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Four choices investors need to make in a difficult 2019

28 December 2018

Chelsea Financial Services’ Darius McDermott highlights four key decisions for investors in 2019 and the funds that may be able to help them in another difficult year.

By Rob Langston,

News editor, FE Trustnet

Equities or bonds, developed or emerging markets, growth or value, and large- or small-caps are the key choices that investors will have to make next year, according to Chelsea Financial Services’ Darius McDermott.

After a challenging 2018 – in which markets experienced the return of volatility, more tightening by the Federal Reserve and a burgeoning trade war between the US and China – McDermott said that 2019 “could be another difficult year for investors”.

He said: “The consensus is that a recession is highly unlikely next year, but the stock market does tend to act ahead of the economy. So it could be another volatile 12 months.

“Investors may be well-served taking a look at the make-up of their portfolios and perhaps rebalancing any biases – whether intentional or not – that exist.”

As such, McDermott said there would be four key decisions that investors need to make heading into 2019.


Equities or bonds?

The first decision facing investors in 2019 is likely to be which asset class to back, said the Chelsea Financial Services managing director.

“While global stock markets have fallen from their highs, I still prefer the asset class to bonds,” he said.

“The US economy is still growing, which should be a positive for stocks, and I fully expect the US central bank to continue raising interest rates, which should be a negative for fixed income.”

Performance of indices YTD

 

Source: FE Analytics

He warned that if government bond yields continue to rise further the time may come to re-enter the asset class.

“But for now I prefer bond funds that are positioned to be less sensitive to interest rate movements,” McDermott added.


Developed or emerging?

The second choice investors are likely to face is whether to back emerging or developed markets, although after a troubling year for the former that might be more of an easier decision.

“Rising interest rates should support the US dollar and keep it strong, which is bad news for emerging markets,” said McDermott. “Couple this with the impact they have yet to feel from the trade war tariffs and emerging economies could start to slow and see inflation pick up.”


Nevertheless, long-term investors may be able to find bargains among emerging markets currently, although they may have to wait some time for the rewards, said McDermott (pictured).

He added: “I prefer developed markets for now – in particular Japan and Europe, where valuations are more attractive than the US on a relative basis.”


Growth or value?

Next on McDermott’s list of choices is the question of which style to back in 2019.

With growth stocks having dominated for much of the post-global financial crisis, there have been signs that the unwinding of quantitative easing and hiking of interest rates could pose a more difficult backdrop for outperformance going forward.

“Quantitative easing from the world's central banks has created a somewhat artificial cycle,” explained the Chelsea Financial Services managing director.

“The result has been a longer period of rising stocks markets, but a more muted recovery than history would have suggested.

“This could well continue but, as quantitative tightening gathers pace and growth become less attractive, value stocks could make a comeback.”

He added: “I think it prudent to be 'style-neutral' at this point – which could mean investors need to top up on value holdings if they are currently underweight.”


Large or small?

Finally, investors will have to decide whether they wish to have more exposure to larger or smaller companies.

“The biggest risk to the UK stock market at the moment is Brexit,” explained McDermott. “If we get a 'hard' exit, small and medium-sized companies are likely to be hit harder than larger ones, as they are more domestically-focused.

“In the same vein, if global stock market volatility is to continue, larger companies tend to outperform in the shorter term.”

At the latter stage of the cycle, McDermott said he prefers a higher weighting to larger companies than he would do usually.


Below are four funds McDermott thinks could be suitable for investors in 2019 given the above market backdrop.


Investec Global Special Situations

McDemott said the £159.7m, four FE Crown-rated Investec Global Special Situations fund is one that investors could consider.

The high conviction, contrarian value fund – run by Alessandro Dicorrado and Steve Woolley – focuses on buying companies that are out of favour and which have fallen 50 per cent relative to their index.

Since the pair took over the fund in January 2016, it has delivered a total return of 37.44 per cent, compared with a gain of 37.4 per cent for the benchmark MSCI AC World index and a 31.98 per cent rise for the average IA Global peer.

The fund has an ongoing charges figure (OCF) of 0.91 per cent.


Fidelity Special Values

FE Alpha Manager Alex Wright’s Fidelity Special Values investment trust is another strategy making McDermott’s list for 2019.

The closed-end fund aims to achieve capital growth by investing primarily in unloved UK companies and waiting for them to come back into favour.

“Wright, who usually has a bias towards smaller and medium-sized companies, has said recently that he is finding far more opportunities in the UK larger companies than he has in the past,” said McDermott.

Since Wright took over in September 2012, the trust has delivered a 145.43 per cent total return compared with a 73.76 per cent gain for the average IT UK All Companies member and a 54.45 per cent return for the FTSE All Share index.

Performance of trust vs sector & benchmark under Wright

 

Source: FE Analytics

Fidelity Special Values is trading at a premium to net asset value (NAV) of 1.7 per cent, is 26 percent geared, has a 2.2 per cent yield and ongoing charges of 1.05 per cent, according to data from the Association of Investment Companies.


Janus Henderson European Selected Opportunities

The £1.9bn Janus Henderson European Selected Opportunities fund, managed by veteran investor John Bennett, should give investors exposure to some under-researched European equities, according to McDermott.

Using sector analysis in his process, the high high-conviction portfolio of 50-65 mega and large-cap stocks has neither a growth nor a value bias.

Under Bennett, who took over in February 2010, Janus Henderson European Selected Opportunities generated a 108.49 per cent total return compared with a gain of 86.66 per cent for the average IA Europe Excluding UK fund. It has an OCF of 0.84 per cent.


AXA Framlington Japan

Another fund from one of McDermott’s preferred areas is the five FE Crown-rated AXA Framlington Japan fund.

The £298.3m fund, overseen by FE Alpha Manager Chisako Hardie, invests in companies with long-term growth prospects, independent of short-term newsflow or what is going on in the wider economy.

“The team identifies thematic trends which generate ideas and inform their stockpicking,” said McDermott. “Recent themes include: the globalisation of Japanese food, ageing populations, automation and the increased use of electronics in cars.”

During Hardie’s tenure, stretching back to April 2010, AXA Framlington Japan has delivered a total return of 110.12 per cent compared with a gain of 76.16 per cent for the average IA Japan fund and a 75.07 per cent return for the FTSE Japan index. It has an OCF of 0.84 per cent.

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