Newsletter | March 2020



Investment perspective

If January was an eventful month, February proved to be much more dramatic as virus fears gripped the markets. Equities ended the month in freefall and the slide of bond yields accelerated. During the last week of the month, the 10-year Treasury yield dropped by a whopping 32bps to fast close in on the psychological level of 1%, whereas the major equity indices fell by around 12%, their worst weekly drop observed since the great financial crisis in 2008. The MSCI World Index, in local currencies, posted an 8.2% monthly loss. The 10-year Treasury and Bund yields fell by 36bps and 17bps respectively to end-February levels of 1.15% and - 0.61%. In the commodity space, oil prices dropped into bear market territory while technical factors prevented the price of gold from benefiting from the lower real yields and from a weaker dollar.

The end-February plunge of equity markets was extremely violent as it was the fastest US stock market correction in history; the S&P 500 dropped by 12.8% in just seven days of trading, wiping out over five months of gains, with the Dow Jones Index closing down by more than 1’000 points twice in a week. As was the case in December 2018, markets were totally driven by sentiment and a self-fulfilling negative spiral relentlessly drove prices lower. The dollar was another asset that was badly impacted by the end-of-month events. The collapse of Treasury yields and high Fed rate cut expectations were the main drivers for the sudden depreciation of the dollar as it rapidly lost more than 2% against the euro, from 1.079 dollars per euro on February 20 to 1.103.

The impact of the coronavirus on economic data is only starting to produce its effects; Chinese official and Caixin PMI Manufacturing numbers for February have plunged to levels well below those observed during the financial crisis. Upcoming data worldwide will increasingly reflect the contraction of business activity, reduced travel and supply chain disruption.

Investment strategy

The outbreak of the COVID-19 virus represents a totally unexpected and unforeseeable event, otherwise known in capital markets as a black swan event. We are not qualified to be able to predict the final outcome of the virus outbreak but things are likely to get worse before they get any better. Following the violent end-of-February correction of equity markets, the first week of March looks more like a roller-coaster with huge swings in both directions; it is likely that it will take some time for markets to stabilize.

In view of this extreme level of uncertainty, we have decided not to cut our equity allocation but to buy some protection. This tactical decision allows us to maintain our equity exposure which is based on our long-term outlook. It also contributes to mitigate portfolio losses were the ultimate impact of the virus outbreak prove to be much more damaging to the economy and to financial markets. Were markets prove to be resilient, the purchase of this protection will represent an opportunity cost for the portfolios, a limited price to pay in view of the potential drawdown of equity markets in a worst-case scenario.


Portfolio Activity/ News

Following a strong rebound of risky assets during the first half of February, the remainder of the month proved to be much more hurtful to the performance of the portfolios. Only a small number of positions produced positive contributions; it was nevertheless reassuring to observe that some hedge funds ended with monthly gains. All equity funds ended in negative territory, unsurprisingly. Japanese equities were the worst detractors while emerging markets’ ones fared better in relative terms; we still believe that the valuations and the upside potential of both asset classes will be supportive when markets eventually regain their composure. The drop of most credit funds was contained in view of the widening of credit spreads, especially as a result of lower risk-free rates.

At the very beginning of March, we took advantage of a strong bounce of US equity markets to strengthen the portfolios by purchasing an end of June S&P 500 Put. The impossibility to predict the ultimate impact of the spreading of the COVID-19 virus on economic activity and on corporate earnings in the upcoming months led us to buy protection.

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News Flash | March 3rd 2020

Following our news FLASH published last Friday, the rebound of equity markets has been most welcome.

Equities got off to a strong start this week, with a 5% gain for US equities on Monday as well as an initially positive reaction to the Federal Reserve’s announcement to cut rates by 0.5% today; while anticipated by the markets, the FED’s decision has been taken exceptionally before the planned 18th March meeting and reflects the high level of concern of the US central bank in view of the spreading of the Covid-19 virus.

This equity bounce has provided us with a window of opportunity to strengthen portfolios and we have bought some protection at a cheaper cost than during last week’s sell-off. This tactical decision allows us to maintain our equity allocation. It also contributes to mitigate portfolio losses were the ultimate impact of the virus outbreak prove to be much more damaging to the economy and to financial markets. If markets were to prove resilient to the ongoing crisis and be little affected, the purchase of this protection will represent an opportunity cost for the portfolios, a limited price to pay in view of the potential drawdown of equity markets in a worst-case scenario.

