Newsletter | June 2020

THE PRICE OF A BARREL OF BRENT OIL MORE THAN DOUBLED IN MAY

$10 TRILLION THE POTENTIAL PRICE TAG OF THE GLOBAL COVID-19 BAILOUT

Investment perspective

Global equity markets extended their rally in May and proved to be resilient to any negative news. Emerging markets underperformed as Chinese and Hong Kong stocks were negatively impacted by rising US-China tensions and Indian stocks were hit by COVID-19 concerns. Government debt markets were quite stable while HY and EM debt performed strongly during the second half of the month. In spite of this significant risk-on environment, the price of gold appreciated modestly, in part the result of a weaker US dollar. A proposal from Brussels for a €750 billion recovery fund, earmarked for the struggling economies of southern Europe, contributed to a strong end to the month for European assets, with the euro recording a 1.3% monthly gain against the US dollar. Finally, oil prices staged a spectacular rebound following a turbulent month of April; the price of a WTI barrel climbed by over 88% thanks to the combined effects of a recovery of demand and significant production cuts.

The acceleration of the re-opening of Western economies has been the main driver for risk assets; the markets’ belief that central banks are prepared to provide more support and that additional fiscal packages will be rolled out are other reasons behind the powerful ongoing rally. The markets have, at least so far, brushed aside the significant rise of tensions between China and the United States. The US has blamed China for the spreading of the COVID-19 coronavirus and also accused China of not respecting the terms of the 1997 Hong Kong handover agreement by imposing a new security law. Markets also appear to be currently ignoring all economic fundamentals, concerns over a second wave of the coronavirus, uncertainty over the timeline and availability of a vaccine, trade threats and near-term corporate profitability.

A lot has been written recently about the outperformance of the Growth style over Value this year, as well as over a much longer period, but there are some signs that Value could be starting to catch up a little. Sectors such as Energy, Financials, Industrials, Materials and Autos have been picking up steam and outperforming other sectors such as Consumer Staples and Healthcare which have been more resilient since the beginning of the year.

Investment strategy

We did not change the positioning of our portfolios in May and have kept in place the Put protection for around half of the equity allocation. The maturity and the strike of the Put option have been adjusted after we took some profit on the Put option initially bought in early-March. The result since this switch has been for the value of the portfolios to benefit from the higher appetite for risk assets and for the declining value of the Put option to represent a small opportunity cost. We feel very comfortable with the current positioning as we remain somewhat wary of the one-way direction of equity markets and of their increasingly demanding valuations.

The rally of equities has been accompanied by a rally of high yield and emerging market bonds since the middle of May; we had maintained our exposures to both asset classes after the market correction. The valuations of both asset classes are attractive in view of the high level of spreads and default expectations which are close to maximum levels observed on a historic basis.

EQUITY MARKETS APPEAR TO BE DEFYING THE LAWS OF GRAVITY

Portfolio Activity/ News

Portfolios continued to make up lost ground in May as nearly all the underlying positions ended the month with positive returns. Within the equity asset class, Japanese equities, US and European Small Caps as well as Growth stocks produced the highest contributions. Significant contributions were also generated by various fixed-income exposures with emerging markets' corporate bonds, global convertible bonds and high yield credit performing the best. Some alternative strategies which had posted strong performances during the correction of the markets ended the month with limited negative performances. We cut our exposure to the Risk Premia hedge fund strategy because of a combination of disappointing performance and of the strategy’s dwindling assets under management.

In a context of rallying equity markets and lower volatility, the biggest detractor for the portfolios was logically the Put position which serves as a protection for part of the equity allocation. During the month, we rolled over our position by selling the S&P 500 June 3’000 Put option in favour of a S&P 500 September 2’750 one.

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Newsletter | May 2020

THE WTI CONTRACT FOR MAY TRADED AT NEGATIVE PRICES CLOSE TO ITS EXPIRY DATE

+ 15.5% THE NASDAQ COMPOSITE HAS ITS BEST MONTH SINCE 2000

Investment perspective

The late-March rebound of equity markets was extended in spectacular fashion during April. The MSCI World Index recorded a 10.4% monthly gain, with US equities outperforming under the leadership of the stockmarket’s ubiquitous heavyweights. In contrast, the improvement of bond markets was more muted and sovereign debt yields ended the month slightly lower. Gold prices held on to strong early-month gains to end the month 7% higher. Oil markets were particularly eventful. The expiration of May WTI contracts triggered a stampede for holders of these contracts as they were unable to take physical delivery of oil; with US storage in Cushing being close to capacity, investors had no choice but to liquidate May contracts at all costs, with the result that prices traded as low as negative $38, an event which had never been observed before. Finally, currency markets regained their composure and the main FX crosses ended with small monthly changes.

