Noel O'Halloran 'On the Wings' article, International Adviser April 2015

By KleinWB, Monday, 18th May 2015 | 0 comments

Noel O’Halloran, CIO of KBI Global Investors got off to a flying start as an aeronautical engineer. The scientific approach this experience engendered has paid off in his current role.  By Mark Battersby

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Investment Outlook - Q4 2018

Oct-12-2018
By klein(WB)  | 0 comments

Ten years on from the Global Financial Crisis, the global bull market continues and is now one of the longest bull markets in history with one constant being investors’ constant penchant to be ‘worried’ about something! For ten years the financial headlines have tended to be on the gloomy side and 2018 is proving no exception, yet the market continues to climb apart from some recent days in October! 2018 is proving to be a year which is resulting in material performance divergence between the ‘haves and have-nots’.  We can see a large divergence between the strength of the US equity market and the weakness in Europe and Emerging Markets in particular.  The relatively poor performance of Europe and EM reflects some slowdown in growth, as well as concerns over US trade policy and European politics, while the US market has sailed on merrily.

At KBIGI, our central scenario is constructive, and we forecast a more balanced and positive outlook for the global economy into 2019. The US economy will continue to grow strongly above trend, and European economy will grow at or above trend – though at a somewhat slower pace than earlier this year. We expect that Emerging Markets in general will be solid – while there may be ‘accidents’ in particular, smaller, emerging market economies, as is fairly typical. In the US, the Federal Reserve will continue to raise its key interest rate, with inflation in the world economy generally trending higher but not at an alarming rate.

Of course, the greatest risk to this scenario would be a material escalation of the trade war between the US and China.

For equity investors what is reassuring is to point out that fundamentals of earnings growth, dividend growth, corporate activity etc have been strong during 2018 and certainly not as unbalanced as divergent market returns suggest. From our analysis, it is predominantly investor sentiment that has driven this divergence. At this juncture the US is ‘priced for perfection’ while others such as Europe or Emerging Markets increasingly are priced for a quite pessimistic scenario.

Our base scenario is not bearish on the US equity market, as we expect further gains in equities over coming quarters.  But we do expect to see better returns outside the US. Relative valuations, positive earnings growth and undervalued currencies are key fundamental supports to this with improved sentiment the most likely catalyst for developed markets, while for emerging markets a clear resolution of trade wars will be required.

Looking to the short-term, there are a number of key events or issues in the coming weeks that bear close watching:

  • a final decision on the nature of the UK’s exit from the EU
  • results of the US mid-term elections in November
  • progress – or not – in trade talks between China and the US
  • corporate profit growth during the forthcoming earnings season
  • the outcome from Italian budgetary negotiations

We will continue to monitor these and other issues but for now we remain reasonably constructive on equity markets though we continue to favour non-US markets.  We are encouraged by the fact that so many market participants worry about when this economic cycle will end – this itself shows that markets are not ignoring important risks. 

Asset class outlook: Equities

Our central scenario is as outlined. As per our Q3 update, a material deterioration in US-Sino relations on trade remains the largest equity market risk event we believe.

Apart from relative attractiveness of many non-US developed and Emerging Market markets the same can be said across industry sectors and investment styles. For some time, we have cautioned on the valuation levels of growth and momentum driven styles and highlight the attractiveness of many more value-oriented sectors. Growth has been driven to extreme levels of outperformance by the cheerleading and momentum investing for FAANG stocks in the US and similar names in other markets such as Emerging Markets. Many value-oriented stocks and sectors are much more attractive investments we believe. For these names, stock prices have not reflected the strong underlying fundamentals of earnings, cash flow and dividend growth. For non-growth/momentum stocks poor sentiment rather than underlying strong fundamentals has been the winner, we expect this to reverse.

