August 2020

A New Paradigm

Over the last century, each decade has been synonymous with an environment that has typified that period – a paradigm. From the great depression of the 1930’s, to the war time period of the 40’s. The 70’s saw high inflation and low growth, whereas the 80’s were the reverse of that. Markets adjust to these environments accordingly. The most recent decade has been typified by quantitative easing, lifting most assets. And it is this very act that is likely to have a significant bearing on this decade – effectively lowering the expected return for traditional asset classes. Investors therefore need to look elsewhere for returns and that is a core reason we see a renaissance in the value of active management.

The developed world finds itself almost entirely at record low (in some cases negative) interest rates, thanks to the aggressive policy action by central banks over the last decade and more recently as a result of COVID-19. This has had a knock-on effect of boosting asset prices, even though the underlying economic environment remains challenging at best.

We strongly believe that the traditional asset allocation structure, whilst still forming an important element of portfolios, will not be the one best placed to weather the next ten years. Take UK Government bonds for example – the yield at the end of August of the UK 10-year government bond was close to 0.3%. This means that investors buying these assets (formerly a popular way of providing some protection in portfolios) will receive a paltry total return of just over 3% over a decade. Take into account inflation and investors are guaranteeing a real loss on their money, if held until maturity. A passive approach is committed to buying such assets, whereas as active managers, we have the ability to select other assets, where returns can be more attractive, and it does not necessarily need to be at the cost of greater risk. Portfolio balance can be achieved by blending assets that compliment one another in varying environments – gold is a classic example of an equity compliment. Whilst gold and equities are volatile assets, their drivers are often different – gold will tend to fare well in a risk off environment, whilst stocks will struggle – however collectively, we believe that both assets will deliver solid returns over the long-term.

Other assets considered are that of absolute return funds – these collective investments are well diversified and have the potential to do well in varying market conditions. The severe falls in stocks in March this year was a true test for such strategies and winners have emerged. We favour those absolute return funds that we believe will deliver solid long-term returns, but with low correlation to equity and bond markets.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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July 2020

Gold

Gold prices closed in on $2,000 at the end of July, marking the highest point for the yellow metal in history. Regular readers will know that gold has been a core element in our portfolios for some time. Since the end of 2018, the backdrop has been very supportive for gold, and events of 2020 have only reinforced our view on the precious metal. This year has been the perfect storm to push gold prices up to new highs and many of the reasons for favouring the asset previously still hold true. In particular, it provides protection against a growth shock and against an inflation spike. It also usually performs well in times of dollar weakness, growth of money supply, persistently low rates and assists with portfolio diversification.

One of the main drivers for gold has been falling real yields – that is, the US Treasury yield minus the rate of inflation. Rising interest rate environments often have a dual negative effect of increasing the opportunity cost of holding gold as well as curbing inflation. So, when the inverse of this happens and real yields fall, gold tends to fare well. And that has indeed been evident this year, as US interest rates have fallen sharply.

Gold is not the only precious metal investors are paying close attention to. Silver has started to perform well in recent months too, now outperforming gold. Silver shares a number of the same characteristics as gold, and can perform well in many similar scenarios. However, silver is more cyclical than gold due to its industrial applications.

Investors wishing to access precious metals can do so through two main routes – physical replication or through shares in precious metal related companies. We aim to give clients the opportunity for exposure to both of these. Investing in precious metal producing companies is widely regarded as a leveraged way of maximising returns – when prices go up, investors expect related companies to fair much better, and vice versa. Cost of production is ever changing, but most large companies are sustainable above $1,000 gold. As prices move significantly higher, margins can improve dramatically. During times of severe market stress, it is possible that gold companies and the underlying commodity can lose their correlation due to company specific matters and investor concerns over equities generally. We saw this at the peak of the crisis in March this year. The rational reasons for owning gold are becoming ever more apparent to investors. We do not believe that prices are yet at extreme levels nor are investors exhibiting the sort of euphoric signs that often signal a topping point for an asset. We continue, therefore, to see gold as a core element in portfolios.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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Third Quarter 2020

After a deeply challenging first quarter for risk assets, Q2 of 2020 has been paradoxical in nature. In this period, the US (and many other regions) are likely to have experienced one of the worst contractions in GDP in history, and yet the S&P 500 index has managed to achieve its best quarterly return in two decades. How so, and what might the summer months have in store for investors?

