Market Bulletin – Tuning Out

Global growth, commodity prices and corporate earnings offered positives, as leading indices diverged.

“Trying is the first step towards failure,” warned Homer Simpson – investors tempted to overreact should take note, perhaps most of all during earnings season.

The ebb and flow of this year’s second-quarter earnings continued last week, accompanied by ongoing geopolitical tensions. Yet the summer holiday season should serve as a reminder to investors of the value of doing nothing, since it is time in the market – not timing the market – which helps deliver the best returns. The less investors are tempted to chop and change their strategy in response to market noise, the fewer mistakes they are likely to make, and the greater their chances of compounded growth.

Still, it was the noise that captured the headlines – and much of it was encouraging. The MSCI World rose by 2.3% in July, its eighth consecutive month of gains. Volatility remains close to all-time lows (as measured by the CBOE VIX) and well over half of those S&P 500 companies that have reported quarterly earnings beat expectations.

Leading the pack was Apple, the world’s largest listing. Sales of both iPhones and iPads recovered, while the company said its performance in China, where it has struggled, was much more positive. Its share price rose in response to the results, as did that of two of its key suppliers, Dialog and STMicroelectronics.

“STMicro is one of the world leaders in automotive semiconductor chips and they have a significant business in microcontrollers,” said Stuart Mitchell of S. W. Mitchell Capital. “Looking ahead, STM is at the lead of developing technology in autonomous driving, and the company also has a great future in the internet of things. One of their interesting current developments is around 3D cameras, which we think will be important for the next iPhone.”

Despite the tailwinds, the dollar clocked its worst run in six years, completing six consecutive calendar months of falls against a basket of global currencies. Indeed, the continued strength of the Japanese yen against the dollar was widely seen as the reason the Nikkei 225 rose a mere 0.03% last week, despite positive corporate earnings. The pound rose 1.5% against the greenback in July, in part because the latter had been afflicted by a downward revision to first-quarter US growth, and by mixed economic data. The growing political impotence of Donald Trump has also raised fears over the outlook for some of his more market-friendly policies.

There was some turnaround in the data on Friday, however, as US payrolls showed that 209,000 jobs were added in July, significantly above expectations, while unemployment fell to 4.3%, equalling a recent 16-year low.

The S&P 500 had a mediocre week, ending up only a whisker (0.14%), as the decline of technology stocks held it back from any earnings season bounce, despite the index trading close to a record early in the week. Some investors are even concerned about the positive earnings news, arguing that much of the current earnings strength has been built on share buybacks and cost-cutting rather than revenue generation. Their caution offers another reminder of the importance of investing on the basis of company fundamentals, not short-term earnings figures.

Bank inertia
It was a better week on the FTSE 100, which rose 1.95%, helped by recent corporate earnings announcements. Rolls-Royce and RBS both reported stronger results for the second quarter, beating expectations and prompting rises in their respective share prices.

It was commodities companies that particularly buoyed investor sentiment – the FTSE 100 is strongly weighted towards the commodities sector. BP beat profit expectations, despite having to give up on its stake in a major exploration project in Angola. Rio Tinto, the mining major, announced positive earnings and a 50% pay-out of first-half earnings as a dividend – it cited rising commodity prices. Housebuilders struggled, however.

Aside from commodities, the other key player in the UK market last week was the Bank of England. The bank chose to leave interest rates on hold; it also cut its growth forecasts. Mark Carney said that Brexit uncertainty was harming business investment and wage growth. Contrary indicators came in the form of a forecast by the National Institute of Economic and Social Research (NIESR) that growth would accelerate in 2018, and the IHS Markit Purchasing Managers’ Index (PMI) for manufacturing – a key indicator of sentiment for the sector – which came close to its highest reading ever. The construction PMI was more negative, striking an 11-month low; but the service sector, which accounts for some four fifths of the UK economy, posted an improved PMI rate for July.

As political jostling continued over the exact contours of the UK’s exit from the EU, the prime minister’s spokesman confirmed that free movement would indeed end in 2019. Meanwhile, the most detailed assessment to date of the impact of Brexit on the UK banking sector was published last week by Oliver Wyman, the global consultancy. It forecast that costs for banks will rise 4% and that capital requirements will rise 30%. In the same week, HSBC said that it expected Brexit disruption to cost it $200–300 million.

The week provided warnings of disruption to pensioners too; although, in this case, the culprit was government policy. A report published by the Institute for Fiscal Studies said that raising the age at which UK women receive a State Pension has left nearly 1.1 million worse off by £50 a week, and has pushed some into poverty.

Meanwhile, Royal London found that 1.7 million pensioners had to file an annual tax return for 2015/16, and a quarter of them were aged over 80. Steve Webb, director of policy at Royal London, said of the report: “It is clear that even retirement does not mean freedom from the misery of the annual tax return.” In the early 90s, only one in nine taxpayers was over 65, whereas this year it is estimated that one in five taxpayers will be.

“It isn’t a surprise that we are seeing an increase in those over 65 paying tax, because we are in a situation where there is an ageing population, some of whom have significant pensions income from final-salary pensions as well as having separate investment portfolios,” said Claire Trott of Technical Connection.

As well as the increase in the number of pensioners having to complete tax returns, there is also a growing number having to reclaim emergency tax paid when accessing their pension benefits under the new pension freedoms. This shift only increases the benefits of appointing a lasting power of attorney who can deal with financial affairs in later life if the need arises.

Anniversary moment
While central banks globally dither over rates, the Czech central bank last week became the first European central bank to raise rates since the global financial crisis – Wednesday this week will mark the tenth anniversary since the crisis began. The ECB shows no signs of following Prague’s lead as yet.

For those who would like it to do so, last week provided plenty of ammunition. While UK growth for the second quarter came in at a reasonable 0.3%, eurozone growth was reported at 0.6%, according to preliminary estimates. Meanwhile, French factories reported they are hiring at their fastest rate since 2000. Moreover, NIESR upped its forecasts for both European and global growth. The Eurofirst 300 rose 1.2%.

S. W. Mitchell Capital is a fund manager for St. James’s Place.

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