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Eight charts to spook investors this Halloween

31 October 2018

Liontrust managers highlight several key issues in markets and how it has affected their portfolio positioning.

By Rob Langston,

News editor, FE Trustnet

The spectre of US rate rises, hellish global warming, an inflation fright and scary US valuations are several scenarios fund managers at Liontrust Asset Management are positioning for this Halloween.

Below, a range of Liontrust managers explain the ghastly challenges facing markets.

 

 

A “phantasmagorical” transformation has seen the bond market get riskier at the same time as it has got more expensive, said global fixed income manager David Roberts, as a long bull market has driven bond prices up and yields down.

The fund manager said both government and corporate issuers have locked in low interest rates by issuing longer-maturity debt, increasing duration.

“While rising duration has been fine as yields have fallen because it means greater capital gains for investors, it is a troubling feature for those, such as us, who believe benchmark bonds are now dangerously overvalued,” said the manager.

“If rising interest rates cause bonds to sell-off, the price drops could be pretty terrifying.”

 

 

Rising rates are also an issue causing sleepless nights for investors in emerging market equities, which along with heightened fears of a trade war between the US and China, has led to challenging times.

“Higher US interest rates are often seen as a risk to emerging markets due largely to the potential for capital outflows, as investors redirect funds towards the improving yields available in the US,” said Mark Williams, co-manager of the Liontrust Asia Income fund.

“We see a normalisation of interest rates as a longer-term positive and think that – as with the ‘taper tantrum’ of 2013 – investors’ ‘risk-off’ attitude will dissipate with time.”


 

 

“A mix of anti-smoking regulation, education and lifestyle changes has combined to depress cigarette consumption and inflict a seemingly mortal blow on the sector,” said Jamie Clark, manager of the £125.5m Liontrust Macro Equity Income fund.

“But the advent of nominally safer next generation products, vapes and ‘heat not burn’ has calmed investor anxieties and reanimated this corpse-like industry.”

However, Clark said that next-generation products have proved less popular with veteran smokers than tobacco firms anticipated, prompting some companies to revise sales guidance and weakening a key strand of the sector’s bull case.

 

 

“The world is getting warmer and scientists believe we need to reduce total greenhouse gas emissions by 50 per cent by 2050 to avoid runaway climate change,” said Mike Appleby of the sustainable investment equity team.

“This is an ambitious target and most people fail to grasp the magnitude of the shift required and the consequences of not making these changes.”

 

 

An increase in inflation could would be a horror show for growth investors, according to Liontrust European Income manager Olly Russ, who said it could push bond yields higher and see future growth discounted.

“The absolute level of inflation in Europe is still fairly subdued by historic standards, albeit at five-year highs but this is possibly of less significance than the direction of travel,” he said. “It is particularly notable that wage pressures are starting to build.

“If inflationary forces keep creeping up, so too will the chances of a shock for bond yields and out-and-out growth areas of the equity market.”


 

 

Investors should beware of scary valuations, said James Inglis-Jones, co-manager of the Liontrust Global Income fund.

“Markets are no longer in what we classify as an uptrend according to our quantitative indicators,” he explained. “It’s not yet clear whether an uptrend will reassert itself or markets will instead break to the downside.

“History tells us that if market action deteriorates further and a fully-fledged downtrend is triggered, the current valuation backdrop could have some troubling implications – both for the scale of any correction and the associated volatility.”

 

 
UK small-cap specialist Victoria Stevens – co-manager of the five FE Crown-rated Liontrust UK Smaller Companies fund – said there could be a potential bloodbath on the high street as consumers continue to shop online and e-retailers displace traditional bricks & mortar stores.

“We have long avoided high street retailers as their store networks don’t provide the barriers to competition necessary to qualify as an intangible asset under our investment process,” she said.

 

 

Lastly, multi-asset head John Husselbee warns that bloated central bank balance sheets could rise to the surface once more following a decade of quantitative easing.

“By buying up bonds in an effort to stimulate economic growth, policymakers have spent huge amounts of money racking up massive balance sheet assets, which at some point will need to be unwound,” he explained.

“Given the sheer amount of central bank balance sheet expansion, this particular well looks dry in the event of a serious downturn.”

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