We are ever conscious that we are at the mature stages of a long bull market and as such when building equity portfolios downside protection is more important than ever. To that end we continue to emphasize quality stocks in our portfolios and focus consistently on items such as not owning:

-Companies carrying excessive debt on their balance sheets

-Excesses of valuation e.g. certain technology stocks

-Companies funded by more expensive corporate credit

 Asset class outlook: Bonds

Government bonds should continue to be avoided as we believe they are fundamentally overvalued and remain vulnerable. An unexpected recession would certainly support government bonds

To conclude, the fundamentals remain supportive for further gains in global equity markets but absolute returns from here should be more modest as we are at the mature stage of a bull market. Within markets there is an extreme positioning between ‘haves and have-nots’ and this is something we expect to reverse. The potential for a trade war is the biggest risk.

 

After almost a decade of a relentless equity bull market, global markets are struggling to make any gains so far during 2018. We have for some time highlighted that a transition from a central bank liquidity driven to an earnings driven market would be tricky and likely volatile and indeed this has been the case. Markets have been further restrained with additional uncertainty arising from trade tensions continuously emanating from the USA.

Our central scenario remains that we are in a synchronised growth phase for the global economy and that this will last for a few more years. We do not believe we are at the end of the current economic cycle but do acknowledge that any risks to this view are skewed more to the downside, in particular factoring in the risk of trade wars. Despite strong earnings growth and resilient prospects for further growth, investors have over recent months been more risk adverse with markets remaining in the doldrums.

We expect further upside for equity markets over the next 12-18 months but equally highlight that there are short term challenges and markets may find it difficult to make much progress over coming months:

  • Geopolitics, especially trade wars. A full blown trade war, while not our central expectation would be a major negative with nobody a winner. Emerging markets would be in focus.
  • The politics of Brexit and also some political instability in Germany and Italy. US mid-term elections will be a focus also.
  • Any signs of further increases in inflation will raise concerns about further interest rate rises and higher bond yields.
  • The fact that the abundant liquidity of recent years will continue to diminish with quantitative tightening ongoing by the FED and the end of  quantitative easing forthcoming by the ECB.

In summary, a positive medium term outlook but reasons to expect little progress in coming months.

Asset class outlook: Equities

Our central scenario is as outlined. Absent a material trade war (as distinct to fears of same) we don’t expect an imminent material correction in equity markets nor a bear market.

The equity bull market has been strongly and increasingly  driven by a narrow list of growth and momentum stocks and sectors. The relative valuation argument has not mattered during this phase with growth trouncing value. We have seen this before and not least during the technology bubble of the early 2000’s.We believe that as confidence is restored in a synchronized global economic cycle, that a rotation within the equity market and more towards more economically sensitive sectors and style stocks will occur. This should lead the next upward phase of the equity market. It is also critical that companies continue to delivering earnings and dividend growth for this to happen. EM should benefit in this scenario.

A theme of ours over recent quarters in portfolio construction has been and will continue to be one of avoiding what we believe to be excesses that may have lots of associated downside potential such as:

  • Companies carrying excessive debt on their balance sheets
  • Excesses of valuation e.g. certain technology stocks
  • Companies funded by more expensive corporate credit

Asset class outlook: Bonds

Government bonds should be avoided as we believe they are fundamentally overvalued and remain vulnerable. An unexpected recession would certainly support government bonds

To conclude, the fundamentals remain supportive for further gains in global equity markets but expect progress to be slow. A switch from liquidity to stronger earnings growth is where we will focus our stock picking and we stick with our view of rotation within the market. The potential for a trade war is the biggest risk

 

Global equity investors entered 2018 seemingly happier than at any stage since the bull market began during the first quarter of 2009. As investors, we are generally happier when the consensus is worried and we highlighted some concern about this very point at the beginning of the year. Now, after a volatile and tricky first quarter, investors are generally more concerned again with many geopolitical concerns dominating the headlines and markets exhibiting more volatility than they have for many years.

From a fundamental perspective, the global economy is experiencing a strong synchronised growth led by the US and with Europe hot on its heels. Despite a tricky first quarter for equities and bonds, we remain constructive for coming quarters. Global equity valuations, after the recent setback, are closer to fair value and supported by strong and broadening bottom-up earnings growth. This will be THE driver of equity returns we believe, with central banks now firmly in the back seat. Global earnings (boosted by large US tax cuts) are growing at a healthy pace.

