Investors should be prepared to look beyond the US for future returns, despite its lead role in driving overall global equity market gains during 2018, according to Heartwood Investment Management’s Michael Stanes.
FE Alpha Manager Stanes, who is the investment director at Heartwood, said 2018 has proved to be a “somewhat unusual year for equity markets”, so far.
He added: “While most major markets failing to make any real headway is not so unusual in itself, the contrasting strength of the US market is of note.”
Indeed, the blue-chip S&P 500 index has delivered a total return of 13.84 per cent – in sterling terms – since the start of the year, compared with a 6.55 per cent gain for the broader MSCI AC World index.
Performance of indices YTD
Source: FE Analytics
The Heartwood investment director said: “The US has driven global equity market returns almost single-handedly in 2018 and is up more than 10 per cent for the year so far.
“It has been even more rewarding – almost 15 per cent – for sterling-based investors, thanks to the translation effect of a stronger dollar and a weaker pound.”
Stanes – who manages the £262.4m LF Heartwood Growth Multi Asset fund – said much of the outperformance of the US market has come since May as the “sugar rush” of US president Donald Trump’s tax reforms started to be felt.
“This has supported already elevated merger and acquisition activity, as well as continued share buyback activity as companies have repatriated overseas cash holdings,” he explained.
However, he noted that more robust economic growth during 2018 in the US has also contributed to the positive sentiment surrounding US equities.
“What’s more, while non-US investors can be unnerved by the apparently expensive nature of US equities, US investors themselves tend to be very focused on their domestic market, further supporting its higher price tag,” he said. “Poor returns in 2018 from overseas investments for US-based investors can prolong this bias.”
However, there have been some concerns raised about the longevity of the US equity bull run more recently, particularly after the S&P 500 surpassed its previous record at the end of August.
The index broke the record on 22 August after going 3,453 days without experiencing a correction of 20 per cent or more, outpacing the 1990-2000 bull run ended by the collapse of the technology, media & telecommunications bubble.
Yet, the withdrawal of monetary and fiscal stimulus that the Federal Reserve has pursued more recently could see the benign market conditions come to an end.
Within his own strategy the FE Alpha Manager has taken a broadly neutral position to US equities – although it remains the second-largest geographical exposure after the UK – which is tilted towards growth stocks in the biotechnology and oil & gas exploration sectors.
Year-to-date the S&P 500 Oil & Gas Exploration & Production sub index has performed strongly, delivering a total return of 14.43 per cent – in sterling terms – as oil prices have rebounded this year.
Meanwhile, the S&P 500 Biotechnology index has risen by 9.48 per cent, slightly slower than the broad index, as the below chart shows.
Performance of sectors YTD
Source: FE Analytics
“The biotechnology and oil and gas exploration themes we are playing across portfolios are also seen as offering attractive potential relative to more buoyant parts of the US equity market,” the LF Heartwood Growth Multi Asset fund manager said.
“Our neutral stance reflects the supportive factors of US growth, the tax stimulus and strong corporate profits, which we believe should carry the market forward for the time being.
“However, we have an eye to high US equity market valuations and are watchful of the relative attractiveness of other markets as they lag this US outperformance.”
Yet, outside the US market there remain various economic and political challenges for markets, he said.
“Put simply, while the US has deserved its starring role in 2018, investors should not think of it as the only show in town,” said Stanes.
“Markets outside the US have been fretting about a number of possible issues and, should this continue, are likely to mask genuine investment potential in the process.
“For example, more accommodative policies and a depressed stock market have led us to believe in a growing opportunity in onshore Chinese equities, while cyclical underperformers in European stock markets make this a contrarian call.”
After a stand-out year for Europe in 2017, performance has been flat this year. The election of a eurosceptic coalition government in Italy introduced an element of political risk for some investors, despite corporate earnings remaining strong during the second quarter.
Donald Trump’s trade spats with allies and rivals alike have taken a toll on Chinese equities, meanwhile. The MSCI China index has lost 7.19 per cent during 2018 and fell significantly over the summer as the US administration announced a second round of tariffs and the potential for further levies.
“Ongoing Brexit concerns have dominated sterling, with the currency serving as a barometer for market sentiment, while European equity markets have been affected by issues in Turkey and in Italy,” he explained.
“The US-China trade dispute has held back Chinese equities – and has adversely impacted Asian markets more broadly – while a stronger US dollar has proven problematic for emerging market equities in general.”
Stanes took over management of the LF Heartwood Growth Multi Asset fund in June 2017. The fund – which invests across a range of asset classes – has an objective of delivering a capital growth return equivalent to the UK consumer price index (CPI) plus 4 per cent over a rolling five-year period.
During his tenure the fund has delivered a total return of 6.50 per cent compared with a rise of 7.19 per cent for the CPI plus 4 per cent benchmark, according to data from FE Analytics.
Performance of fund vs benchmark over 1yr
Source: FE Analytics
The fund has an ongoing charges figure (OCF) of 1.44 per cent.