The spreading of the virus will continue to trigger decisions by governments and corporations that will further hurt economic growth and raise the chances of a recession. The impact of these measures is impossible to predict, hence our decision.

News Flash | 28 February 2020

Since the middle of February, equity markets have been rattled by fears over the potential impact of the coronavirus on economic activity and on corporate earnings. Major indices have plunged by around 13% this week and one must go as far back as the financial crisis in October 2008 to observe a worse weekly correction, reflecting the severity and the velocity of the recent move; year-to-date performances of the major indices now range from - 6% (Nasdaq Composite) to -12% (Japan Topix). Market sell-offs are inherent to the equity asset class and historical analysis shows that these corrections have resulted in an average decline of 13% for the S&P 500  since WW2; to try to time such moves is a fool’s game and the latest sell-off has also likely been compounded by profit-taking on richly valued equities following a strong rally, technical selling and month-end rebalancing.

The current behaviour of markets is quite similar to the one observed at the end of 2018; they are being totally driven by sentiment and a self-reinforcing negative spiral appears to be setting in. We consider that they are becoming irrational as the ultimate fallout from the coronavirus is impossible to predict; the impact of this exogenous shock will impact economic activity in the first quarter severely but is likely to prove to be only temporary, like many times before.

We are fundamental long-term investors and are preparing to take advantage of attractive opportunities in a number of sectors and stocks that would result from an overshoot of this market correction; this would take our current neutral equity allocation to overweight. We are also paying particular attention to corporate credit in view of extended valuations and eventual unintended consequences and the uncovering of unknown issues due to leveraged balance sheets.

As always we reserve the right to change our investment outlook and to adjust our asset allocation according to the evolution of the situation and as governments and corporate leaders continue to react to the spreading of the coronavirus.

Newsletter | February 2020



Investment perspective

January was an eventful month which ended with equity markets declining and with bond yields tumbling. The MSCI World Index, in local currencies, dropped by only 0.3% but this performance does not reflect the dispersion observed across the different regions; the resilience of US equities resulted in a modest 0.2% loss for the S&P 500 whereas the MSCI Emerging Market Index lost 4.7%. The 10-year Treasury and Bund yields fell by 41bps and 25bps respectively to end-January levels of 1.51% and - 0.44%. In the commodity space, prices were much weaker, with energy ones being hit particularly hard, while the price of gold logically appreciated on the back of falling bond yields.

Despite their monthly declines, equity markets proved to be resilient. They have already had to face an escalation of geopolitical tensions in the Middle East as well as the outbreak of a fast-spreading acute respiratory syndrome in China. These events failed to push equity prices significantly lower even if the levels of technical indicators showed that markets were overbought and in need of a breather. US growth stocks have continued to lead the way and were helped by the reporting of better-than-expected Q419 earnings. Out of the 300 S&P 500 companies having already reported their fourth-quarter earnings, 74% have reported positive earnings’ surprises, with EPS (earnings per share) on track for a YoY growth of 3% compared to expectations of 1.9%. The reporting of European companies has also been supportive, with 55% posting positive sales surprises and 58% better-than-expected earnings.

Sovereign bond markets appear to reflect a more cautious outlook than equity markets. In relative terms, the decline of government bond yields in January exceeded the limited drawdown of equities and yields have not rebounded back to their early-year levels; in contrast, equity markets have rallied at the beginning of February and are back in positive territory.

The early-year spike of oil prices, due to the escalation of US-Iran tensions, seems like a very distant memory. The chart shows that prices have since fallen by more than 20% as a result of concerns about a slowdown in oil demand, on the back of the coronavirus outbreak. According to Bloomberg, Chinese oil demand has dropped by around 3 million barrels a day, or 20% of its total consumption. Reports that Saudi Arabia was pushing OPEC and its allies for another cut in crude production failed to provide support for prices.