While generally positive in our outlook we do expect that the next coming quarters for equity markets will be more volatile. There are many reasons to expect such volatility to remain:

• Geopolitics, including trade wars, Brexit, North Korea etc.

• We are later stage in the economic cycle so markets are much more sensitive to higher inflation data and stronger economic data.

• The fact that the abundant liquidity of recent years will diminish as central banks tighten policy and remove quantitative easing.

• It is also reasonable to anticipate a phase where perhaps economic growth slows for a quarter or two.

In summary, a positive outlook but expect more moderate returns than recent years.

Asset class outlook: Equities

Our central scenario is as outlined. While we do expect equity volatility to be more of a feature we do not expect an imminent material correction in equity markets nor a bear market.

We are in a new phase for the equity market cycle. The previous strong phase was best characterised by abundant liquidity and scarce economic growth, which led to the equity market itself rewarding a very narrow list of technology names-the FANG’s. The phase we are now in, should best be characterised as having growth that is expanding and liquidity that is shrinking. The consequences of this for us as investors is that we expect to see a more meaningful rotation from very expensive growth-type technology stocks to a broader more value-focused leadership. Indeed the technology sector itself may also be more vulnerable to regulatory oversight which is topical at present.

Later in the cycle we look increasingly to avoid excesses:

- Increased corporate leverage (funding share buybacks)

- Excesses of valuation within markets e.g. technology stocks

- Companies funded by more expensive corporate credit

- Speculative crazes e.g. bitcoin

Asset class outlook: Bonds

Government bonds should be avoided as we believe they are fundamentally overvalued and vulnerable . If incorrect in our view, it will be for example a political crisis or unexpected slowdown in growth which will be bond market positive.

To conclude, the fundamentals remain supportive for further gains in global equity markets but expect a trickier and more volatile path. Investors are less bullish today which we like. A switch from liquidity to stronger earnings growth is where we will focus our stock picking. We do anticipate more rapid style leadership change as the year progresses.

Noel O’Halloran
Chief Investment Officer

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. KBI Global Investors (North America) Ltd is a registered investment adviser with the SEC and regulated by the Central Bank of Ireland. The views expressed in this document are expressions of opinion only and should not be construed as investment advice.

It’s not long since we wrote to you with our 2018 outlook, but already global equity markets have experienced a roller-coaster from reaching all-time highs barely a week ago to the dramatic pullback of recent days that is hitting the headlines. As such, we felt it appropriate to provide you with a summary perspective.

 

Up to recent days the US stock market had set a 90-year record for the longest period without experiencing a 5% or more setback, so to ourselves and many others a setback was not a surprise and was clearly overdue. The only question was always, what would cause it and when would it occur? To put this in context today (February 6th) equity markets are in or around where we started 2018.

Over recent days equity markets have tumbled and volatility has surged, sparked – apparently -  by concerns over rising US wage inflation and subsequent rising bond yields. The first phase of the sell-off in many ways was completely understandable, reacting to stronger economic fundamentals and was merely unwinding some of the equity markets euphoric gains of the first weeks of January. In our beginning of year outlook piece we highlighted the vulnerability of bond markets to higher inflation, so we were not particularly surprised by this development. Over recent days we have endured arguably a second phase of the drawdown which is very different and predominantly an equity event (with bond markets rallying over the past 24 hours). The cause is largely technical and the focus (and blame) is being squarely focused on the fact that the dramatic rise in equity volatility of recent days has impacted many popular equity strategies of recent years such as ‘Risk Parity’ or ‘Target control Volatility’ strategies that target a certain volatility level. These have had to react to the massive spike in market volatility which forced them to sell hundreds of billions of equities to ‘square up’ and rebalance to the target volatility objective of the strategy. While we appreciate this is very technical, it hopefully explains why the move appears to be so dramatic, and to put this in context the volatility spike of recent days was greater than that experienced during the Lehman/Bear Sterns collapses, the US Government debt downgrade in 2011, the Brexit referendum result or the Flash Crash of 2010. This will likely take a few more days to settle down.

