a problem shared - rathbones · oligopoly in which the product is by ... years — for example, ......

In brief

Commodity conundrumThe challenges of investing in raw materials

Rocking the boatDisruptive technologies bring opportunities and risks

Who sells to whom?Exploring the geographic sales exposure of equity indices

Continental shiftWhat does political risk in the eurozone really mean?

Inflation is picking up around the world. Businesses that can pass on increases in costs to their customers are likely to be the winners.

A problem shared

Issue 12 — Second quarter 2017

InvestmentInsights | Issue 12 | Second quarter 20172 rathbones.com

Early last year, investors were preoccupied with fears about the pace of China's economic slowdown and the threat of deflation. Just 12 months later, and almost 10 years since the start of the financial crisis, a global economic upturn appears to be under way across the US, Europe, Asia and most large developing countries.

Inflation is rising, helped by a rebound in commodity prices. These upward pressures have been exaggerated in the UK by the weak pound, which fell sharply following the EU referendum vote last June. From an investment perspective, businesses with a competitive advantage and pricing power are likely to come out on top, as we explain in our lead story on page 3.

In today's persistently low interest rate environment, finding inflation-beating returns is an ongoing challenge. It might be tempting to invest directly in commodities, particularly if you've heard a convincing case for a particular raw material. However, this is not a market for the faint-hearted (see page 5).

Disruptive technology is another popular investment theme. Technological developments are fast changing how we live, with profound investment implications. In the next few years, some companies will go out of business as they become obsolete, while others will survive by adapting. On page 6 we look at how to identify those companies that might benefit from new technologies.

Meanwhile, many investors know that the country in which an equity index is domiciled often bears little resemblance to the geographic spread of its underlying revenues. We have researched how the revenues underlying the six major regional equity indices are actually comprised, and the results are nonetheless surprising. Find out more on page 8.

Lastly, with concerns mounting about politics ahead of key elections in France and Germany, should investors be concerned about the potential impact on financial markets? In our final article on page 9, we explain the reality behind the headlines.

I hope you enjoy this edition of Investment Insights. Please visit rathbones.com to keep abreast of our latest views on the key issues shaping financial markets this year and beyond.

Julian ChillingworthChief Investment Officer

Foreword

rathbones.com 3InvestmentInsights | Issue 12 | Second quarter 2017

A problem shared

Who takes the inflation strain and pain in the supply chain?

In the US, a buoyant domestic economy at close to full employment, consumer confidence and pro-growth rhetoric from President Trump are leading the Federal Reserve (Fed) to raise its inflation forecasts, and along with them the likelihood of interest rate rises.

Authorities around the world have been keen to foster a reasonable but well-controlled level of inflation — hence ultra-low and sometimes negative interest rates — in order to stave off the risk of deflation. Deflation has been a concern since the global financial crisis and in particular because of record levels of debt (which the International Monetary Fund has warned is now an unprecedented 225% of global GDP) — the real value of which would rise further in a deflationary scenario.

As a result of the significant fall in the value of sterling since the EU referendum on 23 June 2016 — down 17% against the US dollar and down 12% against the euro — the UK faces specific currency-driven inflationary pressures in addition to those arising from the economy improving and getting closer to full employment (figure 1). Consumer price inflation surprised City forecasts by reaching 2.3% in February 2017 (figure 2), with the Bank of England predicting 2.7% by the end of the year and some commentators expecting north of 3%. Input price inflation for manufacturers in February was 19%, the second-highest rate in more than eight years, which led to factory gate prices rising 3.7%.

Who bears the brunt of this currency-driven inflation will depend on companies’ competitive advantage and pricing power, and their ability

and willingness to pass costs on to end consumers through price rises. While most companies dependent on imported materials protect themselves from fluctuations through currency hedging, these hedges typically last 12 to 18 months at most. So, while they give companies time to plan, they only delay the inevitable cost impact. Companies may also treat the referendum-driven sterling fall as a one-off move and therefore require a price response in a way that most currency falls for developed economies — which often reverse over the next year or so — do not.

One of the earliest impacts has already been seen in petrol prices — oil is largely imported and is priced very transparently in dollars. The UK petrol supply market is a price-competitive oligopoly in which the product is by nature a commodity and, therefore, the companies involved cannot differentiate themselves, meaning they are ‘price takers’. As a result, petrol prices relatively

quickly reflected the increase in sterling costs. However, ‘price setters’ with strong brands have also pushed up prices, betting that the desirability and strengths of their brands and products would make customer demand relatively insensitive to price. Examples include Apple in its pricing of apps, iPhones, iPads and Macbooks, and confectionery giant Mondelez in its pricing of Freddo chocolate bars and the now notorious weight reduction (and change in shape) of its iconic Toblerone bars.

Weaker sterling is impacting cost bases across the UK and leading to difficult conversations between retailers and manufacturers and their supply chains. The pressure is intensified by rises in a number of other costs such as the National Minimum and Living Wages, the Apprenticeship Levy and business rates. The highest-profile difficult conversation was the spat between Tesco and Unilever in October, which the press gleefully dubbed ‘Marmitegate’.