Investment strategy

As a reminder, we have started 2020 with a more dynamic positioning of the portfolios. In December, we had boosted the equity exposure to an overweight allocation and also added a high-octane emerging market corporate debt fund to the fixed-income asset class. This meant that we were carrying more risk in view of our constructive view on the global economy and on market conditions.

The outbreak of the coronavirus in the city of Wuhan, the capital of Central China’s Hubei province, was an exogenous and unpredictable event; its ultimate impact is difficult to assess, but it will clearly affect China’s first-quarter GDP, in spite of various supportive measures taken by the Chinese authorities. We nevertheless decided not to change the structure of the portfolios as we did not anticipate a severe drawdown of equity markets. At the time of writing, markets have recovered their positive trend and appear to be in agreement with our bullish view.


Portfolio Activity/ News

January turned out to be quite a frustrating month as the portfolios had been performing well until the outbreak of the coronavirus in China. Unsurprisingly, emerging market and Asian exposures figured amongst the portfolios’ largest detractors, whereas US growth stocks and US small caps produced significant contributions as did longer duration and convertible bonds. Two Japanese equity funds were hit particularly hard, unfairly in our view, and we continue to see value in this asset class. The new emerging market corporate debt fund, which had been approved in December, fared well and ended the month up by 2% in dollar terms.

Both convertible bond funds produced positive monthly returns and we consider this asset class to be a very attractive proposition in the current market conditions. It is also interesting to observe the differences between the market structure of the different regions. European convertibles generally have a higher credit rating and tend to be issued by more established companies whereas US ones are often rated high-yield and issued by faster growing companies in sectors such as technology and biotech.

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Investment Perspectives 2020

Executive Summary

2019 was an exceptional year for financial markets

The past year has been an exceptional vintage for financial markets with strong performances observed across all asset classes. Recession fears and concerns over a hawkish Federal Reserve, which had triggered a severe market correction during the last quarter of 2018, were dispelled from the onset of 2019, leading to a significant rally of the equity and bond markets.

A dramatic turnaround by the US central bank, optimism over a US-China trade deal and the unwinding of pessimism about the economy were the main drivers for outstanding equity gains. The trough of the equity correction at the very end of 2018 meant that there was more room for a catch-up rebound in 2019. Accommodative central banks across the world and low inflation pressures also contributed to well above- average returns for bond and credit markets whereas fluctuations in the currency markets were generally modest, in particular for the major crosses.

Central banks to the rescue again

More than half of the central banks are now in easing mode, the biggest proportion observed since the financial crisis, and close to two-thirds of all central banks cut interest rates during the third-quarter of 2019. The dramatic reversal of the Federal Reserve’s monetary policy was one of the main triggers for last year’s rally of financial assets. From a starting point where the US central bank was planning for two rate hikes in 2019, the end result was three quarter-point rate cuts and the premature ending of the contraction of its balance sheet; in fact, the Fed’s balance sheet has even been expanding again since September. The European Central Bank also added additional monetary support despite its limited room for manoeuvre. In September, the bank decided to cut rates by 0.1% to - 0.5%, to restart QE (€20 billion per month) and to introduce other supportive measures.

The outlook for the global economy appears a little brighter

The slowdown of growth observed in 2019 had been fully expected. The economic outlook, however, looks more promising now. A decline of trade tensions should finally result in the signing of a limited deal between the US and China. Recent economic data has also started to show some signs of an improvement for the manufacturing sector and solid labour markets should continue to support consumer spending. The risk of a recession has also decreased, so the combination of all these factors could result into a positive surprise for the economy in 2020.

Current market conditions are supportive for risky assets

We believe that financial markets should get off to a positive start in 2020 and we have recently boosted
our allocation to equities. Investors are more likely to continue increasing their allocation towards risky assets in view of the less attractive alternatives. One must nevertheless keep in mind that the starting point for investments’ returns is much less promising than a year ago, when the valuations of equities and high yield debt instruments had collapsed. This means that the prices of assets are more vulnerable to disappointments as monetary and fiscal policies have already brought forward a substantial amount of future growth and returns.

