November was an eventful month for financial markets, with the outcome of the US presidential election prompting significant intra-month volatility and an acceleration of the correction in bond markets.
At first glance, the response from global stock markets to Donald Trump’s victory looks surprisingly benign but headline index returns mask a considerable rotation between sectors. This stems from Trump’s pledge to cut taxes and increase infrastructure spending, which has been deemed positive for the parts of the market, such as construction companies and providers of raw materials, which are expected to benefit most from the new administration’s policies.
This has become known by some in markets as the ‘reflation trade’ and it has had a noticeable impact on price behaviour in the near term. We would caution against becoming too carried away by the prospect of a sustainable ‘reflation’, however. Making America great again is, in our view, going to be much more challenging than the market’s behaviour seems to imply. The US economy has been held back in recent years by structural issues, such as ageing demographics, weak productivity and excessive debt, that are just too significant to be tackled in a single political cycle. No president can have enough influence over these issues to make a material difference within four years, and we believe they will continue to exert as much of a profound deflationary impact on the US economy as they will on the UK economy and other developed economies around the world. In this sense, we believe that the market’s reaction to the election result has been based on misplaced optimism on growth and inflation.
Nevertheless, this market behaviour has created a challenging backdrop for the fund in recent weeks. During November, the fund delivered a negative return and marginally underperformed the broader UK stock market. Among the largest detractors of performance were our tobacco stocks, Imperial Brands and British American Tobacco, both proved vulnerable to the market’s current distaste for ‘bond proxies’ as bond yields headed higher. As we have said before, we don’t believe that this is an appropriate reaction to what has been happening in bond markets. We also remain convinced that tobacco stocks are extremely well-placed to deliver very attractive long-term returns to investors and added to both positions during the month.
Similarly, AstraZeneca and GlaxoSmithKline weakened further. There was no fundamental justification for these share price moves. Indeed, there was incrementally positive pipeline progress from both companies during the month and solid financial results from AstraZeneca.
On a more positive note, some of the portfolio’s strongest performers were its US pharmaceutical and biotechnology holdings. In part, these stocks were beneficiaries of the post-election relief rally in the US healthcare sector, but they were also helped by some positive fundamental developments.
For example, Prothena announced highly encouraging clinical data from an early-stage trial of PRX002, a potential treatment for Parkinson’s disease, which is being developed in collaboration with Roche. The PRX002 antibody appears to be safe and – crucially – it is able to penetrate into the brain. Currently available treatments only moderate the symptoms of the disease because, thus far, it hasn’t been possible to get drugs into the brain to modify the disease itself. This latest clinical data therefore offers the prospect of a major breakthrough in the struggle against a condition that affects millions worldwide as PRX002’s ability to reach the brain makes it a potentially disease-modifying therapy. Prothena now has three high potential assets under development, all of which are progressing through the pipeline rapidly and positively.
Another good performer was Theravance Biopharma, whose shares were helped by positive news on the Closed Triple combination therapy for patients with chronic obstructive pulmonary disease (COPD), which is being developed by GlaxoSmithKline and Innoviva. GlaxoSmithKline has filed a New Drug Application in the US for this therapy, marking an important milestone in its progress towards commercialisation. Recent developments bring forward the point at which Theravance will benefit from the royalty interest that it retains in the drug’s future sales. AbbVie and Alkermes also performed well.
Outside of the healthcare sector, other positive contributions came from the food business, Cranswick, which released very strong half-year results during the month and Legal & General on very little news.
Turning to portfolio activity, we reduced the portfolio’s exposure to non-life insurance company, Hiscox, which has performed very well over a long period of time. It is a great business, in our view, with attractive long-term growth prospects and a very strong, disciplined management team. Its shares now value these positive characteristics more appropriately, however, and so we recycled part of the position into other opportunities where valuations are a bit more appealing.
These included the commencement of a new position in life insurance business, Aviva. In some respects, the investment case for Aviva is similar to that for Legal & General as both companies have good management teams and very attractive valuations, particularly in terms of yield. Aviva, although broadly similar to Legal & General, has a portfolio of different growth drivers in savings and protection markets and we deemed it attractive enough to start building a modest position.
Elsewhere, we also took advantage of unjustified share price weakness to add to our positions in AstraZeneca, Drax, and Stobart at what we consider to be very attractive valuations. We also added a new unquoted position in the form of Accelerated Digital Ventures (ADV), a newly-formed business that aims to provide patient capital to young British digital businesses with significant growth potential.
In terms of outlook, we continue to believe that the portfolio is appropriately positioned for the current environment, based on what we expect to unfold in the years ahead. As such, we are absolutely confident that the fund is well-placed to deliver very attractive returns over the next three-to-five years. This has, however, been a challenging year for the fund’s performance. Given our fundamental long-term approach, we expect our investment strategy to underperform in certain market conditions but, at the same time, we appreciate that the experience can be discomforting for some investors. That is why we believe it is important to keep you informed of our progress and to help you understand the drivers of performance. Like last year, we are planning a ‘year in review’ piece in early January and we would like to use this as an opportunity to address any questions or concerns that you may have. We can’t promise to answer all questions, but if there is anything you would like us to cover in the New Year, please post your questions as comments below.
In the meantime, we would like to take this opportunity to wish you a Merry Christmas and a Happy New Year.