In past recessions or business cycles, stocks have tended to bottom (or top) when leading indicators of the economic backdrop have bottomed (or peaked). There is evidence of this now, following a sudden and severe collapse over a period of just a couple of months, with the trough in leading economic activity likely having occurred in April this year. Markets, however, tend to look six months in advance and – where there are signs of an economic recovery – can rise, even if the economic backdrop is still recessionary. Also, recoveries following unexpected shocks have tended to be more rapid than those following recessions that arose from accelerated market cycles. The pandemic (COVID-19) would certainly seem to qualify as an unexpected shock. It is worth noting that the S&P 500 itself has a significant concentration in technology stocks, which have fared much better – both going into and coming out of the crisis – than other developed market peers (including the FTSE 100).

Looking forward, we do believe the road will be bumpy ahead for markets. On the plus side, investors do have more clarity on what they are dealing with now: COVID-19 has moved from being a known unknown (we know there is a pandemic, but we do not know how bad it will get and what the impact will be) in March, to a known known (we now have a much better understanding of the disease, how to handle it and a path to economic recovery) in June.  The world does have a lot of adjusting to do now though –  it is unlikely that the world will return to business as usual in the coming months and that we are very much in the learning to live with it phase when dealing with the virus, which will undoubtedly present social, political and economic headwinds. 

For investors, the months ahead will present opportunities and challenges, as markets move with sentiment around the virus and ensuing impact. Our positioning has a cautious stance, favouring assets that still present value in the equity space, which is now pushing us towards more cyclical sectors and away from the US market, blended with assets that can help with any further shock to growth and the potential for inflationary forces to emerge down the line. Gold and related assets remain a core element in portfolios, serving a range of investor requirements. 

Opinions constitute our judgment as of this date and are subject to change without warning. The information in this document is not intended as an offer or solicitation to buy or sell securities or any other investment or banking product, nor does it constitute a personal recommendation. Past performance is not a reliable indicator of future results. Forecasts are not a reliable indicator of future performance. The value of investments, and the income from them, can go down as well as up, and you may not recover the amount of your original investment. Where an investment involves exposure to a foreign currency, changes in rates of exchange may cause the value of the investment, and the income from it may go down as well as up. Interested parties should seek advice from their Investment Adviser. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority. Registered in Scotland SC231678. Registered Office Edinburgh Quay, 133 Fountainbridge, Edinburgh EH3 9BA.

June 2020

Alternative Protection

In addition to pure equity investment, we also look for a blend of assets – covering equities, bonds and alternative investments. This has the dual objective of achieving a return at the same time as dampening the   high levels of volatility associated with investing solely in stocks. The non-equity portion of a portfolio has in recent years followed a particular trend of falling interest rates. This has seen lower income returns which have been more than offset by capital appreciation. Now,  however, investors buying Sovereign bonds are being locked into flat or negative real returns (if held to maturity), and so this month we are looking at alternative approaches to protecting portfolios in what is still undoubtedly a deeply challenging economic backdrop.

The UK 10-Year Gilt (government bond) yield was 0.16% at the end of June. If held until maturity, investors can expect a total return of just under 2% over 10-years. Given the Bank of England’s inflation target, the real return is likely to be negative after only one year. It does raise the question as to why investors would settle for these returns. In our view, there is still some merit in holding government bonds in a portfolio – but for short periods  of time on a tactical basis – when equity markets are volatile.

We are constantly exploring and investing in alternative options that we hope will help provide  the diversification and return profile that a traditional defensive area, such as Sovereign bonds, once gave. In our portfolio construction we would expect to include in the asset mix inflation-linked bonds as an alternative to the conventional bonds discussed above, with added protection should inflation trends accelerate . Gold is another useful asset that we have talked about in recent months. Absolute return funds – that look to derive returns from the market in various ways – can often be a useful tool in portfolios but require monitoring. They may perform well during periods of market stress and be steady in fair-weather conditions. Overall, with the International Monetary Fund continuing to lower its economic forecast for the year, we intend to continue our cautious portfolio positioning over the summer employing some of the strategies described above.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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May 2020

As May has come to a close, it has seen widespread easing of lockdown measures around the world. It is yet too early to gauge how the virus will react to such measures and to what extent a second spike will emerge. It is likely that waves of new infections will occur, but the hope is that they will be localised and more easily contained, given experiences of the last few months. The world appears to have moved from uncertainty and despair of the situation to a phase of learning to live with it – at least until more effective treatment is developed, and a vaccine is ultimately found. Markets have responded accordingly, with the wild swings of March and April, calming in May.