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Newsletter | December 2019



Investment perspective

November was a strong month for the equities of developed markets as the MSCI World Index, in local currencies, climbed by 3%. De-escalating trade tensions, merger and acquisition activity, accommodative central banks and some improving economic data contributed to push equity prices higher. In contrast, emerging market equities lagged significantly, partially due to a stronger dollar and to ongoing political tensions in Hong Kong and across other regions. Whereas EM equities initially rose on optimism over a “phase one” trade deal between the U.S. and China, they dropped subsequently and diplomatic tensions gradually resurfaced as Washington passed two bills supporting protesters in Hong Kong. Bond yields rose steeply during the first third of November with investors reducing exposure to safe haven assets; as a result the yield on the 10-year Treasury bond climbed from an end-October level of 1.69% to 1.94% before retreating to end the month at 1.78%.

The year-to-date equity rally has been quite remarkable and been driven, in large part, by the combined support of central banks across the world, as the growth of corporate earnings has tended to be anaemic. This has resulted in a significant re-rating of equity valuations and investors will be hoping that the recent pick-up of economic data will be followed by a sustainable, even if modest, rebound of economic activity in the months ahead; such an environ- ment would contribute to boost the prospects for 2020 earnings and justify some of the optimism currently priced in equity markets.

Capital markets appear to be sanguine about the upcoming UK elections which are taking place on December 12th. The pound has been appreciating as the latest polls are indicating a lead of around 10% for Conservatives over Labour; if confirmed, this could mean a majority for Boris Johnson’s party and a better chance of unblocking the current stalemate on Brexit.


Investment strategy

Following the performance of equities in October and November, our allocation towards equities is now close to being neutral. Our assessment that global equity markets are looking expensive in absolute terms and that a lot of positive news is already discounted hasn’t changed, but the lack of more attractive asset classes means that equities could well continue to appreciate. The fact that economic data has started to show some signs of improvement will also encour- age investors to buy more shares, so we are maintaining our neutral allocation for the time being.

Our equity exposure is well diversified across the different regions and the different strategies, but we currently see stronger upside potential in certain areas; Japanese growth stocks appear well positioned to outperform the broader Japanese market due to low valuations and better earnings prospects while small caps could also perform well if signs of a recovery were to be confirmed. The equities of emerging markets are also attractive based on their valuations and on their catch-up potential relative to developed markets.


Portfolio Activity/ News

November was a good month for the portfolios, largely the result of strong equity performances. The best contributions were provided by U.S. Small Caps and U.S. Value stocks as well as by the Healthcare sector fund. Several other equity funds also produced valuable returns while the detractors were few and far between. The early-month rise of bond yields did not last and the bond funds with longer durations suffered only minor monthly drawdowns. The alternative allocation made a modest positive contribution as did the dollar exposure for non-USD denominated portfolios.

We have recently added a new European Small Cap fund to our list. The fund’s management team has been investinginto the European small cap universe for many years as well as into the micro cap space; this knowledge of micro caps offers an additional source of investment ideas for the Small Cap fund. The fund has generated an outstanding track- record compared to peers and to its benchmark; it can also be qualified as being a genuine Small Cap fund in terms of the market capitalisations of the underlying positions; the fund has a 1.6bn EUR average weighted market cap vs. 3.1bn EUR for its peer group.

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Newsletter | November 2019



Investment perspective

Following a rocky start to the month, global equity markets ended October with gains. The MSCI World Index, in local currencies, appreciated by 1.8%, and Japanese equities continued to outperform. Markets were dominated by a de-escalation of trade tensions, the reporting of Q3 earnings and Brexit events which all contributed to an improvement of investor sentiment. The S&P 500 managed to record a new all-time high, but with a certain lack of conviction, in view of the low volume of traded shares and the narrow breadth of the market. Sovereign debt yields moved higher during most of the month until the last trading sessions saw them reverse on renewed trade concerns and on weak U.S. economic data. The U.S. dollar depreciated against most currencies, largely the result of optimism over trade talks.

The October meeting of the U.S. Federal Reserve produced the expected outcome in terms of its benchmark reference rate, i.e. another 0.25% cut to a range of 1.50% to 1.75%. The less predictable part was how the central bank would communicate on its outlook for monetary policy. The Fed turned out to be more hawkish than expected as it signalled an end to its recent easing cycle. Fed Chairman Powell stressed that the current stance of monetary policy would be appropriate as long as incoming information remainedconsistent with the bank’s outlook. However, Powell also made it clear thattightening was very unlikely in view of below-target inflation.