For your portfolios we remain very confident in the fundamental supports of strong economic and (in particular) earnings growth. We do expect inflation to pick up but importantly we do not forecast inflation rising to an “overheating” level this year such that it is a material challenge to central banks and therefore equity markets. As such, we do see this current ‘panic’ as a meaningful correction but not the end of the bull market. It is also a reminder that we are in the later stages of this extended economic cycle and that any excesses in the markets, such as excessive valuations, high debt levels, mispriced volatility etc are vulnerable to being exposed and punished by markets. We are ever mindful of this when constructing your portfolios and continue to emphasise better growth, better value and better quality when constructing your portfolio(s).

It is very early days in this correction to draw any discernible conclusions as to where safety is to be found within equity markets as to date the sell-off appears to be indiscriminate and those who are selling are primarily targeting liquidity rather than any particular sector and style preference. Over coming days and weeks this should become more evident and we in the meantime will continue to prudently manage your portfolios focusing on the strong fundamentals we currently like.

Noel O’Halloran
Chief Investment Officer

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. KBI Global Investors (North America) Ltd is a registered investment adviser with the SEC and regulated by the Central Bank of Ireland. The views expressed in this document are expressions of opinion only and should not be construed as investment advice.

 

It’s not long since we wrote to you with our 2018 outlook, but already global equity markets have experienced a roller-coaster from reaching all-time highs barely a week ago to the dramatic pullback of recent days that is hitting the headlines. As such, we felt it appropriate to provide you with a summary perspective.

Up to recent days the US stock market had set a 90-year record for the longest period without experiencing a 5% or more setback, so to ourselves and many others a setback was not a surprise and was clearly overdue. The only question was always, what would cause it and when would it occur? To put this in context today (February 6th) equity markets are in or around where we started 2018.
 

Over recent days equity markets have tumbled and volatility has surged, sparked – apparently -  by concerns over rising US wage inflation and subsequent rising bond yields. The first phase of the sell-off in many ways was completely understandable, reacting to stronger economic fundamentals and was merely unwinding some of the equity markets euphoric gains of the first weeks of January. In our beginning of year outlook piece we highlighted the vulnerability of bond markets to higher inflation, so we were not particularly surprised by this development. Over recent days we have endured arguably a second phase of the drawdown which is very different and predominantly an equity event (with bond markets rallying over the past 24 hours). The cause is largely technical and the focus (and blame) is being squarely focused on the fact that the dramatic rise in equity volatility of recent days has impacted many popular equity strategies of recent years such as ‘Risk Parity’ or ‘Target control Volatility’ strategies that target a certain volatility level. These have had to react to the massive spike in market volatility which forced them to sell hundreds of billions of equities to ‘square up’ and rebalance to the target volatility objective of the strategy. While we appreciate this is very technical, it hopefully explains why the move appears to be so dramatic, and to put this in context the volatility spike of recent days was greater than that experienced during the Lehman/Bear Sterns collapses, the US Government debt downgrade in 2011, the Brexit referendum result or the Flash Crash of 2010. This will likely take a few more days to settle down.

For your portfolios we remain very confident in the fundamental supports of strong economic and (in particular) earnings growth. We do expect inflation to pick up but importantly we do not forecast inflation rising to an “overheating” level this year such that it is a material challenge to central banks and therefore equity markets. As such, we do see this current ‘panic’ as a meaningful correction but not the end of the bull market. It is also a reminder that we are in the later stages of this extended economic cycle and that any excesses in the markets, such as excessive valuations, high debt levels, mispriced volatility etc are vulnerable to being exposed and punished by markets. We are ever mindful of this when constructing your portfolios and continue to emphasise better growth, better value and better quality when constructing your portfolio(s).

It is very early days in this correction to draw any discernible conclusions as to where safety is to be found within equity markets as to date the sell-off appears to be indiscriminate and those who are selling are primarily targeting liquidity rather than any particular sector and style preference. Over coming days and weeks this should become more evident and we in the meantime will continue to prudently manage your portfolios focusing on the strong fundamentals we currently like.