The April rally of equities was largely a result of the massive support from the main central banks and from governments. Unprecedented liquidity was provided by the Federal Reserve and by the ECB in order to bring stability back into bond markets and to enable companies to access credit again. Markets were also driven by the evolution of the coronavirus pandemic; an increasing number of countries observed sufficiently positive results from their lockdown measures to start gradually lifting some of the restrictions in an attempt to restart their economies. Optimism over an anti-viral treatment also contributed to market euphoria, despite the publication of economic data showing that the fallout from the shutdown of the economy had been more severe than expected, already during the first quarter: US Q1 GDP contracted by 4.8% and Eurozone GDP by 3.8%. The Q1 earnings season is well advanced and, while it is difficult to characterize the extremely diverging set of results, markets have largely taken them into their stride. The most striking aspect of this reporting season has been the inability of companies to provide guidance in view of the extremely uncertain environment.

The chart shows the year-to-date returns of the Nasdaq Composite, the Euro Stoxx 50 and the Russell 2000 Value. The outperformance of the Nasdaq Com-posite Index has been large and results mainly from its overweight exposure to the technology sector. The broader US equity market has also rebounded much more strongly than those of other regions, including Europe. Finally, “Value” has continued to underperform “Growth”, with the spread between the valuations of both investment styles reaching a multi-decade extreme.

Investment strategy

The strong rebound of equity markets, US ones in particular, would suggest that a more optimistic scenario, where both the economy and the profitability of companies recover quickly, is being priced in. One must however pay attention to what has been driving these gains and a disproportionate part of the outperformance of US equities has been provided by the five mega-caps: Facebook, Alphabet, Amazon, Apple and Microsoft. Were these stocks to weaken, the rest of the market would likely be dragged down as well.

The path of the global economy in the months ahead is very difficult to predict but we believe that a quick return to pre-pandemic activity levels is unrealistic. It will take a long time for certain sectors to fully recover and higher unemployment will affect consumer spending, the largest GDP component. We consider that equities are richly valued, in view of the elevated level of uncertainty, and we continue to exercise caution by holding on to our equity protection.

WE CONSIDER THAT EQUITY MARKETS ARE PRICING IN AN OVERLY OPTIMISTIC OUTLOOK

Portfolio Activity/ News

April was a strong month for the portfolios which recovered part of their March losses with nearly all underlying positions recording positive returns. The largest contributions were provided by the US Value strategy, US and European Small Caps and US Growth funds. Japanese and Frontier markets equity funds also fared well. All bond funds ended the month with gains as the massive liquidity provided by central banks contributed to reestablish some stability in the fixed-income markets; high yield and senior secured debt rebounded well whereas convertible bonds have showed their resilience with limited year-to-date drawdowns. The investment into gold in March also proved to have been opportune.

Following their strong showing during March, some of the alternative strategies gave back some of their year-to-date gains. The biggest detractor for the portfolios was logically the Put position; its value consistently depreciated during the month as equity markets moved higher and as volatility decreased from extreme levels.

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Newsletter | April 2020

THE FEDERAL RESERVE SLASHES RATES BY 1.5% IN MARCH TO A TARGET RANGE OF 0% - 0.25%

$2 TRILLION THE US VIRUS AID PACKAGE EQUALS ABOUT 10% OF US GDP

Investment perspective

March was the most dramatic month for capital markets since October 2008. The end-February plunge of equity markets spread across all the other asset classes and only very few managed to end the month with gains. Chaos was observed even in the markets of the safest assets, as a result of panic selling to raise cash at all costs; 10-year Treasury yields initially fell from 1.14% to an all-time low of 0.32% before jumping back up to 1.3% to then end March at a level of 0.67%. The price of gold dropped by 12% within seven trading days as margin calls forced investors to liquidate positions. Huge volatility was also observed in the currency markets, due to a rush for dollars, and the EUR/USD parity traded within a wide range of 1.06 - 1.15. The coronavirus Covid-19 pandemic was obviously the driver of market stress, but this was also compounded by the collapse of oil prices; Russia walked away from OPEC + discussions over a Saudi proposal for additional production cuts. This outcome resulted in oil prices dropping by more than 50% in March.

In contrast to what took place during the great financial crisis in 2008, fiscal and monetary authorities have been very quick to respond. Record-breaking aid packages and unprecedented support for financial markets have been announced. The Federal Reserve slashed interest rates by 1.5% to zero in two emergency moves and has committed to an unlimited expansion of its bond purchasing programs. US Congress voted in favour of a $2 trillion Coronavirus aid package and is already considering doing more. After a stuttering start in its answer to the crisis, the ECB also ramped up its asset purchase program, which now amounts to € 1’100 billion. In Europe, governments have taken a broad range of measures to support households and companies, destined in particular to prevent massive unemployment. On a less positive note for the Eurozone, a proposal to issue “Coronabonds” in order to drive down the borrowing costs for some of Europe’s most heavily affected countries was rejected by Germany, the Netherlands, Austria and Finland.