Companies have been busy reporting their earnings for the third quarter and, overall, this has proved to be supportive for equity markets. With 351 out of 500 S&P 500 companies having already reported, 70% have beaten profit estimates and 60% revenue estimates. In Europe, 55% of companies have produced positive earnings surprises and 60% positive revenue surprises.


Investment strategy

Global equity markets have continued to edge higher despite the ongoing slowdown of economic growth and the absence of signs of any upcoming improvement. On the other hand, the risks of a recession still appear as being quite low, mainly thanks to the resilience of consumers, while trade tensions have declined. In this environment, investors are taking the view that markets are benefiting from a Goldilocks scenario, with modest, even if slowing growth, and central banks providing monetary support thanks to rate cuts and to an accommodating bias. At the risk of missing out on some potential upside until year-end, we maintain our modest underweight allocation towards equities. We view the cur- rent trend for equities as one that is lacking conviction and consider that a lot of positive news is already priced in.

The euro has recently appreciated against the U.S. dollar but we do not foresee further significant upside at this stage. So far this year currency volatility has been low and the major FX crosses have not changed much. Our allocation towards the dollar remains underweight.


Portfolio Activity/ News

The portfolios ended October slightly higher thanks largely to the positive performances of equity positions. The rebound of bond yields meant that the overall contribution of the fixed-income asset class was close to neutral. The global contribution of alternative investments was detrimental as trend-following, Global Macro and Risk Premia strategies ended with small negative performances. For a second consecutive month, the best contribution was provided by our U.S. value fund which continued to benefit from the regained interest for value stocks. Japanese and emerging markets equities also fared well as they made up some of their year-to-date underperformance.

We added a new short duration credit fund to the portfolios in October. The strategy of the fund is based on a diversified portfolio of credit instruments and composed of three sub- strategies: carry (buy-and-hold), market timing (trading in new issues) and derivative strategies (pair trades, creditcurve, capital structure...). The track-record of this fund since its inception has been outstanding and it ended 2018 with a gain, quite an achievement in a very challenging year. The main purpose of this fund is to offer a low-risk alternative to cash for portfolios denominated in euros and Swiss francs.

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Newsletter | October 2019



Investment perspective

Risky assets fared well during September as trade tensions eased somewhat. The MSCI World, in local currencies, appreciated by 2.2%, with Japanese and European equities outperforming, whereas government bonds pared back some of their strong year-to-date gains. Gold was also in consolidation mode as a result of higher yields and of a firmer U.S. dollar. The past month wasmarked by a major attack on Saudi Arabia’s oil infrastructure which triggereda spike of oil prices; this proved to be only temporary however as the release of strategic reserves and a faster-than-expected recovery of production then pushed prices below their end-August levels. Politics continued to be a key driver for markets; the formation of a new coalition government in Italy and a series of defeats for Boris Johnson’s U.K. government, deemed as reducing the chances of a no-deal Brexit, were taken positively by investors.

The September meetings of the European Central Bank and the U.S. Federal Reserve were highly awaited by the markets. The ECB decided to cut rates by 0.1% to - 0.5%, to restart QE (€20 billion per month) and to introduce “tiering”for banks in order to limit the impact of negative rates on their profitability. The ECB will also offer banks new TLTROs (targeted long-term financing) with favourable terms. On its side, the Fed cut rates by 0.25% to a range of 1.75%to 2% but said that it didn’t expect further rate cuts this year. Members of theFederal Open Market Committee (FOMC) were much divided on the bank’snext move, with seven members wanting at least one more reduction in 2019.

The global stock of negative-yielding debt surpassed $17 trillion at the onset of September. According to Bloomberg, thirty percent of all investment-grade securities are trading with sub-zero yields, including corporate bonds. With global economic growth slowing and central banks back in easing mode, this stock of negative-yielding debt could well keep on expanding.

