Returns from global equities were modestly positive in July but were weighed down by market jitters in Asia following a regulatory clampdown by Beijing on the technology sector, among others.
Global markets were buoyed slightly by the positive performance of UK, European and US equities as the MSCI World Index returned 1.2% over the period. However, this masked a fairly volatile month for global equities, as the continued reopening of economies was marred by rising cases of the Delta variant.
In the UK, England reached the fourth and final stage of the government’s ‘roadmap’ out of lockdown, with 19 July marking the date on which most remaining restrictions were lifted, dubbed ‘Freedom Day’. However, equities were nervy, and UK markets initially fell on opening. The FTSE All Share Index finished the month up 0.5%, while the FTSE 100 Index managed only a 0.1% return as small cap stocks outperformed large caps in the UK.
The Chinese equity market was the worst-performing of the major markets over the month in sterling terms, contributing to emerging market indices approaching ‘correction territory’ – when an index falls by 10% or more. A move by Chinese regulators to step up their oversight of certain sectors, including education, technology and food delivery services, prompted stocks in these sectors to tumble, the repercussions of which were felt in emerging market economies as well. The MSCI China Index lost 14.4%, while the MSCI Emerging Markets Index fell 7.3%.
Europe’s vaccine roll-out overtook America’s efforts during the month, but European equities failed to outperform US stocks. The MSCI Europe ex UK Index rose 1.5%, slightly behind the MSCI USA Index’s 1.7% gain. Mixed European economic data, especially out of Germany, resulted in choppy stock markets.
European and US central banks maintained their supportive monetary policies. The European Central Bank held interest rates steady and confirmed the monthly pace of its asset purchase programme would remain unchanged at €20bn. The US Federal Reserve kept rates at near zero and made no changes to the pace of bond-buying, citing the economy’s ongoing recovery, with US stocks buoyed by the comments.
In hedged sterling terms*, returns from government and corporate bonds were positive during the month, with the Bloomberg Barclays Global Aggregate Government - Treasuries Index up 1.4% and the Bloomberg Barclays Global Aggregate Corporate Index gaining 1.3%. However, high-yield bonds remained fairly flat, with the Bloomberg Barclays Global High Yield Index up 0.1%.
The Organization of the Petroleum Exporting Countries (OPEC) reached a deal to increase oil production later this year, noting increased demand as economies continued to recover following successful vaccination programmes. This drove a sharp decline in the oil price around the middle of the month, although most of the decline subsequently reversed.
(All performance figures in sterling terms and rounded to one decimal point, unless otherwise stated.)
*Currency hedging of foreign investments can help dampen currency fluctuations affecting the volatility of returns on your investment. Under most circumstances, in the Cirilium Portfolios we currency hedge foreign currency bond holdings except in cases where the foreign currency exposure is an explicit return-driver (eg emerging market local debt exposures).
Against this backdrop, the Cirilium Portfolios were little changed on the month with the lower-risk portfolios marginally higher, while the higher-risk portfolios were marginally lower. Diversification across managers, asset classes, investment styles and geographical regions helped mitigate some of the volatility during the month but also resulted in lower overall returns.
Disappointingly, for the higher-risk portfolios, the weak performance of Asia/emerging market equities and the Granahan US SMID Select Fund more than offset the strong performance from European equities and our global managers, but it did allow us to add to previously reduced positions at lower prices.
That said, there were some exceptional performances among our equity managers during the month including the Premier Miton European Opportunities Fund and all of the Montanaro stable of funds (European Income, UK Income, European Mid Cap and Better World), to name but a few.
Within the Montanaro funds the managers focus on quality small and medium sized companies that can deliver growth with a profitability focus and, for income funds specifically, maintain a discipline of paying consistent and stable dividends. In all cases the portfolios benefited from a tailwind for smaller companies in the UK and Europe during the month, as well as ‘growth’ stocks being in favour compared to ‘value’ stocks in the US.
