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deMarket Development: In August, the MSCI World Index (total returns in USD) was down 4.2%, the EURO STOXX 50 (net returns in EUR) declined 4.1%, whilst the S&P 500 (total return) also ended the month in the red, returning -4.1%. The Dollar Index (DXY Index) gained 2.64%, whilst the generic US 30Yr Treasury yield increased from 3.0% to 3.3%, and the VIX increased from 21.3 to 25.87.
Following an impressive rally from the June lows, the market gave up some of its gains in August, again exhibiting significant volatility as the end of summer draws near. With a 19% rally for the S&P, from its intraday lows of 17th June to its intraday highs of 16th August, this scorching rebound was seemingly interrupted by market operators returning to a more cautious stance, especially as Chairman Powell reiterated his inflation-fighting ambitions at the annual Jackson Hole conference.
Although we have argued in past commentaries that the next phase of the market would likely be driven by earnings revisions rather than valuations, the summer months have demonstrated that expectations surrounding monetary policy remain the key drivers of cross-asset markets today: signs of dovishness create roaring upward moves, while signs of further tightening quickly unwind the momentum.
With little additional hard data, but signs of stagflationary dynamics in place, including the disastrous energy shortages set to impact Europe, equity markets remain in treacherous waters, despite corrections in the high teens in major indices to date.
The inability of central bankers and economists to predict and fully understand the current inflationary dynamics are of little help to investors; bracing for volatility, yet being offered few areas of refuge in these turbulent times; let us not forget that major bond indices, such as the Bloomberg Barclays Global Aggregate, are down more than 15% YTD.
As we enter more favourable YoY comparisons, given the first inflationary dynamics were detected a year ago, the debate surrounding peak inflation, structural inflation and the new “neutral” rate of interest will likely continue for months.
Whilst monetary policy in the US still has room to tighten given the strong labour market, anecdotal signs of slowdown continue to roll in from corporates – including the mighty Goldman Sachs shedding employees to control costs.
Corporate activity is also significantly below trend, with M&A deal volumes drying up and debt issuance virtually grinding to a halt.
All of this should eventually make its way to lower cyclical inflation reads, particularly in the US where the currency strength keeps a lid on import costs. That said, the structural inflation question combined with the unknowns surrounding supply chain disruptions continues to affect asset markets looking for answers.
Market Outlook
Last month we wrote that “With the market dissecting every word coming from Jerome Powell and the Federal Reserve, volatility continues to be the name of the game”. We remain very much aligned with this view today, yet believe in the importance of agility in markets with such wild gyrations.
We view the current environment as carrying a number of known risks, including an alarming energy backdrop in Europe, the potential for more confrontation on the Ukrainian front, a serious step up in liquidity reduction from Quantitative Tightening in the US and a strengthening USD placing additional strain on the rest of the world from an inflationary and fiscal standpoint.
The significant pessimism of institutional investors reaching historical highs does however show that much of these risks are well understood by the market machine, always on the lookout for the next marginal tipping point and, as in June, could be a fertile ground for significant, rapid rallies.
As such, the Fund retains its cautious asset allocation and a focus on being active and agile while, as ever, focusing on companies exhibiting stability and economic resilience.
Portfolio Development
The Sturdza Family Fund’s NAV decreased by 3.09% during the month, reflective of the end-of-month correction in the markets, and increase in yields.
In terms of contribution, our modest new protective put option position led the way with a 3bp contribution, followed by Meta (+3bps), Schlumberger (+3bps), Global Payments (+2bps) and covered calls sold on Autozone (+1bp).
On the detractors’ side, the worst performers were all concentrated in our quality growth bucket, which tends to be impacted more by interest rates: Iqvia cost 18bps, Thermo Fisher -14bps, Coopers -13bps, Mastercard -11bps and Teleperformance -11bps.
In line with our outlook, the Fund remains active, looking for opportunities to upgrade the resilience of the portfolio following a strong upswing by selling covered call options on select companies (Union Pacific, Autozone, Applied Materials, HCA, Mastercard, Visa, UnitedHealth); reducing risk by taking profit on previously sold put options (Baidu, L’Oreal, Sartorius); and exiting equity positions with less attractive risk / rewards given the prevailing prices (Iberdrola, Sartorius). We also bought modest amounts of protective put options on the S&P.
Towards the end of the month, we resumed selling out-of-the-money put options on strong companies, offering good risk / reward as volatility increased and markets fell, to profit from potential lower reinvestments at attractive premia. On the fixed income side, the Fund retains a short-duration bias, with a small exposure towards the IG corporate market on first-rate issuers.
As always, we invite investors and prospective investors, to contact us should they wish to understand our views on the current situation and the positions held in the portfolio. Please do not hesitate to contact us for further information.
Adam Turberville
Director
+44 1481 742380
a.turberville@ericsturdza.com
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The views and statements contained herein are those of Banque Eric Sturdza SA in their capacity as Investment Advisers to the Fund as of 16/09/2022 and are based on internal research and modelling. Please click on Disclaimer Page to view full disclaimers.