With equities recovering, markets may well fall back as they consolidate their gains
We are looking to increase our equity exposure from our very underweight position, but are waiting for a suitable opportunity. With equities having recovered strongly from their March lows, we are of the opinion that markets will probably fall back a little as they consolidate their gains and encounter further profit disappointments. However, we will use such weakness as an opportunity to increase weightings in the US, Japan and Asia since we believe that rising global liquidity will enable equities to move higher over the remainder of this year. We also believe that the global liquidity cycle points to an economic and earnings recovery early next year and that markets will begin to discount this in the second half of 2001.
Having said that, we do not expect the major indices to rise strongly. Markets are caught between supportive central banks and rising global liquidity on the positive side and earnings disappointments on the negative side, which will continue for a little while. Thus, we believe that markets will remain unusually difficult and investment success will likely depend more critically than usual on individual stock selection. We certainly believe that active managers will outperform passive managers over this period and continue to bias our portfolios towards the value, small cap and long short areas.
In terms of country weightings, we continue to believe that the US will do well, since this is the source of most of the liquidity. We are also taking a positive view on Japan for the first time in many years. This is not so much due to a belief that the new prime minister will actually succeed in his policies ' although we do believe that he has a chance, but more because the market is currently discounting all of the bad news and any positive surprise could drive the market higher. We remain underweight in Europe largely because we feel the European economy will underperform the US and also because of our negative stance on the euro.
As far as Asia is concerned, we expect the region to benefit from a stronger world economy coupled with low interest rates and inflation. In addition, some of the US liquidity is likely to flow into the region which can have a dramatic effect on raising prices in relatively small and illiquid markets.
Turning to bonds, we will use any short-term strength in the bond market as an opportunity to reduce our weightings. Proceeds from our bond sales will be used to purchase equities. Our rationale for this is quite simply that the global reflationary policy actively pursued by the Fed and other central banks is good for equities, but not good for bonds in the short term. We recognise that deflation is still the main issue globally and do not see inflation as a major threat at present. However, we appreciate that most of the bond gains are probably over for this particular business cycle and any short-term pickup in inflation will be damaging.
Although we are positive on the outlook for equities for the second half of this year and beyond, as already stated we also believe that it will remain a difficult stock-picking environment and we would expect volatility to remain high. In addition, the continued deflationary economic environment will necessitate that interest rates and inflation stay low for the foreseeable future. Thus, investors may well have to get used to lower returns from traditional assets such as bonds and equities than they have enjoyed over the past decade.
Overall, we feel positive about the prospects for global asset markets and believe that investors will enjoy positive returns over the remainder of this year and into 2002. However, asset allocation and stock selection, together with the appropriate hedge fund strategies, will be the keys to investment success in our opinion.
We have long been advocates of fund of funds investing because in our opinion, a carefully constructed portfolio of equity funds can offer superior consistency of performance and risk-adjusted returns when compared to a portfolio of individual stocks. It also allows a high degree of diversification, in terms of both a large number of underlying stocks and to a range of investment styles and strategies. Thus, in this way, a portfolio of funds can both enhance investment performance and deliver added alpha above the market, while also reducing risk through a broader diversification of assets, strategies and styles.
The chart shows the current asset allocation and performance of one of our multi-manager funds ' the Hirzel House Sterling Balanced Fund.
The fund was launched in March 2000, together with five other sub-funds, as a separate cell of the Collins Stewart PCC Limited, an open-ended investment scheme authorised as a Guernsey Class B Scheme. The fund is currently in the top performing quartile of the Micropal peer group.
Our investment process is built on four key areas, where we feel we can add value for our clients:
Global asset allocation.
Fixed interest management.
Multi-manager equity invest- ment.
We believe that our investment process is different from some of our competitors and peers in many of these four key areas. For example, we actively manage risk as well as return as part of our asset allocation strategy and are not tied to market benchmarks when allocating assets. This means that at times we will move to a very underweight equity position compared to the benchmark when we perceive the risks of equity market weakness to be high.
Second, when managing the fixed interest portion of our portfolios, our primary concern for clients where there is no income requirement is to ensure that our bond content beats cash on a regular basis, and not necessarily just the bond market benchmark.
Third, we are strong believers in the multi-manager method of investing in equities. Not only do we believe that investing with whom we consider to be the best equity stock pickers in the world enables us to deliver superior returns for our clients, but it also enables us to manage risk and volatility.
Another major factor we believe differentiates us from our peers is that we actively include alternative investment managers, especially hedge funds, in our portfolios. For example, we would include long short equity managers alongside long-only managers and will also invest in market neutral or non-correlated hedge fund strategies. In this way we invest with managers whom we believe will give us the required return profile over the long term.
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Spent 13 years at JPMAM
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