Noel O’Halloran
Chief Investment Officer

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. KBI Global Investors (North America) Ltd is a registered investment adviser with the SEC and regulated by the Central Bank of Ireland. The views expressed in this document are expressions of opinion only and should not be construed as investment advice.

CIO - Investment Outlook - Q4 2017

By Noel O'Halloran, Chief Investment Officer  | 0 comments

The global equity bull market will shortly celebrate its 10th birthday with  investors entering 2018 more bullish than at any stage during the past 10 years. I am generally happier when the consensus is more worried than happy which is not the case today!

While I remain constructive for coming quarters at least, I believe 2018 will be a much tricker year to navigate than 2017 and am conscious that running with bulls can lead to eventually being trampled upon!

The fundamental factors supporting a positive outlook include many stock markets at cycle highs, a very robust global economy forecast for 2018, even stronger forecasts for earnings growth and seemingly lessened political concerns. Thus we have the goldilocks combination of  strong growth combined with benign inflation. Central banks remain the supporting act by generally maintaining low interest rates which when combined with quantitative easing are helping to keep this party going.

  • There are however plausible scenarios that can upset this and cause market wobbles:
  • A world economy that is even stronger than expected, led by the US. Such an overheating scenario would lead to a more rapidly rising interest rate environment which would unsettle markets.
  • A meaningful change in global trade agreements, again most likely emanating from the US. Current NAFTA renegotiations need to be monitored and could get nasty.
  • Probably unlikely, but an unexpected slowdown in economic growth. Expansions may just die of old age after 10 years.
  • The nasty one! Inflation- the ‘dog that hasn’t barked’ finally takes hold in a meaningful way and could unsettle all asset classes.

Asset class outlook:

Equities

My central scenario does forecast further upside from here but with the likelihood of more volatility. I do not foresee an imminent risk that would lead to a deep sell-off in markets but as we enter the second half of the year risks should increase and therefore more potential for equity market volatility.

With equity markets at cycle highs there are undoubtedly risks and excesses lurking within the global economy and asset classes. I believe it is prudent for investors to reposition their portfolios and ensure adequate defensive positioning. While aggregate valuations of equity markets are above historic averages it is very interesting to note that the dividend yields available are still very attractive compared to bond or cash yields and I would also focus increasingly on the quality of company fundamentals when investing.

Some excesses I would highlight:

  • Increased corporate leverage (funding share buybacks)
  • Excesses of valuation within markets e.g. Technology stocks
  • Speculative crazes e.g. bitcoin

All the more reason to at least position for a style and sector leadership rotation within equity markets I believe.

Bonds

Government bonds should struggle badly in most of the  scenarios I have outlined. Absent a risk ‘event’ e.g. political crisis or unexpected slowdown, it is difficult to be constructive.

To conclude, the fundamentals remain supportive for further gains in global equity markets but expect a trickier and more volatile outcome than consensus. A year to focus on strong stock picking fundamentals and don’t forget we will soon celebrate the 10th birthday party in early March! We don’t see this as the end of the cycle and do see value within equity markets that can lead the next phase. Bonds look unattractive and should struggle. 

Noel O' Halloran, Chief Investment Officer

 

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. KBI Global Investors (North America) Ltd is a registered investment adviser with the SEC and regulated by the Central Bank of Ireland The views expressed in this document are expressions of opinion only and should not be construed as investment advice.

 

 

The global equity bull market is ageing but we don’t believe it is yet finished and we forecast further upside over the next 12-18 months.

So far during 2017 we have seen the winds change with global central banks increasingly taking a back seat as the core driver of equity markets and the baton is firmly handed over to traditional fundamental drivers such as economic and earnings growth. With many markets at, or close to, record highs, equity valuations are no longer cheap so it is crucial that economies continue to grow and that companies continue to deliver positive earnings growth. This remains our central scenario.