Investment strategy

Since the beginning of the year, the consensus of the market anticipated an improvement of the global economy in the second half of the year. This optimistic scenario has been in- creasingly put into doubt as macroeconomic data has failed to show signs of a rebound. We have been quite surprised that markets have brushed these concerns aside so easily and placed so much faith in the ability of central banks to offer sufficient additional support to extend the economic cycle. Indications that the so-far resilient consumer sector is also starting to show some weakness would likely only amplify the current growth concerns. The upcoming reporting of third- quarter corporate earnings is likely to focus on the impact of the economic environment on capital investment and on the outlook for future earnings. These factors largely explain why we are sticking to a more cautious portfolio positioning as we look to protect strong year-to-date gains.

As we had expected, bond yields rebounded from their year- lows as investors took some profits and the bond rally had clearly been overbought. However a big rise of bond yields is not our main scenario, in a context of softening economic activity and of easier monetary policies.


Portfolio Activity/ News

The portfolios ended September higher thanks to the positive performances of equity positions. The rebound of bond yields meant that the overall contribution of the fixed-income asset class was close to neutral. The past month’s best contributionwas provided by our U.S. value fund which benefited from the rotation out of momentum and growth stocks into deep value ones. It is still too early to know whether this shift will prove just to be a temporary trend or a more sustainable one, but what is certain is that value stocks are trading at a record discount compared to growth stocks. Our allocation into Japanese equity funds was another strong contributor in view of the monthly outperformance of Japanese equities. The much discussed trend-following strategy was the biggest detractor in the portfolios as it suffered from the impact of rising bond yields, but still stands around + 20% YTD.

We added a defensive global equity fund to the portfolios in September. The fund has a value approach and its current defensive positioning is reflected by a significant exposure to cash and to gold. At a time when certain market factors appear to be running out of steam, the fund could benefit from renewed demand for value stocks and from a normalisation of bond yields.

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Newsletter | September 2019



Investment perspective

The month of August proved to be much more volatile, largely thanks toDonald Trump’s Twitter activity going into overdrive; according to the New Yorker, Trump tweeted six hundred and eighty times during the month. Equity markets reacted to all kinds of headlines, at times violently, as trade tensions between the U.S. and China ratcheted up to another level and as political risks spiked across the world; markets were also weighed down by recession fears as the closely-observed 10-year/2-year Treasury yield curve briefly inversed. Global equities recorded four consecutive negative weekly returns before staging a rebound at the end of the month. The decline of high-quality sovereign debt yields accelerated, with that of the 10-year U.S. Treasury note dropping by 0.52% to 1.50%, its lowest level since July 2016, while the yield on 10-year Bunds reached a new all-time low of - 0.72%.

Once again, the tweeting activity of Donald Trump had a major impact on the capital markets; in early August, the U.S. President announced 10% tariffs on $300 billion worth of imports from China, up to then not subject to levies. This triggered a drop of the Chinese yuan in retaliation and the tensions between both countries continued to intensify. Trump was also very busy attacking the chairman of the Federal Reserve, Jerome Powell, whom he referred to as“clueless Jay Powell” and whom he accused of a “horrendous lack of vision”.As often in the past, when markets had been under pressure, Trump adopted a more conciliatory tone towards China later in the month, which contributed to equity markets regaining part of their August losses.

Another issue often mentioned during August was the possibility that fiscal stimulus could increase significantly, especially as the monetary policies of the main central banks appear to be reaching their limits. The fact that German officials openly talked about what kind of fiscal support they could introduce was very revealing of the impact that the downturn of the economy is having.


Investment strategy

During the summer, we maintained our disciplined approach as we stuck to our relatively defensive asset allocation and even added some equity protection. Over the recent period we have observed rising market volatility, another flare-up of political risks in Europe and higher trade tensions at a time when data has been showing economic weakness. Rather than betting on strong support from central banks and on a positive resolution to the U.S.-China trade conflict, we prefer to err on the side of caution and maintain our underweight equity allocation. This stance is also explained by our focus on active risk management in a context where year-to-date performances have exceeded most of our expectations.

The trend of bond markets has continued to reflect rising concerns over recession risks and anticipations of further rate cuts by the major central banks. While we agree that the weakening of economic data justifies part of the recent rally of bonds, we think that it has likely overshot and would ex- pect a rebound of yields in the near term.


