UK equities have the potential to surprise on the upside, says Thames Valley Investments’ David Stephenson.
‘Investors are generally underweight the sector, as we’ve been, but M&A activity shows how attractive UK companies are. I’d like to add to this area on any setbacks,’ said Stephenson, an investment adviser at the firm.
The team’s global macro view represents a starting point for asset allocation, and this guides fund choices. ‘Funds are selected for the long term, but holdings are routinely adjusted, depending on valuation and the macro situation. Although difficult to predict, currency movements and views are very important, although hedged share classes are only used if there’s a very strong view,’ he said.
The team remains underweight bonds and prefers equities for the long term. In equities, it is overweight financials and European equities.
‘Financials should do well in a rising interest rate environment. The US could raise rates four times this year and higher long-dated bond yields are good for bank profitability. For the same reason, we’re avoiding long duration fixed interest, although we have exposure to floating rate notes,’ Stephenson said.
Finding value in value
The team holds M&G Global Floating Rate High Yield, which has benefited from rising US interest rates. It also holds several strategic bond funds that have the freedom to keep duration low and react quickly to market movements.
In addition, it has increased weightings to value-orientated equity funds, following the strong run growth stocks have experienced in recent years. Stephenson expects later cycle stocks, such as commodities, to perform well this year.
‘Longer term, I think Asian and emerging market equities should do well. But they may be hampered in the short term by a strong US dollar,’ he added.
In the past year, the team’s low bond exposure has driven returns across portfolios. But Stephenson acknowledges this was not the case over three years, during which yields fell to record lows.
Over three years, the team’s overweight in equities has been a key performance driver. ‘Our high overseas exposure was boosted by currency gains after Brexit,’ Stephenson said.
Looking ahead, the investment adviser expects equity markets and bond yields to rise in the second half of the year. ‘Any signs inflation is taking off will frighten markets,’ he said.
In light of this, the team is gradually reducing risk in portfolios. ‘As yet, I don’t think it’s time to use longer dated bonds as a safe haven,’ Stephenson concluded.