While remaining constructive we remain ever watchful to the challenges that could be meaningful headwinds for markets. This has been a constant feature of this bull market since 2009 and in particular over coming quarters we will be watching for any negatives such as:

• While we expect the Trump administration will deliver on tax reform, a negative outcome would be taken badly while trade policies need to be closely watched
• Geopolitics - Korea, Italian elections, Spain and Brexit
• The US Federal Reserve is likely to continue to raise interest rates, which is normally a negative for markets
• Inflation is picking up globally. While under control so far, an 'inflation scare' would certainly unnerve bond markets.  

Asset class outlook:

Equities

We expect further upside from here but expect single rather than double digit gains.  We are particularly focused on earnings and dividend growth. At this stage of the cycle, income should be a key component of equity returns.

Although markets such as the US are at or near all time highs, it is worth noting that this is because of the strong performance of a narrow group of ‘Growth’ stocks and predominantly technology related companies. The early 1990’s bull market was driven by Growth stocks as the technology bubble inflated and of course the same shares led the subsequent bear market as the bubble burst. We are mindful of this and while our exposure is limited to such stocks we do not expect an equity bear market but rather a rotation from such names towards more ‘value’ stocks and sectors which themselves are not trading at all time highs. For this to happen it is crucial that both economic and earnings growth continue to deliver. A US tax package would also be a positive.

While aggregate valuations of equity markets are above historic averages it is very interesting to note that the dividend yields available are still very attractive compared to bond or cash yields.

Bonds

Government bonds continue to struggle and are trading close to record valuations. Increasing interest rates and the threat of higher inflation over the next 12-18 months are a material challenge for bonds. They remain fundamentally unattractive to us.

To conclude, we remain positive on the outlook for global equity markets over the coming quarters. Bonds look unattractive and we are particularly excited about the value that is represented within equity markets rather than at an overall index level.


Noel O'Halloran, Chief Investment Officer

 

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. KBI Global Investors (North America) Ltd is a registered investment adviser with the SEC and regulated by the Central Bank of Ireland. The views expressed are expressions of opinion only and should not be construed as investment advice.

The first quarter of the year delivered another strong quarter of returns from global equity markets, led by Emerging Markets and Eurozone. The strong returns were driven primarily by a combination of improving global economic growth fundamentals , continued 'hope' of further reflationary policies from the Trump administration, a lack of negative political events or market-shock events.

From here, I remain constructive on the outlook for global equity markets.

A significant change to highlight in this outlook is that after many years where I have singled out global central banks with their low interest rates and liquidity as the driving force for market returns, I expect that the next stage will see central banks take a step backwards as market direction will be driven by stronger and more sustained global economic growth and crucially by stronger earnings and dividend growth. Finally we get back to more self sustaining fundamentals!

While remaining 'glass half full' on the outlook from here, it's fair to re-iterate my continuous analogy of this now eight year old bull market as being a hurdle race rather than an easy sprint. To date investors have overcome each successive hurdle and in many cases not without much fretting. For coming quarters I highlight some hurdles that still lie ahead for us to monitor and negotiate such as:

  • Brexit negotiations will drag on for many months and could affect markets
  • French elections will loom large and possibly dominate for the second quarter.
  • The Trump administration’s policy agenda (after an unsettled first few months) will be front and centre over the summer.  Next up, tax cuts and infrastructure spending – both very important for markets, especially taxes.
  • President Trump has so far taken little or no action against countries that he views as trading unfairly with the US, including China and Mexico.  Will this change?
  • The US Federal Reserve will likely continue to raise interest rates, which is normally a negative for markets.
  • Inflation is picking up globally. While under control this far an 'inflation scare' would certainly unnerve bond and possibly equity markets. 
  • Ongoing global hotspots like North Korea – a particularly concerning example – can cause market concern from time to time.
  • A sudden unexpected slowdown in global growth is certainly not what I expect but can’t be ruled out.

Asset class outlook:

Equities

I remain constructive on the outlook for global equity markets underpinned by much improved fundamentals. I am particularly confident that 2017 corporate earnings growth will be meaningfully stronger than in recent years and that the upcoming first quarter earnings reporting season will be strong when compared to the similar quarter of 2016.

