Look back in wonder

Our experts seem agreed on two things about 2014: the year did not pan out as expected, and geopolitics played a crucial part

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Committee chairman, Adam Lewis, editor, Fund Strategy

And so it comes to pass that we reach the last Investment Committee of 2014 and, as is customary, a perfect time to review what has happened over the past 12 months.

Before we start this review, let’s remember how the year started. 2013 was the year of the developed markets, with the S&P 500 index up some 30 per cent, while emerging markets had another tough year.

In the US, this naturally led to questions about how stretched valuations looked, and in the first committee review of the year the consensus of the panel was that the US would struggle to repeat the trick of last year, especially after the Fed began its tempering programme in January.

Despite these concerns, year-to-date the S&P 500 is up some 16 per cent versus the FTSE All-Share gain of 2 per cent.

Emerging markets staged a comeback also, with the MSCI Emerging Markets index up more than 6 per cent year-to-date (compared with a 2.3 per cent drop
in 2013).

Given the run of performance from the US and UK, especially in the first half of the year, there has been the view that Europe and Japan offered better in the second half. Is this a view any of you shared, or were you put off by the geopolitical concerns that dogged much of the year?

Finally, what of fixed income – the asset class that continues to confound the experts with its run of returns?

Indeed, over 10 months to the end of October (numbers for the year are not yet available) the top-performing sector is UK Index Linked Gilts. In addition, over the same time period, only two equity sectors placed in the top five. In this environment, which assets have the panel enjoyed the most success in 2014?

To help guide us through the year we are joined in this final issue of 2014 by Hermes’ chief economist, Neil Williams.

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The independent view – Neil Williams, chief economist, Hermes Investment Management

While 2014 was all about preserving ‘green shoots’ while trying to ‘kick the drug’ of QE, there is a lot more work to be done.

Seven years after the first traces of crisis, and we have only a three-speed recovery. In the fast lane are the US, Canada, NZ, and Australia. In the middle, the UK’s GDP is 4 per cent higher than pre-crisis. But, in the slow lane, Japan and the eurozone are barely back to ‘square one’.

Yet, over the same period, wages have not outpaced inflation. US GDP may be 8 per cent up on the deal, but its CPI has risen 17 per cent, and wages 17 per cent. Worse still, the UK’s RPI is 23 per cent higher, but average wages up 12 per cent. Real-wage growth seems the missing link everywhere.

And this after six years of QE, totalling $4.4trn in the US, £375bn in the UK, and an amount by the Bank of Japan that, at 30 per cent, is set to beat the US Fed and Bank of England’s ownership of their bond markets. The three now have too much ‘skin in the game’ to take us off-guard.

As a result, expect no more than ‘baby steps’ toward the policy exits. My macro outlook for 2015 is based on three core beliefs.

First, not only will US and UK real policy rates stay negative to 2017, but I believe ‘peak’ rates, when they come, will be much lower than we are used to.

Second, there’s no ‘free lunch’. Lower peak rates will be delivered by central banks pulling on the second lever – selling back after 2015 some of the bonds they bought under QE.

Third, markets are at last focussing on the right thing – a eurozone whose monetary union still lacks sufficient fiscal union. The ECB’s private asset purchases may help, but more potent will be the ‘bazooka’ of QE sovereign once global yields are rising.

In short, the labour market will be critical to completing the recovery ‘jigsaw’. The issue for central banks in 2015 is whether to be proactive on rate hikes, or wait till the last piece (real-wage growth) has slotted in. We suspect they will do the latter.

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Mike Deverell, investment manager, Equilibrium Asset Management

This year’s investment decisions have by and large worked pretty well, in particular our overweight to property. However, a few positions looked dodgy for a while. Within the UK, our preference for smaller companies was working against us in April and May. During this period the large cap index rose sharply whilst small and mid-caps declined. Luckily our funds have outperformed since then falling less and bouncing quicker during the recent market turbulence. Our call to top up during the dip also worked well, and some of those gains have already been banked. Our preference for Japan relative to the US and Europe has been interesting. Europe has underperformed whilst the US has thrived meaning overall we have pretty much broken even. However, with the recent rally in Japan this is getting better all the time. The one issue we really didn’t see coming was the rally in high duration government and corporate bonds – those bonds more sensitive to changes in interest rate expectations. We hold low duration funds to guard against rate rises and so this worked against us. We don’t believe now is the time to change that position as we think rates will rise in late 2015.

