The equity weighting was 68% of the Strategy at the end of September. Globally, the US stock market continued to standout as a stellar performer with many other indexes down, or in the case of Japan, flat for the quarter. We have held an overweight position in Japan, which has been be a successful position to take. No matter, we were concerned that Japan could possibly suffer if the US and China trade war worsened or if president Trump targeted the Japanese directly. Over the quarter we decided to reduce our overall exposure profitably by reducing the holding in the Schroder Tokyo fund. The prospect for rising oil prices led us to add Pioneer Natural Resources, which is exclusively focused on US shale oil production, to the Strategy. In the technology space we decided to take profits from Apple, and part of the holding in ASML Holding. We were disappointed to book a loss on Broadcom after a volte face regarding the direction of Strategy by management hit their credibility. We bought First Data Corporation, eBay and Netflix. In the US healthcare sector, we took profits from Eli Lilly and added to Merck & Co. Thematically, our intention is to seek out value ideas that offer the prospect of rising returns in an interest rate hiking cycle and hopefully insulate the portfolio in the event equity markets discount the risk of a recession. To that end, we purchased Citizens Financial Group, Constellation Brands and McDonald’s during this period. In Europe we took a loss on Bayer, following a legal defeat relating to a California case connected with its acquisition of Monsanto and, we purchased Danish drug company Novo Nordisk. Airbus SE was also added to the Strategy. In the US, we took profits on Home Depot, Honeywell and SVB Financial Group. The UK equity market remains challenging given the difficulties of identifying investments not impacted by a massive change in the value of Sterling and the economy. We had mixed successes in the period with gains on Admiral and Smiths Group offset by losses on Thomas Cook and Standard Life Aberdeen. New additions this quarter were Direct Line, Legal & General, Melrose Industries (whom bought previous profitable holding GKN) and DS Smith.
The bond and cash allocation stood at 24% at the end of September, with cash standing at 8%, versus 6% in June. Last quarter we begun to unwind the US Treasury Inflation Protected 0.25% 2025 bond holding as currency volatility could potentially detract from the prospects for returns on the asset. We felt that the underlying security was attractive, but the continued moves both up and down year-to-date in the Dollar versus Sterling have proven a distraction for the investment case of the holding. The proceeds of the US bond sale were gradually added to the UK Government Index-Linked 0.125% 2029 bond. We judged it likely that yields on UK government bonds would move higher in tandem with the rise of US government bonds so wanted to add this particular security in two stages in August and September. The maturity date also reflects the prospect of a further rise in nominal yields. We are seeking to both maximise the possible protection in extremis; this bond can offer the portfolio with a maturity date, which would not be so far in the future that would led to a significant drawdown in capital, if interest rates really shot up. We decided to take profit from the holding of the TwentyFour Income Investment Trust. This invests in UK and European asset-backed securities (mortgages, car loan books, etc) and the share price rose significantly above the Trust’s net asset value (NAV), which we felt could drop back and so decided to take profits.
This category consists of the holdings we have added to complement the bonds above, given our views on the direction of interest rates and, the level of equities we think is appropriate in the Strategy. These assets are held with the intention of reducing portfolio volatility emanating from equities, but there is no guarantee they will move inversely to stock markets, either up or down. We break down the heading into three sub-categories in Valuation Reports. Firstly, structured products, secondly, ‘alternative funds’ utilising hedge fund type strategies, and thirdly, commercial property and residential property funds. One particular hedge fund strategy (long/short) employed by the Jupiter Absolute Return fund appeared to have suffered as the momentum style of investing continued to dominate equity markets so we made the decision to sell this holding for a small gain.
On a trade-weighted basis, Sterling fell a little under 1% over the past three months. Non-Sterling exposure in the Strategy stood at 33.7% at the end of September. The moves in Sterling continue to be driven by the strength or weakness of the US Dollar, as the wide interest rate differential favours America’s currency. As the Brexit clock ticks down towards the exit day in March, we are likely to see further volatility in Sterling no matter the outcome – down towards parity against the Dollar if it is a “hard Brexit” and a strong rally above $1.40 if a benign Brexit agreement is duly struck.