It has been a wild couple of months in the UK equity market. The FTSE-100 index started the year at 6,242 and fell to 5,537 on 11 February, before recovering to above 6,100. The bombed-out mining sector saw intra-day swings of over 10% in both directions. We have seen strong bounces in the oil & gas, mining and food retailer sectors and these may be bottoming out. Banks, however, remain in a steep downtrend. Sentiment is already being affected by the approach of the EU referendum on 23 June 2016. Sterling has reacted negatively on fears of an ‘exit’ vote and would almost certainly fall much further against the US Dollar if we vote to leave the EU. This would also hit prime London real estate and perhaps banking and financial services. The best strategy for the moment is to overweight big multi-nationals which earn or account in dollars, like Royal Dutch Shell, GlaxoSmithKline, RELX and WPP. The prices of gold, iron ore and platinum have bounced strongly, but we feel it is a bit early to return to the commodities and mining sectors. However, with the oil price back up to $40 a barrel Royal Dutch Shell’s 7.5% yield is looking more secure and the oil & gas majors look good value.
Meanwhile, the EU continues to show slow growth and near zero inflation. Q4 GDP averaged 0.3% with Spain recording a stellar 0.8% and poor Italy trailing with 0.1%. Greece shrank by 0.6% as well as suffering the incursion of over 100,000 migrants. There is some concern about banks, particular in Italy, but in the absence of shocks, the EU as a whole should grow by 1.5% this year.
February US payroll figures were strong (up 242,000), but average earnings were down month on month from 2.5% to 2.2%. 2015 earnings per share were down by 1.8% but are expected to improve this year. We expect the US equity market to trade sideways ahead of the November Presidential election.
Elsewhere, China continues to slow down, but there are signs that it is trying to stimulate its economy without depressing the currency. Brazil has had a dreadful year, but its stock market has risen strongly, helped by the recovery in oil and metal prices. India continues to grow at over 7%. Oil and commodity exporting countries, such as Nigeria, Venezuela and South Africa remain in recession.
If, as we believe, the mining, oil & gas and food retail sectors are bottoming and have recovery potential, the UK market should be able to consolidate around these levels. If we vote to remain in the EU, we would expect REITs, housebuilders and financials to recover strongly. Ahead of the vote we are reducing our mid-cap and small-cap exposure, in favour of mega-cap and large-cap multinationals with high US Dollar earnings.
With thanks to Balkerne Asset Management for their latest investment summary.