The chart above illustrates the speed of the equity market correction from its February 19 peak; the S&P 500 Index plunged by 34% until March 23 before rebounding by 15.5% to end with a monthly loss of 12.5%. This was the fastest stock market correction in history and reflects the huge pressure on equity prices in reason of massive deleveraging, deep rebalancing across a range of strategies and outright selling. An end of month/quarter rebalancing in favour of equities was also likely the main driver of the late month rebound.

Investment strategy

Our allocation to equities has been significantly underweight since March 3rd when we covered half of their exposure by the purchase of an end of June S&P 500 Put, strike 3’000. The equity allocation of our balanced model portfolio was thus reduced to 23%; following the correction of equity markets, the net exposure to equities has now dropped to below 20%. For the time being we are maintaining this protection in view of extreme uncertainties. The impossibility to determine the length of widespread confinement measures, their ultimate impact on the economy as well as a total lack of visibility on future earnings are the key reasons for our cautious stance.

The management of the Put position is our main focus and, were markets to fall further, we are prepared to lift at least some of this protection. We are also willing to be proven wrong if equity markets were to rebound strongly, with the result that the hedge would then represent an opportunity cost for the portfolios. We have also been actively engaging with the managers of our funds to make sure they are not facing undue redemption pressures and, so far, we have been reassured that this has not been the case.

WE MAINTAIN A DEFENSIVE POSITIONING IN VIEW OF EXTREME UNCERTAINTY

Portfolio Activity/ News

March was a very difficult month for the portfolios as all asset classes found themselves under huge pressure. With virtually nowhere to hide, we were relieved that we had partially hedged the equity exposure and that some of the alternative strategies (L/S, CTA & Global Macro) proved to be very resilient and able to generate positive monthly returns.

Some fixed income positions were badly hit, high yield credit and emerging market debt in particular, as market liquidity evaporated. On a more positive note, active managers have been much less impacted by redemptions than ETFs, which often traded at levels well below their net asset value. Bond markets are gradually returning to normal thanks to the actions of the central banks, but market conditions remain very challenging nevertheless for the riskier segments.The performance of equity funds was very heterogeneous. US value and frontier markets were the biggest detractors while Japanese equities, US Small Caps, Healthcare and US Growth managed to limit the drawdowns.

During the month, we opportunistically took advantage of the steep drop of the price of gold to reinitiate a position in physical gold for some portfolios. Negative real interest rates, currency debasement concerns and exploding budget deficits should all provide a supportive framework for real assets such as gold.

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Newsletter | March 2020

THE FEDERAL RESERVE MAKES A 0.5% EMERGENCY RATE CUT TO A TARGET RANGE OF 1% - 1.25%

0.80% THE 10-YEAR U.S. TREASURY YIELD AT AN ALL-TIME LOW IN EARLY MARCH

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.

MARKETS ARE HAVING TO FACE AN INCREASING LEVEL OF UNCERTAINTY

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

APPLE’S $1.4 TRILLION MARKET CAP SURPASSES THE WHOLE VALUE OF GERMANY’S DAX

1.50% THE 10-YEAR U.S. TREASURY YIELD NEARS ITS 2019 LOW

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.

MARKETS HAVE SHOWN RESILIENCE IN FACE OF THE CORONAVIRUS

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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Newsletter | December 2019

THE FED’S BALANCE SHEETHAS GROWN BY $293 BILLION SINCE THE END OF AUGUST

5.5% ONE-YEAR EURO/DOLLAR VOLATILITY REACHES A RECORD LOW

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.

MARKETS REMAIN VERY SENSITIVE TO ANY TRADE-RELATED NEWS

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

THE U.S. BUDGET DEFICIT HAS TOPPED $1 TRILLION SO FAR THIS YEAR

+ 5.3% THE BEST MONTH FOR STERLING/DOLLAR PARITY IN A DECADE

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.

EQUITIES ARE CLIMBING THE WALL OF WORRY BUT ARE STILL LACKING CONVICTION

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

THE GLOBAL STOCK OF NEGATIVE-YIELDING DEBT REACHES $17 TRILLION

10% THE OVERNIGHT REPO LENDING RATE SPIKES

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.

ECONOMIC WEAKNESS LIKELY TO WEIGH MORE ON MARKETS

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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