Stronger fundamentals and improved earnings growth should sustain a preference for value oriented stocks/sectors over growth oriented and benefit more economically cyclical sectors versus more defensive growth sectors.

The reality of Brexit will become a tougher reality as visibility emerges and decisions are made. Expect some more UK specific turbulence over the next 12 months with sterling vulnerable to further downside.

I note that in aggregate global equity markets valuations are now somewhat stretched and no longer fair value. There is, however, relative value across equity regions, for example I favour Emerging markets. I also believe that stronger economic growth emerging from the European economy has been overlooked by many investors. A 'market friendly' result from the French elections could be a catalyst for renewed appreciation of these improved fundamentals.

Elsewhere the corporate sector remains in a generally strong position with stronger earnings growth driving strong free cash flow generation. This is translating to higher dividend payments, increased buy-back activity and to an extent increased capital expenditures. The strong fundamental background of improving prospects and still relatively cheap money augurs well for continued Merger and Acquisition activity. 

Bonds

Global government bond yields have struggled now for the last few quarters and I expect they will continue to do the same. After many years of recording record new lows in what was best characterised as a deflationary environment, bond yields should continue to normalise to historic average yields (i.e. continue to rise) in this more confident reflationary environment. The threats of higher inflation, increased budget spending by certain governments and an upturn in the global interest rate cycle are all new headwinds to global bond investors.

To conclude, I remain positive on the outlook for global equity markets over the coming quarters. A more positive fundamental background will continue to challenge fixed income markets and I believe bond markets will continue to struggle to deliver positive returns. I highlight many challenges ahead that may cause temporary setbacks for equity markets. In general, consistent with this outlook I see such setbacks as opportunities rather than reasons to panic.

Noel O' Halloran, Chief Investment Officer, KBI Global Investors

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. The views expressed above are expressions of opinion only and should not be construed as investment advice.


Following on from a positive third quarter and spurred on by the Trump election victory global markets delivered strongly positive returns over the final quarter. KBI have characterised this current bull market as a hurdle race (one where there is constantly something to be concerned about) and the US election was another such fear during the quarter. Notably, 2016 will go down as a year where twice in a six month period, the world experienced a dramatic political outcome that completely caught consensus off-side. And equally twice in the same six months, global equity markets have not only survived the aftermath, but thrived which is the exact opposite of what the consensus would have expected. Another noteworthy event during the quarter was that global bond yields actually rose materially, reversing their previous bull market run to new historic lows. Have we finally seen the end the bond bull market?

We were modestly bullish on equities going into the fourth quarter and remain equally positive on a 12-18 month timeline. The US election result makes us more confident on the US macro outlook as we believe Trump’s more reflationary economic policies will continue to help equities and hurt bonds. The trends of Q4 should at least persist through the first quarter of 2017 coincident with President Trump taking over.

However, reflecting on the dramatic events of 2016 only serves to suggest that 2017 as a whole MAY possibly be an even more dramatic year and therefore a very volatile one for us to once again navigate through. Catalysts for potential volatility include:

• President Trump’s inauguration---headline risk’s abound and in particular in relation to ‘foreign policy’.
• The UK formally triggering Article 50 to leave the EU.
• National elections in The Netherlands, France during the first half of the year and Germany during H2. Nasty surprises?.
• The US Federal Reserve will most likely continue to raise interest rates.
• Any unexpected ‘shock’ events.

Our possible market scenarios for 2017:

1. Central case -muddle-through scenario

•The global economy does ok, led by the US which is likely to benefit from infrastructure spend and lower corporate taxes. Ongoing concerns about the Trump administrations foreign policies and election outcomes in Europe limit market upside. Government bonds generally remain under pressure as they worry about increased budget deficits, inflation and higher rates.

2. Best case scenario

•The Trump administration foreign policy implementation turns out to be far more balanced and benign than feared and delivers on domestic spending plans. Global earnings outlook is even healthier providing further strong upside for equity markets and even more pressure on bond markets.

