Latest manager’s update

The manager’s report covers the impact of market changes on the portfolio and short-term performance of the fund.

31st March 2024

Executive Summary

Global markets remained remarkably strong this quarter with the US continuing to lead the way on the back of strong economic performance and the ongoing enthusiasm for Artificial Intelligence. Expectations of interest rate cuts were high at the start of the quarter but were tempered by an unexpected increase in US inflation with the market now anticipating only two cuts in 2024. This change created a challenging environment for bonds with government bond yields rising across the board although corporate bonds performed markedly better.

When everything seems to be going well and markets look to only be moving upwards, it normally pays to consider the scenarios that could cause this serenity to come to an abrupt end. We typically like to divide these potential risks into four buckets.

1. Macro risks
Our main concern here is a change in the inflation and rate outlook. The recent increase in US inflation may well signal that the rump of inflationary pressure that investors had thought was falling away will actually be more difficult to shift. This may lead to a delay in rate cuts which may ultimately have a negative impact on the US economy if monetary policy remains too restrictive for too long. However, whilst investors had got ahead of themselves in expecting a linear inflation decline, a small uptick in inflation does not mean the general story is suddenly unravelling. The US economy is showing few signs of strain under the current level of rates and it may well be prudent for the Fed to hold fire on cuts until the picture becomes more clear in the coming months.

2. Secular risks
Government debt levels have risen significantly across developed markets since the Global Financial Crisis (GFC). There will clearly come a point when markets become concerned about government debt levels but we believe this would take several significant policy missteps for the US to lose the market’s confidence. Increased market concentration in the US, and the Magnificent Seven (M7) in particular, is also a concern but, unlike in the last technology bubble, we see strong fundamentals backing many of the companies this time albeit valuations are undoubtedly looking higher.

3. Geopolitical risks
For the last couple of decades we haven’t had to worry significantly about geopolitics but conflicts between Russia/Ukraine and Israel/Middle East have brought it back into focus. We view the tension between the US and China as far more significant given their much larger role in the global economy and it is likely that this will be a prolonged tussle between the reigning world power and its main challenger. This leads us to want a more diversified portfolio but also a sharp eye for any potential investment opportunities caused by dislocations.

4. Tail-risks
Generally it is the event that you don’t predict that has the biggest impact. Our biggest concern is the legacy of ultra-low interest rates, with the real estate and private equity sectors seemingly the most at risk following rapid expansions over the last decade. While some distress may be seen in both, we don’t see any imminent signs of catastrophic collapse and a shake out of both industries may be no bad thing with the best operators likely to come out stronger.

While we do not expect all, or possibly any, of these risks to come to pass, clearly identifying the warning signs can help an investor to be more nimble with their portfolio positioning. While conscious of the risks, we do not see anything that warrants us changing our current course. We continue to advocate being broadly fully invested predominantly in equity markets as, for a long-term investor, being out of markets can often be more painful than any volatility experienced on the journey.

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