Thus far 2018 has been a much more volatile year than 2017.
Firstly, we had material declines in stock markets in February and March.
The February correction appears to have been an adjustment to investor sentiment, which had become rather bullish about the outlook for 2018 (share prices reached record highs in January).
The March correction was more fundamentally focused as it coincided with President Trump’s first announcement of the plan to impose tariffs on some US imports from China.
Markets have resumed an uptrend so far in the second quarter, but the US/China trade disputes are no nearer a resolution and in late May we have the spectre of ongoing Italian political instability heralding a summer with the eurozone back on the front pages.
Despite these ongoing challenges we are not seeing signals of an impending recession in the major economies and we continue to expect a year of robust earnings growth.
Equity valuations are no longer particularly elevated, whereas bond prices remain stretched.
Equities continue to be relatively attractive and we maintain our overweight position in the asset class, along with a corresponding underweight in bonds.
Within equities, we are overweight industrials, specifically those which can grow free cash flow on a sustainable basis without being too expensive.
In the technology sector, we continue to have meaningful exposure but remain highly selective as we do not expect a repeat of 2017 when a narrow field of stocks led the market.
That said, we are still very positive on Amazon, which continues to move higher on expectations of strong operating momentum and with less risk of potential regulatory oversight than the social media names.
Our chief areas of underrepresentation are utilities and banks.
We have concerns about both the growth prospects and return profile of banks as the era of cheap funding from quantitative easing comes to an end.
We also see growing signs that digital disruption and alternative sources of loan financing could undermine traditional banking models in the future.
One new holding added to the portfolio in the first quarter was Schlumberger, the world’s largest oil services company.
It offers superior technical expertise, equipment and oil field data that helps its customers to improve efficiency, thereby lowering their costs.
Over the past few years, we have witnessed a sustained period of low capital expenditure in the oil sector, as lower oil prices drove subpar returns on capital and shortfalls in cash flow.
Companies have consequently depleted their reserves to the low end of historical norms. At some point, production levels will have to increase to replace this used inventory and Schlumberger’s revenues are directly linked to this increase in activity.