Portfolio Activity/ News

In August the portfolios ended in negative territory but the late-month rebound of global equity markets meant that the monthly drawdown was limited. The best contributions were provided by fixed-income exposures as well as some hedge funds, in particular the trend-following strategy, thanks to its high exposure to rates. The steep decline of bond yields was the main driver for long duration fixed-income funds, with some reaching double-digit year-to-date performances, quite an achievement! Most of our equity funds outperformed their benchmarks and ended with positive monthly returns. Amongst the laggards, the U.S. value and Japanese growth positions fared the worst.

During the summer, we protected the portfolios by buying a put warrant on the S&P 500 Index. This was carried out at a time when volatility was cheap, enabling to limit the cost of this transaction. The main interest of this put warrant is thatit has a “lookback” feature, meaning that its 95% strike will be fixed at the peak level of the index during the lifetime of the warrant. In the case of an equity rally followed by a correction, this solution would offer much better protection than a plain vanilla put where the strike is never ajusted.

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Investment Perspectives 2019 | Mid-Year Review & Outlook

Executive Summary

In this mid-year publication, we review our January expectations and analyse some current key economic indicators before outlining the asset allocation that we recommend for the second half of the year.

Our equity exposure has been reduced since the beginning of the year

Our assumption that markets were overpricing risks of a recession during the December correction led us to start the year being overweight equities, as we had not cut our equity allocation despite the high level of market stress. This proved to be rewarding as the strong rebound observed in the first four months of 2019 contributed to the strong performance of the portfolios, especially with bond markets also rallying.

We took advantage of the strong rise of equity markets to reduce our equity allocation significantly from overweight to underweight, reflecting our cautious outlook in view of the rising level of uncertainty. Whilst we had not expected government bond yields to climb much, the year-to-date collapse of yields has been a big surprise and a major contributor to the strong returns of fixed- income exposures

U.S. policies are a source of increasing uncertainty for markets

The high level of market stress observed at the end of 2018 was quickly replaced by a four-month period of declining volatility where markets proved to be relatively immune to negative headlines. This changed significantly in May when the optimism over a trade deal between the U.S. and China gave way to concerns over a major breakdown of trade talks following a series of “tweets” by Donald Trump. This was compounded by restrictions placed on business between U.S. companies and the Chinese tech giant Huawei and tariff threats on imports from Mexico. This list of destabilising market factors is far from exhaustive but their common point is that they all originate from the White House which has been flexing its muscles to achieve some of its objectives. With the launch of the U.S. presidential election campaign, this is likely to continue to represent a source of uncertainty and of volatility for the markets.

Markets have been boosted by the end of monetary policy normalisation

The 180-degree turn of the Federal Reserve, in announcing a pause of its cycle of rate hikes and the
end of its balance sheet reduction, has been one of the key drivers of the bond and equity markets this year. Under the end-2018 pressure from the markets, the Fed abandoned its pre-set path of one rate hike per quarter and announced that the shrinking of its balance sheet would formally end in September, much earlier than planned. At its June 18-19 meeting, the Fed turned even more dovish and opened the door for a rate cut as early as July. The European Central Bank President Mario Draghi has also been trying to reassure market participants about the bank’s ability to act amid growing doubts on the real effect of monetary policy in case of a recession. Another key driver of the markets’ rally has been the huge provision of liquidity by the People’s Bank of China (PBOC), equivalent to 60% of the creation of credit over a 12-month rolling period.

We have a cautious positioning ahead of the second half

At the onset of the second half we have modest underweight allocations towards debt instruments and equities and an overweight cash position. We feel that markets are on a sugar high as a result of increasingly dovish central banks. They also appear to be consciously ignoring a number of risks including, but not limited to, disappointing corporate outlooks, weaker economic trends, delayed central banks’ actions and a deterioration of the relationship between the U.S. and the rest of the world. At the risk of missing some short term upside we prefer to focus on the management of risk, especially when considering the appreciable year-to-date portfolio returns.

In the next section of the document, we will evaluate the macro environment and the prevailing financial conditions by highlighting several key indicators that we observe. Following a brief overview of the first half returns of the different asset classes, we will outline our current market outlook and asset allocation.

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