Investment News & Views

Quarterly Performance Review and Update
October 2020

Quarterly Market Review

Most equity markets were weak in September as shown in Table 1 due mainly to concerns about a second wave of Covid-19 infections and the potential this creates for further lockdowns with a consequent negative impact on the economy. The exception to this was the Nikkei 225 which posted modest gains. The US markets experienced the biggest falls in September wiping out much of the historically large gains made in August. Europe, the UK and Emerging Market indices also posted a negative return in September.

Month FTSE100 FTSE 250 Nikkei 225 Euro Stoxx 50 S&P 500 NASDAQ MSCI EM
Sep 20 -1.63 -2.66 0.20 -2.41 -3.92 -5.16 -1.77
Aug 20 1.12 5.05 6.59 3.09 7.01 9.59 2.09
Jul 20 -4.23 -1.49 -1.86 -1.68 4.98 5.82 7.78

Table 1: Percentage returns for different markets by month for Q3, 2020

This contrasts with returns achieved in August where most markets achieved high returns amid hopes of a vaccine for Covid-19, signs of an economic recovery and ongoing economic support. In the US, the Federal Reserve confirmed its readiness to offer further support, while increasing its flexibility to do so by adjusting how it targets inflation. This helped the S&P 500 to post its best August performance in over 30 years. The NASDAQ posted an even better performance of 9.59% driven by the growth of technology stocks.

In August, the Japanese equity market quickly regained the ground lost at the end of July, then traded sideways for the rest of the month to end 6.6% higher. The resignation of Prime Minister Abe on the 28th August did not lead to a drop in stock prices. Instead, prices have remained stable over September following the replacement of Abe by Yoshihide Suga in mid-September.

The UK markets showed gains over August as optimism regarding lower infection rates rose and economic activity picked up. Mid-cap companies showed the greatest performance as the FTSE 250 rose just over 5% compared to 1.12% for the FTSE 100.

In Europe, stock markets continued to benefit from the European Council agreement in July to establish a €750 billion European Union (EU) recovery fund, which has reassured investors about the future of the EU.

Finally, many emerging market economies in August and September continued to experience growth in new Covid-19 cases, particularly in India, Indonesia and many Latin American countries. Stock market performance across the EM sector (represented by the MSCI EM index) though was positive in August, largely boosted by good economic data from China.

The poor performance across most markets in September may be due to a so called ‘September effect’ anomaly. Some commentators consider that the negative effect on markets is attributable to a seasonal behavioural bias as investors cash in gains made over the summer. Another potential reason for this anomaly could be that most mutual funds cash in their holdings to harvest tax losses. While a further explanation could be that the summer months usually have lightly traded volumes as a good number of investors take vacation time. In September, these investors exit positions they had been planning on selling. When this occurs, the market experiences increased selling pressure and, thus, an overall decline. This effect is supported by evidence that the average return in September for the S&P 500 since 1950 has been negative (in contrast to most other months where the average return is positive or zero). It is also the case that historically, volatility in the stock market is elevated in the months leading up to an election. This is logical, as markets dislike uncertainty. With the combination of Covid-19, President Trump’s recent diagnosis, and the uncertainty about the outcome of the US election, it looks like the wild swings in markets are set to continue for some months to come.

Guardian Trend-Following Update

As noted above, over the past three months, most markets have trended either slightly downward or have been relatively stagnant with large continued swings in prices and increased volatility. The exceptions to this have been the US, emerging markets and Japan.

Markets with large amount of volatility and without any real trend can be difficult and stressful for anyone to follow. We have therefore modified our trend-following signals to be more appropriate for this time since the drop in prices in March.

At the beginning of August, we completed a fund review, moving to funds which had stronger performance, removing funds which were not performing as well, and selecting a few funds which specifically followed developed indices. We also at this time reduced our equity exposure to the UK and Japan based on the trend-following signals.

Although initially there was a short-lived bounce back in the UK, the trend since June has been downward. We are also aware of the continuing threat and increasing uncertainty to the UK economy from a second coronavirus wave as well as the towering Brexit deadline.

The UK economy has been supported since April by furlough schemes, quantitative easing, and the eat-out-to-help-out campaign. Unfortunately, these incentives and the extra support cannot continue indefinitely, and further measures introduced by Rishi Sunak have not been as generous.
From day to day, moving averages, returns and shorter trends can vary greatly. Our new crossovers continue to signal a partial movement out of the UK. We believe that given both the trends and uncertainty in the UK this reduction continues to be a prudent decision at this time.

As noted above, the Japanese economy also peaked in June and moved sideways until mid-August. We decided to resume our 100% equity allocation to Japan on the 15th of September. At our last investment committee meeting, we increased this allocation to also include some of the reduced UK equity allocation. This brings the Japanese equity allocation on par with the European equity allocation. Although there has still been an increased amount of volatility, as with all markets, the Japanese market is one of the few markets with a continued upward trend.

For our bond allocation, we decided to shorten our bond duration risk at the beginning of September. We have minimised our longer-term bond and gilt exposure, an instead focused our allocation on less risky, shorter bond durations for both our general allocation and our basket of safer investments when out of equities. Shorter bond durations will have more of a stabilising influence with less downward as well as upward movement.

The Guardian portfolio returns continue to outperform their benchmarks for most of the portfolios over most of the cumulative performance periods. The portfolios do underperform over 6-months, mainly because we minimised the original losses and were cautious when re-entering the equity markets allowing our 1-year return to outperform across almost all the portfolios. The volatility and drawdown numbers continue to be greatly reduced compared to the benchmarks with much higher risk adjusted returns as shown through the Sharpe and Sortino ratios.

Our asset allocation is poised to continue to provide returns while we are also regularly running our trend-following algorithms to be ready to reduce these allocations if necessary. We continue to be vigilant in these volatile times to help protect and grow existing investments.

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Guardian portfolios are designed to provide attractive and consistent returns, while aiming to minimise volatility, drawdown, sequence of returns risk and cost through the use of trend-following strategies.

Green Path Portfolios

With the review of the funds within our portfolios, we also completed a review of our Green Path funds in August. We modified several of the funds to remove funds which were not performing well and to increase the number of actively managed ESG funds we are holding. We have also included the iShares Global Clean Energy Fund.

The Green Path portfolios have continued to outperform across all time periods for the Balanced portfolio, up to six months for the Strategic portfolio, and for almost all periods up to 1 year for the Cautious portfolio with a slight underperformance over 6 months.

With increased awareness and understanding of ESG criteria, we believe that these portfolios will continue to be attractive investments and the underlying funds will continue to grow.

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Green Path ESG portfolios select investments that support the wellbeing of our environment and society. Green Path portfolios do not use trend-following and are long-only investments.

Heritage Portfolios

The Heritage portfolios have recovered completely across all portfolios and all cumulative performance periods. In the month of August, we adjusted a few of our Heritage funds and modified our bond fund allocation. In September, we reduced the duration risk for our bond allocation similarly to the changes which we decided to pursue in our Guardian and Foundation ranges. These changes were direct asset switches where possible to negate trading costs associated with rebalancing investment trusts.

As markets recover, we expect these portfolios to continue to outperform across all benchmarks.

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Heritage portfolios use investment trusts to provide superior returns and consistent dividends over longer investment horizons. Heritage portfolios offer greater diversification and a broader range of holdings. Due to the nature of investment trusts these portfolios are managed on a long only basis and do not use trend-following.

  • Wednesday, October 14, 2020

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Tomiko Evans

Chief Investment Officer

Tomiko is Chief Investment Officer of Crossing Point and holds the IMC qualification for Investment Management.