We have been spending time assessing the nature of this crisis, relative to others. The financial crisis in 2008 could be considered a systemic shock – which changes the whole level of the stock market. Everyone gets poorer and it is bad for us all. The other type of shock is idiosyncratic, where the effects vary across different sectors, different parts of the economy and across the world – and investors have to decide who are the long-term winners and who are the losers. It is this (systemic) type of shock Central Banks are desperate to avoid. We have seen from the policy response to COVID-19, that huge attempts are being made to stop this idiosyncratic shock becoming systemic.

The rise in the value of risk assets (equities) since the market bottom in March, has been led by those companies best placed to either capitalise or weather the effects of COVID-19. These have been sectors such as technology, consumer staples and utilities. That still leaves a big part of the market relatively close to the lows of March. As (bad) luck would have it, it is those sectors that have not fared well in the years prior to the pandemic that have been hurt the hardest – financials, energy and industrials to name a few. These sectors have been firmly in the value camp for a number of years now, with valuation dispersion (relative to quality/growth business) now at historically divergent levels. Favouring ‘value’ stocks (which offer a useful level of income and an underpinning of asset value) over ‘growth’ stocks, has been a winning approach over the very long-term, but this has not rewarded investors over the past decade. Whilst a number of businesses in these sectors are in poor condition, there are pockets of real opportunity emerging – and it is these areas that we are assessing, with a view to a partial allocation of capital in favoured managers best place to exploit such opportunities over the medium-to-long term.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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Second Quarter 2020

The Health of the Nation.

The Coronavirus (or Covid 19) has struck at a time when the global economy was slowing in any event. Various forms of fiscal and monetary stimulation failed to reignite the global economy. Now, despite record low interest rates, sluggish growth globally has slid into recession thanks to the economic shutdown in containing the virus.

Understandably, the UK government has been reluctant to commit to alternative options to the lockdown in the absence of definitive scientific evidence – which will likely only fully surface as the outbreak fades. There are serious conflicts to consider. Initial indications suggest the vast majority of deaths are occurring in the elderly, and that the young and working age population are relatively exempt. Soon, other voices will increasingly be heard from those without work, who are left in a precarious financial position.

To put the scale of economic distress in context, this financial setback is already of a similar scale to the financial crash of 2008 when the global banking system nearly came to grief. The world now ponders how to emerge from this crisis and here there may be some cause for optimism. As nations recover virus free health, there is a good case for economic revival as well. To date, the impact of the huge government stimulus to the personal and corporate sector has yet to make its mark. President Trump may not have been far wrong when he planned huge infrastructure spending, but this has fallen foul of the change in balance of power in mid-term elections. Jeremy Corbyn’s seemingly excessive public spending plans now look trivial compared to current spending by a right of centre government.

This is likely just the beginning of a government spending work programme to tackle mass unemployment. The likely outcome, rising inflation. Often feared as a route to impoverishment for those on fixed incomes, it may be the best way to reduce the real value of global debt, which is so great it stifles the route to global economic growth at present.

We believe that one way to protect portfolios in the current climate is to invest in Gold and gold shares and to buy bonds with inflation protection. This gives us the opportunity to be on the best footing, while looking for value in equities. Any return to normality may be delayed by uncertainty in the global banking system and money markets – until there is clarity, for example, in the stability of the Italian financial system.

Our belief is that the near meltdown in 2008 is fresh enough in everyone’s minds to extend the mutual co-operation we have seen in tackling Covid-19, to the financial challenges ahead. If not, then further volatility is to be expected. Our hope would be that the world is on the way to repairing the type of balance sheet recession that occurred in Japan for two decades. A good bout of Keynesian reflation could work wonders and propel real assets to higher values; and this would normally include good quality equities.

Opinions constitute our judgment as of this date and are subject to change without warning. The information in this document is not intended as an offer or solicitation to buy or sell securities or any other investment or banking product, nor does it constitute a personal recommendation. Past performance is not a reliable indicator of future results. Forecasts are not a reliable indicator of future performance. The value of investments, and the income from them, can go down as well as up, and you may not recover the amount of your original investment. Where an investment involves exposure to a foreign currency, changes in rates of exchange may cause the value of the investment, and the income from it may go down as well as up. Interested parties should seek advice from their Investment Adviser. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority. Registered in Scotland SC231678. Registered Office Edinburgh Quay, 133 Fountainbridge, Edinburgh EH3 9BA.

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