But even these champions were unable to offset weakness in Asia, emerging markets and Japan. Our exposure to Asia and emerging equity markets had previously been trimmed into rising prices, but the sharp pull-back in July weighed on investment returns for the month. The biggest casualty was the Fidelity China Consumer Fund, which is held in the Cirilium Moderate, Dynamic and Adventurous portfolios.
Our longer-term outlook for Chinese and Asian equities remains positive, but sentiment is likely to remain fragile in the near-term until the length and breadth of a regulatory clampdown becomes clearer.
That said, we did take the opportunity to rebalance a selection of our Asia and emerging market equity managers.
Elsewhere, while the S&P 500 Index in the US reached a new high this was very much isolated to larger companies. US small and mid-sized companies generally ended the month lower, which resulted in a disappointing month for the Granahan US SMID Select Fund, which was down, but certainly not out as their portfolio companies continued to deliver robust earnings.
Consequently, equities were not the largest contributor to returns in July, but for some portfolios they were the largest detractor of returns. For the lower-risk portfolios, alternatives, such as our exposure to property, and fixed income provided the strongest contribution to returns. It was also encouraging to see further strong gains from our private equity exposure in the form of our holdings in Harbourvest Global Private Equity and Riverstone Energy.
In terms of investment activity, aside from general portfolio maintenance, the main actions in the month were utilising tactical and opportunistic strategies.
In terms of tactical changes, this meant putting cash to work for the lower-risk portfolios. This does not reflect a sudden change in view for bond markets, rather the acknowledgement that we may need to wait longer for a better entry point. Therefore, we invested across a broad range of funds and managers that should be able to provide a better return than simply holding cash.
This included adding the Fair Oaks Dynamic Credit Fund to the Cirilium Conservative and Balanced portfolios, and the Janus Henderson Asset Backed Securities Fund and the Wellington Global Total Return Fund to the Cirilium Conservative, Balanced and Moderate portfolios.
Meanwhile, opportunistic changes involved adding to our Asia and emerging market managers following a sharp pull-back. Furthermore, for the higher-risk funds we increased our weighting to the region by around 1% by adding to the Wells Fargo EM Equity Income Fund, including a new holding for the Cirilium Dynamic Portfolio.
These purchases were financed by trimming holdings that had performed well including Harbourvest Global Private Equity, the Polar Capital Automation & AI Fund, various Montanaro funds and the Sands Global Leaders Fund.
Within financial markets, equities and bonds painted contrasting pictures in July with the S&P 500 Index, for example, hitting new all-time highs while US Treasury yields fell to lows last seen in February.
Such a sharp decline in yields would normally imply a significant downgrade to the growth outlook, but there appears to be a range of factors behind the move lower including purchases by the Federal Reserve, institutional investors looking to rebalance following a strong period for equities and elevated cash balances across the private sector. In other words, technical factors rather than fear factors.
The most eye-catching moves during the month were within emerging markets, with turmoil in Chinese stock markets particularly notable. Reforms to the private tutoring sector triggered extreme volatility towards the end of the month, with the changes coming hot on the heels of increased scrutiny being applied to the technology sector, as well as actions taken to influence the housing market.
The changes, while arguably a little harsh, appear to reflect the renewed focus from policymakers on their long-term structural goals, with efforts to curb inequality and ensure healthy competition across all sectors.
With equity markets having already delivered strong returns in the first half of the year, many investors appeared to focus on the downside risks in July. The Delta variant could certainly lead to a slower rebound in parts of the world where vaccination rates are lower. Furthermore, consumers may be hesitant to adopt a full return to normality while the risks of infection remain high.
That said, there is little evidence at this stage to suggest that the economic recovery will be derailed. Consumers continue to power the rebound in growth while policymakers continue to provide ample support, probably more than is currently needed.
In summary, the ‘best’ of the recovery may now be behind us, both for the stock market and many parts of the global economy, but ultimately, we still believe there is scope for risk assets to move higher over the remainder of the year, albeit with a bumpier ride.