Latest UK economic and market outlook.
As we went through Autumn last year we started to anticipate that we were getting closer to a peak in bond yields and felt that if bond yields did indeed start to roll over this would be a positive catalyst for equity markets, including the UK. Accordingly, we reduced the cash balance to ensure that we were fully invested, further increased our exposure to mid-cap stocks, where valuations continue to be extremely attractive, and selectively increased exposure to some of the more cyclical areas of the market. This helped the fund to outperform during the recent market rally, with some of the strongest contributors to performance in Q4 coming from Consumer Discretionary and Industrials.
As we begin 2024, bond yields have indeed declined quite sharply from the highs in October and this was a key driver of the rally in equity markets towards the end of last year. In the very short term it is possible that the decline in bond yields and expectations for rate cuts have overshot. Consequently, rate expectations and bond yields may tick up from current levels, which could see equity markets pause for breath after the strong move up in recent months. However, taking a step back, we do believe that we have seen the highs in bond yields and the peak in interest rates for the time being. Whilst we wouldn’t rule out more volatility in the months ahead, this is fundamentally supportive for equities.
In terms of overall positioning, we continue to maintain a degree of balance, with the beta still slightly below 1. As before, we continue to see very good opportunities in mid-caps, not just in cyclical sectors where there remains a valid debate on the macro outlook, but valuations are also very depressed in many mid-caps, with highly visible earnings outlooks and this has been an area where we have continued to add. For example we added to Serco, where the valuation is very attractive for a business demonstrating continued good momentum and an attractive growth outlook with low cyclicality, and where the stock is starting to perform as some perceived headwinds recede. Similarly we added to DCC and Telecom Plus where again highly visible, strong outlooks with very little cyclical exposure appear to be materially undervalued by the market. We have also been adding to Consumer Staples. Overall the sector struggled last year as the fundamentals in certain sub-sectors were weak, notably Spirits, where we remain underweight. This has led to a broad derating of the Staples sector, presenting opportunities in several names that fit into the category of derated, defensive duration plays.
Our key overweight sectors are Industrials, with a skew to defensive growth and infrastructure; Consumer Discretionary, spanning a range of sub-sectors from Travel & Leisure and Personal Goods to more defensive growth names such as RELX and Compass; Healthcare, which we see as very attractively valued, with the sector having continued to de-rate through 2023; and Consumer Staples where, as discussed above, we have been adding. Key underweight sectors continue to be Financials, where the reduction in interest rate expectations is a headwind for the banks; and Basic Resources, where we are underweight both Mining and Energy as we see the potential for weakness in late cycle commodity prices.
Nothing in this document constitutes or should be treated as investment advice or an offer to buy or sell any security or other investment. TT is authorised and regulated in the United Kingdom by the Financial Conduct Authority (FCA).