BY PAOLO MARONGIU
March was a difficult month for equity markets, with high volatility, which nevertheless was lower than during the previous month. The MSCI Europe Index lost ground (-2.35% in March, -4.87% year to date), dampening the bullish reaction, which had characterised the second half of February.
The correction, which started in late January is still shocking investors. The investment community is aware that the mood is generally changing, with a transition being underway from the “goldilocks” era of 2017 to a more normal scenario, returning to average volatility and new price regimes. During the month, European markets declined as much as global markets, hence there wasn’t a geographical driver behind the decline in European markets. The risk free rates didn’t conspire against equity markets, with the main negative catalyst being the widespread sense of uncertainty surrounding the future. In March, the Euro was still quite strong, fluctuating between 1.22 and 1.25 against the USD.
During the month, the MSCI Europe Index moved from 128.02 (February close) to 125.01 (March close), hitting the top of the range at 128 and the bottom at 122 on 13th and 26th March respectively. During the last days of the month a rebound took place, with the equity markets recovering half of the corrective move, providing good momentum.
In this complex market environment the Fund took a dynamic approach, this being a positive factor in absolute and relative terms. The net exposure was extremely low during the more negative parts of the month, with the Fund’s hedge ratio reduced at the end of March.
Overall, global growth appears to remain solid, with the global economy being in the “late cycle” phase. The tightening rolled out by the Federal Reserve leads the cycle to its final stage, but the Investment Adviser thinks that 2018 will be a year of transition in which investors will have to face a more volatile environment, with a change taking place from large growth with no volatility to a more erratic path. In the Investment Adviser’s mind, corrections can be seen as buying opportunities as long as the equity markets’ uptrend is intact and global markets hold their long term moving average. Given this new market scenario, a more proactive approach is required, with the stance turning cautious again if the market reacts quickly in the short term. According to the Investment Adviser, the equity holding period tends to fall when a large long term trend like this comes to an end. Rich equity valuations and stretched global PMIs are the main reasons for the uncertainty, which the team expect to materialise in 2018.
In the Investment Adviser’s mind, the main challenge was to not be overconfident at the beginning of the year, avoiding the consensus view of abnormal eternal growth due to fiscal reforms. Currently, the issue however is very different and the focus should lie on not to become too negative too quickly.
According to the team, the main driver for the remainder of the year will be liquidity: until it is ample and widespread, investors can be constructive. Equity valuations however need to gradually incorporate the effects of new global monetary policies. In this regard, the FED’s policy will have a leading role. Central Banks are shrinking global liquidity and according to the team this will affect equity markets, with the question being “if” and not “how fast” this process will unravel.
The Investment Adviser anticipates another source of uncertainty to come from the White House, with Donald Trump’s erratic behaviour on certain issues determining volatility spikes. In this regard, tariffs appear to be the main issue, which could quickly lead the cycle from its late stage into the end stage.
The views and statements contained herein are those of Sofia SGR in their capacity as Investment Adviser to the Fund as of 17/04/18 and are based on internal research and modelling.