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Jonathan Davis, managing director, Jonathan Davis Wealth Management

2014 has been a mildly positive year for our clients (as at 11 November) while the risks to the global economy and shares, in our view, have soared.  The bull cycle is now over five and a half years old. At the beginning of the year, according to RBS, three out of 34 OECD countries were in deflation.  By the beginning of November it had risen to 13. Thus, we have been delighted with our strongly bullish view on the US dollar and US Treasuries.  The returns have been handsome. Our specific commodities, bought after huge falls over the last few years (bought at circa 20 cents on the dollar), have been up and down and appear still to be in a bottoming process, which is taking a long time.  We remain very bullish on a medium to long term. Although China’s economy appears to be slowing rapidly (strange phrase) the Shanghai stockmarket looks to be ending its multi-year bear market.  If so this could be very bullish for our emerging markets’ holdings, which we added at the end of 2013. Western shares have been lacklustre at best and we have been cool on these all year. Our multi asset (absolute returns, in theory) holdings (insurance funds as we call them) have not been helpful, except for Premier Defensive. I leave you with one thought going into 2015: Is the West ‘Turning Japanese’?  The evidence is building that we are.

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James Calder, head of resaerch, City Asset Management

2014 should be remembered as one of those years where results did not live up to expectations. Coming off the back of a strong 2013 for equity markets there was a degree of retrenching despite some markets hitting new highs. The recurring influence of unexpected events took its toll. A combination of the Ukraine, Russian sanctions, ISIS, Ebola and a European slow down (to name a few) led to a quarter three sell off in markets. Many would argue that this sell off was overdue and blew the froth off markets. However that is not say that there were not some points of excellence along the way with our clients benefitting from holding a mix of assets. The following holdings, year-to-date, have returned very respectable double-digit performance; Boussard & Gavaudan the fund of hedge funds, the First State Global Listed Infrastructure fund and the Twenty-four Income investment trust. Looking forward we remain cautiously optimistic that the US has achieved escape velocity and the UK has entered a new period of GDP growth. However we would caution that growth expectations for the remainder of this cycle will be more muted than has been witnessed in previous cycles.

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Tim Cockerill, head of collectives research, Rowan Dartington

For investors 2014 has been a year of surprises. Politics globally have played a big part along with the economic numbers which have been watched closely. The year started optimistically but with muted expectations for equity returns given how strong 2013 had been. Yet the S&P 500 has delivered over 16 per cent (ytd), whilst the FTSE 100 is up less than 2 per cent, which is quite a surprise given the UK normally follows the US. Bonds had been written off by investors – the improving economies of the West meant interest rate rises were close – bad news for bonds.  But here at the end of the year the FTSE Gilt All Stock index is up over 9 per cent, not an outcome many had foreseen. As for those elusive interest rate rises the jury is still out as to when they happen. Active managers had a tough year; the growth to value switch which started in April was sharp and damaged performance for many, so moving to protect portfolios was necessary when it became clear it wasn’t a blip. Asia has been our best active position – we increased exposure early in the year following the mini emerging/Asia crisis when currencies went haywire, since when its’ paid off nicely, helped by the Indian election – politics once again playing its part.

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John Husselbee, head of multi asset, Liontrust

The script drafted for most investors at the beginning of the year talked of steady global economic growth, rising government bond yields and modest equity returns. Several months passed before tangible signs that the US economy had thawed after its winter freeze. Meanwhile, on this side of the pond the eurozone was struggling to find growth with increasing geopolitical tensions in Ukraine acting as a further restraint. Fearing deflation rather than a euro break up, investors drove bond yields sharply down in both the core and peripheral markets, with Spanish 10 year debt yields trading below the equivalent gilts. This, coupled with the expectation that interest rate normalisation would be further delayed, help to support government yields both here and the US. Some of the best returns for asset allocators last year came from being overweight in fixed interest assets, an asset class for most investors that remains wildly overpriced. Equity allocation was broadly neutral for the first half of the year, until the divergence in the US and Europe in terms of future economic prospects. The dollar strengthened, the S&P 500 Index continued its ascent to new highs as the euro weakened and equity prices fell. The question now is whether to stick with the momentum trades or pile into value.

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Lee Robertson, CEO, Investment Quorum

To date, 2014 has been a year of markets reacting to geo-political risks and delivering lots of volatility.  The Ukraine – Russia border conflict, ISIS and middle east conflict and a widely reported softening of growth figures in China leading to some market contagion particularly in emerging markets.  The withdrawal of QE, particularly in the US, has led to investors having to work hard to read the markets.  As I write this however US markets look much happier based on improving confidence and economic data. However, despite this rather ragged set of data we have remained neutral to overweight equities, particularly in the US and the UK and our clients have been somewhat rewarded, albeit with the occasional bumps in the road.  We have also benefitted more than we thought we would from fixed income markets which surprised us but corporate and high yield bonds have held up delivering better than hoped for returns as has our holdings in property. We have continued to invest in Japan and their proactivity has brought some rewards, on a tactical basis at least, for investors. Emerging markets have disappointed, South America has been pretty awful and commodities have all largely struggled.   All in all not a fantastic year for the efforts having to be made and risks taken on behalf of clients.