June is a traditionally negative month for markets: positions are closed in anticipation of the summer break and dividend high season comes to an end. This year, the situation was compounded by the portfolio rebalancing of large mixed pension plans, which had already contributed to the creation of a market floor in March and that threatened to form a new ceiling in June. These funds’ quest for a constant balance of equity and fixed income drives them to adjust portfolio imbalances each quarter end. Thus, pension plans had purchased around US$ 150bn in equity in March to increase their exposure, and in June had to sell approximately US$ 70bn to rebalance their portfolios. Bearing this in mind, we have been especially cautious during the last half of the month; although we have in no way renounced to our economic recovery outlook, thanks to which we have been able profit from most of the market rally that took place up to June 10.
In the mid term, we are still constructive: the industries we are invested in continue to post above average results, and well managed healthy companies are coming out of this crisis stronger than ever. We expect that the Covid’s impact on markets will gradually diminish as treatment trials improve and mortality ratios of new outbreaks decrease. Nonetheless, we do perceive higher risks in certain peripheral European countries, which have been sorely hurt by social distancing and preventive measures, as they are more exposed to the leisure, tourism and retail sectors. On the up side, the job-creating construction sector has not yet shown any symptoms of short term recession thanks to an increased home improvement activity, although it will be affected by any eventual extension of anti-Covid measures. We are therefore avoiding these countries and are, in general, considerably underweight in Europe given its lower economic and political cohesion when discussing important fiscal and employment policies.
Manufacturer and direct-to-consumer purchase intent indices in our main investment regions (North America, China and Northern Europe) are showing a clear improvement. Activity is resuming and the growth sectors in which we are invested have a bright outlook. The close approaching US elections could add some volatility in the second half of 2020, as will the US, China and European Governments’ management of the post-Covid scenario. Aggressive tax rises will slow down recovery, and if the US-China trade war intensifies there could be sharp market corrections in the current overall positive trend.
In Emerging Markets, India and Brazil must be closely monitored as social distancing in large cities is proving to be quite difficult to implement. For now, we are focused in China and neighboring countries with a higher exposure to the technology and services sectors and excellent perspectives going forward, that will allow us to concentrate on a longer term objective.
The EURUSD advances on the back of the lower perceived risk in markets. In the current market phase, we have switched the long USD position held during the crisis for a long EUR exposure in portfolios with an active currency exposure management.
S&P500 options volatility (VIX) has dropped to near 30 levels, after peaking in June. Volatility continues to be high and an attractive source of returns, which we are capturing for the SFRR and SFPG to lower hedging costs.
Overall, we consider this quarter’s performance positive in view of market trends and resilience to corrections. For a long term objective, investing in indices that are below maximums is still attractive: historic highs will be beaten once risk falls on the back of entrepreneurial management and Central Banks’ liquidity injections.