3. Worst case scenario

•The Trump administration foreign policy implementation is even worse than feared and involves heavy import tariffs etc. Trade wars ensue and markets react very negatively. European election results may also end up with negative surprise results such as evidenced during 2016. Emerging markets in particular suffer.

Equities
Should do well in either of the more likely scenarios 1 or 2 above. Continued healthy earnings growth and strong balance sheets with generally still ok valuations underpin this upside.

Bonds

Global government bond yields are not far from historic low levels and in unprecedented territory driven by ‘lower for longer’ official interest rates  and central bank buying. A more confident world economy consistent with 1 or 2 is not positive for bonds and will confirm Q4 2016 as being the low point for yields.

Noel O' Halloran, Chief Investment Officer, KBI Global Investors

 

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. The views expressed above are expressions of opinion only and should not be construed as investment advice.

Yesterdays winners eventually kill

By Noel O'Halloran, Chief Investment Officer  | 0 comments

 

Over recent quarters we have seen global equity markets hitting all time highs while at the same time there has been extensive media coverage of pension fund deficits blowing apart pension schemes. While they seem quite contradictory, both of course are correct because equity market levels affect the assets of a pension scheme, while its liabilities are calculated with reference to government bond yields – the lower the yield, the higher the liabilities. With government bond yields at historic low levels until recently, liabilities rose more quickly than assets, pushing up deficits to levels that in some cases have become unsustainable.

As a result defined benefit pension trustees are under pressure to buy government bonds. I strongly challenge this and indeed increasingly over recent quarters there are trends I highlight that are dominating thinking and investment flows that make me nervous:

  • The advice to de-risk pension schemes by selling equities to buy government bonds to reduce deficits
  • The move from active to passive equity management
  • Buying yesterday’s winners

This dominance of these trends make me nervous and lead me to the old phrase - “If everybody is thinking the same, then nobody’s thinking!”.  Just as trees don’t keep growing to the sky for ever, many market  ‘winners’  do reach a crescendo of hype which means that it’s time to get nervous and take action as an investor. Remember the great investment trends such as buying dot com stocks as they soared in the early 2000s, the move into Irish property during the mid 2000s and other such ‘winning’ trades? As we all know now, it turns out they were classic investment bubbles.

Thinking the unthinkable reminds me that this month, for the second time in six months, the world has seen a dramatic political outcome that completely caught consensus off-side. And for the second time in six months, global equity markets have not only survived the aftermath, they have thrived which is the exact opposite of what the consensus would have expected.

‘Thou shalt not worship false gods’ and so what about this recommended buying of government bonds — buying yesterday’s winners? Over recent weeks we have finally witnessed a material rise in bond yields and in my view there is a strong possibility that we have begun to finally burst the global bond bull market (bubble?). Will the election of Trump be recorded in the annals as the catalyst to burst the 35-year bond bull market?

Some arguments that make me believe that a further increase in bond yields is likely to happen include an increase in growth and inflation expectations and an increase in fiscal spending which will push up government borrowing.  It makes, in my view, much more sense for pension trustees to wait and see for a period whether these factors themselves reduce pension deficits via higher bond yields, rather than buying government bonds at their current, very expensive, levels.

It’s been a peculiar world since the global financial crisis in 2008, one where investors are constantly worried about something!  Nonetheless it has been a strong equity bull market, since the first quarter of 2009. This bull market has been a difficult one for many active asset managers who have struggled to beat their index and we have therefore seen a massive redirection of investor money towards indexed equity funds – again buying yesterday’s winners?

In my view the bull market has created significant valuation dislocations in large cap stock indices today. I believe strongly that buying the index is buying the highest risk and most inflated elements of the market right now. I remember active managers making similar anti-consensus arguments about technology stocks in the early 2000s and Japan in the late 1980s---they were right and I feel similarly today. Passive management is buying yesterday’s winners. Active management is aimed at buying tomorrow’s!

Noel O’Halloran, Chief Investment Officer, KBI Global Investors

 

 

KBI Global Investors Ltd is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request.

 

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