Authority. Details about the extent of our regulation by the Prudential Regulation Authority are available from our London branch on request. Registered in England & Wales: Company No: FC009142: VAT No: GB245 3301 91.
Paris: Our Paris Branch is licensed by the French Prudential Control Authority as a credit institution. Our Paris is registered in France under the company number: RCS Paris B 314 939 547.
Switzerland: This publication is for your information only and is not intended as an offer, or a solicitation of an offer, to buy or sell any investment or other specific product. Certain services and products are subject to legal restrictions and cannot be offered worldwide on an unrestricted basis and/or may not be eligible for sale to all investors. All information and opinions expressed in this document were obtained from sources believed to be reliable and in good faith, but no representation or warranty, express or implied, is made as to its accuracy or completeness. All information and opinions as well as any prices indicated are currently as of the date of this report, and are subject to change without notice. The analysis contained herein is based on numerous assumptions. Different assumptions could result in materially different results. At any time the First Abu Dhabi Bank PJSC and/or our Private Bank (Suisse) SA may have a long or short position, or deal as principal or agent, in relevant securities or provide advisory or other services to the issuer of relevant securities or to a company connected with an issuer. Some investments may not be readily realizable since the market in the securities is illiquid and therefore valuing the investment and identifying the risk to which you are exposed may be difficult to quantify. Futures and options trading is considered risky. Past performance of an investment is no guarantee for its future performance. Some investments may be subject to sudden and large falls in value and on realization you may receive back less than you invested or may be required to pay more. Changes in foreign exchange rates may have an adverse effect on the price, value or income of an investment. First Abu Dhabi Bank PJSC expressly prohibits the distribution and transfer of this document to third parties for any reason. First Abu Dhabi Bank PJSC and/or our Private Bank (Suisse) SA will not be liable for any claims or lawsuits from any third parties arising from the use or distribution of this document. This report is for distribution only under such circumstances as may be permitted by applicable law. The “Directives on the Independence of Financial Research”, issued by the Board of Directors of the Swiss Bankers Association (SBA) do not apply.
Singapore: National Bank of Abu Dhabi P.J.S.C., Singapore Branch is regulated by the Monetary Authority of Singapore and holds a Wholesale Bank license.