Excerpts from a monthly investment outlook by Financial Alliance (FA) sent to its clients recently. In November 2008, Financial Alliance (www.fa.com.sg) became the first and only Financial Adviser Firm in Singapore to achieve both the Singapore Quality Class and the People Developer status.
Key points:
Q2 has not been very kind to markets as some have posted double digit losses quarter-to-date while others have seen their overall year-to-date (YTD) gains trimmed significantly. This falls within our expectations of a sideways market. We believe our decision not to chase the markets but to wait for better opportunities has turned out to be correct.
At this point, we get the sense that the market is not quite sure of what to do. The optimism felt in Q1 is now being replaced with a feeling of caution and anxiety. For the many who joined the rally at the later stage, they find themselves in a somewhat uncomfortable position of having little to show for in terms of returns and yet having to answer the million-dollar question, “Which way will the markets break out?”
There remain many loose ends at the moment: the European situation remains fluid, the U.S. economy has lost its shine with new challenges lying ahead. We are keeping to our broad asset allocation but we will be making some changes to our holdings. We recommend adding some China exposure and increasing our gold exposure.
Q. Have your views changed in any way?
FA: No, we maintain the status quo in terms of our views. We continue to believe that equity markets will be rangebound this year and that we are at the upper half of that range at present.
We don’t rule out some further upside from here but it should be limited to another 5-10% at most. So naturally, our view is for the odds to favour a move to the downside albeit, we have to reiterate that this is not to say we are bearish. When markets finally move to the lower end of this range, we will be calling the opposite instead. We see Q2 so far as having injected reality back into the markets after the exuberance of Q1.
At this point, we get the sense that the market is not quite sure of what to do. This has resulted in many markets actually meandering sideways over the past few weeks as bulls and bears battle it out until what looks to be a stalemate. For instance, the Straits Times Index itself has been confined between 2900 and 3035 since February 3. And this range has narrowed to 2950-3035 in the past 6 weeks.
Q. What are the events or data that have reinforced your belief that the odds favour markets heading lower from here?
FA: We have always stuck to the view that the European situation would get worse. Our reference point has always been that of the Asian Crisis, which not only affected Thailand and the Philippines, but also Malaysia, Indonesia, Hong Kong, and to some extent other countries in Asia too. Thus it is hard for us to accept that the European crisis will end at the doorstep of Greece or Portugal.
What Q2 has shown us is that this crisis has now spread to Spain with Italy fast becoming a candidate to join the growing list of casualties. Also, the political turmoil that is going on in Europe (with the collapse of the French and Dutch government creating the latest sensation) is reminiscent of what happened during the Asian Crisis when long standing leaderships got overturned, notably in the Philippines and Indonesia. So, yes, despite the liquidity support (LTRO) provided by the ECB, we do think that it is premature to call an end to the European crisis, as things could certainly get worse before it bottoms.
Q. Are there any new developments that have come onto your radar screen in recent weeks?
FA: Yes, we observe a very interesting one looming ahead. We have begun to read about worries surrounding the year-end scenario in the U.S., when a host of tax cuts expire and automatic spending cuts kick in, a lethal combination that many refer to now as a “fiscal cliff”. Markets have yet to really focus on this, which reminds us of the debt ceiling debacle in mid-2011.
Back then, we had in February 2011, begun focusing on this debt ceiling issue as a key event risk after reading some reports on it. However it was not until July that the markets really took note – all the while markets had been saying that politicians would not allow it to happen given its importance, i.e., not raise the debt ceiling given that it had been done so dozens of times over the past few decades. But as we know, the debt ceiling debacle unfolded, the U.S. got downgraded and markets fell.
Similarly, we now believe that this year-end Fiscal Cliff scenario could also have an impact on markets, especially given the political situation in the U.S.
Q. Are you making any changes to your portfolio?
FA: No and Yes. No because we are keeping the composition of the portfolios the same. For example, we remain comfortable to have our low and moderately low-risk clients in 100% bonds. On the other end of the spectrum, our aggressive clients have 50% each in equities and bonds. We remain defensive amid the uncertainties that remain in equity market.
However, we are making changes within these allocations. For example, we see opportunities in China, where markets have gone in the opposite direction versus other markets in general over the past 2 years but now look increasingly attractive both fundamentally and as a defensive play.
Why fundamentally? Even though data coming from China have been a mixed bag, there are increasingly positive data surfacing. But more importantly is that the authorities have now started to re-introduce liquidity into the system (e.g., easing lending curbs with new yuan loans in March reaching its highest level in a year while money supply growth accelerated).
This suggests that growth has reached a level which they feel is optimal. Key research houses like Morgan Stanley Huaxin Securities and Guotai Junan Securities Co., which had recommended buys two years ago preceding a 34 percent rally in the Shanghai Composite Index, have now also come up with a buy call after the Composite’s 423-day bear market.
We also see China as a defensive play given it is a market that can have a life of its own (low correlation) and is not dependent on what happens in the U.S. or Europe. Thus, should both the U.S. or Europe markets come under more pressure in the months ahead, the Chinese market is probably the place to take shelter.
We are also looking to add to our gold exposure. While gold prices have remained range-bound and gold shares have somewhat underperformed, we believe that adding a slightly higher exposure here would be beneficial for the portfolio. We believe that the outlook for gold remains intact, i.e., we see gold going to $2,000 over the next 24 months. But more importantly, at this point, it will help in providing some hedge against the uncertainty that lies in the months ahead. Technically, gold has been consolidating nicely and, like previous such consolidations, this will herald in the next up-leg.
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