With the slowdown in US economic activity becoming clear, the Fed delivered another rate cut, taking the rate down another 25bps to 1.625% but then signalled that future rate cuts would be data dependent. Despite that, global equity markets surged and the MSCI All Countries Index ended up over 2.6%. Importantly, it was not led by the US, with the Index ex-USA up 3.4%, a clear sign of market participants risk appetite. This is also reflected in the continued tightening of the EMBI spread, dropping from 338 to 322 in October, reaching the lowest levels since early 2018.
An important shift also occurred in the ongoing trade war between the US and China, as signs emerged that some pragmatism may prevail, and a dial-down of imposed tariffs may be agreed upon at some point. Timing however, remains uncertain and until we have greater clarity it is likely that the trade war issue will remain somewhat of a stumbling block to an improvement in the global economy.
Perhaps the most significant shift in the month was in the value of the US dollar. By end-September it had reached levels last seen since mid-2017 and had strengthened over 3% alone in 2019. Bearing in mind that the dollar by any measure is one of the most overvalued Developed Market currencies, it was always going to face a period of weakness at some point. So, in October it was down 2% (the broad DXY Index), the biggest monthly loss since early 2018.
On the gainer side, perhaps the biggest winner was the Pound Sterling, which was up 5% alone against the US dollar. This development was on the back of the agreement in the UK to hold national elections in December in order to determine a clearer Brexit trajectory. In addition, the European Union also agreed to another extension of the Brexit date from the previous 31 October to 31 January 2020.
Interestingly, despite the positive risk sentiment, bond yields did not sell-off as much as may have ordinarily been expected, and US 10-year bond yields held firm at around 1.70%. Emerging market bond yields though did respond to the risk-on move and is reflected in the EMBI spread falling another 16bps to 322, a level last seen in early 2018.
Our base case economic scenario has remained unchanged during this year of no global recession. This is important as it was the reason why we did not turn bearish but rather remained defensive in our positioning – an important distinction. Given that global central banks have now come to the rescue of the global economy, with the majority of both developed and emerging markets now is easing mode, we expect that the economic outlook will begin to look better heading into 2020. Accordingly, this will also feed through into an improvement in the earning trajectory going forward.
We opted then to close out our minor equity short position and move to a neutral position. This was accomplished by adding an overweight position to Canadian equities where on a relative valuation position, they look attractive, and in addition, also have a commodity /oil slant at the same time. On that basis we also added to our overweight Canadian dollar to benefit from the positive correlations that exist to commodities.
We continue with a tilt towards EM exposure in the fixed income space which, given moves in the EMBI spreads, has worked well for us in 2019. In our FX overlays we our short US dollar position has also finally worked given USD weakness.
Whilst global equity markets rose, fixed income performance held performance back, with the Sterling Asset Management Fund down slightly by 0.3%. The Global Growth Fund, with its generally higher equity component rose 0.9% in the month. Currency differences and tilts between the funds are the major reason for performance differentials.