Market Overview
While in the first quarter the global equity market was dominated by banking crisis worries, over the most recent period sentiment has been driven by artificial intelligence (AI). In the second quarter, Nvidia and similar stocks updated their guidance with significantly increased revenue forecasts. At the same time, tools such as ChatGPT have caught the imagination of the consumer and adoption has been incredibly fast. Critics may argue this is hype, but tech stocks – and large cap names in particular – have been driving markets higher. This is a very concentrated market in the US. Large caps such as Nvidia, Microsoft, Meta and Tesla have led the way while mid and small caps have generally underperformed.
At the macro level, a lot of investors are trying to forecast when central banks will stop raising rates and then start to bring them down. This will likely be dependant on data. We expect headline inflation to come down as energy prices fall, but core inflation will likely be more problematic long term. Wage inflation is proving sticky and since the pandemic companies have been hesitant to let people go.
This tight labour market is proving to be a significant issue in the US. With employers reluctant to make redundancies, there are fewer unemployed people reining in their spending. Therefore, we expect US consumer demand to remain strong. We also see scope for US interest rates to remain higher for longer than elsewhere. In contrast, the UK has a greater proportion of mortgages on variable rates, so rate rises affect the consumer much more quickly.
Fund Review
The fund returned positive performance over the period but underperformed its benchmark. Performance detractors during the quarter included an overweight to Asia ETFs, and specific names such as Walgreens and Target. In regional terms, the UK part of the portfolio provided a negative return and was the largest detractor relative to the benchmark. The tracking error of the portfolio is relatively low at the moment and we have been removing some risk throughout 2023 generally.
We did not make a significant number of changes to the portfolio over the last quarter. Sector allocations stayed the same, including an overweight to staples and an underweight in technology relative to the benchmark. The majority of the fund’s underperformance relative to the benchmark came from sector allocations, with the rest from specific stock selection. The US is our biggest geographical weighting in the fund.
There have been a lot of negative media headlines about commercial real estate and the problems that sector may face. It faces the double headwinds of the return to offices being slower than many expected and the increasing cost of financing from higher rates. There is a lot of concern about commercial real estate in particular, as given the choice people are still choosing to work from home. Real estate remains an underweight allocation in the fund.
Outlook
We are cautiously optimistic and believe there is still room for upside in the portfolio. Of course, challenges remain for the global equity market. Aside from the well-known inflation issues addressed above, one headwind is that the fixed income space has started to become more attractive again. After a decade of ultra-low yields in a near-zero interest-rate environment, the reversal of monetary policy has helped make fixed income viable for investors. We expect large investors, such as pension funds, to reach a position where they do not need to hunt for yield any more. To some extent we have seen a movement of capital away from the equity market as a result.
However, we still see positive long-term potential for equities. Looking at the excitement and activity in AI, the ramifications and benefits of this theme are widespread. On a three- to five-year timeframe we see the potential for significant upside. Equities also tend to be more exposed to the global economy than many other asset classes. Therefore, we believe if economies rebound, particularly a major market such as the US, it would be very supportive for global equities.
Important Information
The value of investments may fall as well as rise and investors may not get back the amount invested.
The views expressed in this document are those of the fund manager at the time of publication and should not be taken as advice, a forecast or a recommendation to buy or sell securities. These views are subject to change at any time without notice.
This document is issued for information only by Canada Life Asset Management. This document does not constitute a direct offer to anyone, or a solicitation by anyone, to subscribe for shares or buy units in fund(s). Subscription for shares and buying units in the fund(s) must only be made on the basis of the latest Prospectus and the Key Investor Information Document (KIID) available in the literature section.
Promotion approved 21/07/23