The world is experiencing a period of rising inflation. A rebound in oil prices has helped after dragging down UK consumer price inflation into negative territory briefly in the second half of 2015. Improving wage rates in China, which in the past had been an exporter of global disinflation, have also contributed.

Source: Deutsche Bank and Rathbones.

Figure 1: Trade-weighted sterling indexThe value of the pound plummeted following last year’s vote for Brexit and has not recovered.

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A problem shared

Consumer goods giant Unilever sought to raise prices across a wide range of its brands in the UK by 10% as it cited the impact of weaker sterling on its cost base. Tesco chief executive Dave Lewis — who until his appointment two years earlier had been a Unilever employee for 27 years — responded defiantly and there was a 24-hour standoff during which Tesco publicised the dispute and supplies halted, leading to shortages of Unilever brands such as Pot Noodle, PG Tips tea, Lynx deodorant, Dove soaps and Marmite on shelves and online. Marmite came to symbolise the dispute because it is a British brand produced in Burton-on-Trent using largely British ingredients, such as yeast extract and salt.

Tesco was portrayed in the media as championing consumers’ rights against a powerful brand owner. A mutually satisfactory compromise was reached within a day, with Unilever retreating on some of its price demands. Tesco claimed victory. However, Unilever did push some price increases through — and notably later in the month achieved a 12.5% increase in price for Marmite with Tesco competitor Morrisons. A degree of price increase across Unilever’s product range was justified by the currency shift — while Marmite’s ingredients might have been predominantly British, this was not the case for tea or deodorants, for example.

Despite the challenges that it has faced in recent years from the rise of online grocery shopping and the growing popularity of discount chains Aldi and Lidl, Tesco still has a 28% share of the grocery market, giving it a high degree of bargaining power even against a strong supplier such as Unilever. Its margins have been squeezed over the last few years — for example, its operating profit margin in the UK has dropped from 6.1% in the year ended February 2011 to just 2% by February 2016 — and this gives it very limited ability to absorb cost pressures. In comparison, Unilever makes a 15.3% profit margin (and generates most of its money outside the UK). Tesco is also wary of passing on higher prices to consumers as it operates in a highly price competitive market. However, it was forced to yield some ground to Unilever as it could not afford to lose all of Unilever’s brands, because this would

likely encourage its shoppers to seek these brands at competitors’ stores.

Pass it forwardThe likely response of competitors was also an important consideration and Tesco could see that the other supermarkets were relatively willing to pass on inflation to end customers given their own depressed margins. A month after Marmitegate, the chief executive of Tesco's rival Marks & Spencer (which makes 7.4% operating profit margin), Steve Rowe, promised to shield consumers from referendum-related price increases through ‘optimisation of our supply base’ and by selling greater volumes. However, by New Year’s Day a supplier backlash had caused him to backtrack and accept wholesale price rises of up 15% on certain grocery lines.

Clothing retailer Primark (owned by Associated British Foods) makes healthier margins (11.6%) and sets its prices at a significant discount to the mainstream clothing market. But it has stated that it will continue to prioritise maintaining price leadership within the value segment of the clothing market, which it sees as its competitive advantage — so if other retailers do not raise prices, Primark will not either. In this scenario, it would likely bear some of the burden of rising costs by seeing its margin erode (in the hope of taking market share and gaining volumes), but also spread some of the burden across its supply chain. Primark sources its garments from overseas, in countries like China, India, Bangladesh and Turkey, and will seek to deal with

higher sterling buying costs by asking suppliers to share some of the impact, potentially shifting manufacture to lower-cost suppliers, while also redesigning clothes in order to reduce materials content or manufacturing costs. Given Primark’s growth strategy, rolling out new stores across Europe and now the US, it is in a strong position to offer suppliers more volume in return for keener prices. Primark’s approach contrasts with that of Next, the quality operator in the clothing middle market, which makes a 21% margin but is expecting price rises of up to 5% (anticipated to drive a slightly greater volume decline) — thus Next values margins more than market share.

The extent to which companies are able to share the pain of currency-driven cost inflation depends on the strength of their competitive advantage, their bargaining power relative to their supplier base, and their corporate strategy (and the extent to which pricing is a key element of it). The UK is seeking to step up its exports and in manufacturing we are increasingly importing components, assembling them in the UK and then exporting them back out. In such cases, our export prices in sterling will rise more than enough to compensate for higher input costs. What is clear is that the UK consumer has not seen the last of sterling-related price increases.

Source: Bloomberg, ONS and Rathbones.

Figure 2: UK inflation (%, year-on-year)The UK Consumer Price Index has been rising steadily higher over the past year.

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Commodity conundrum

Source: Datastream and Rathbones.

Figure 3: Bloomberg Cocoa IndexCocoa prices tend to be driven by various supply and demand factors and can also be influenced by the behaviour of large investors, as they were in 2002 and 2010.

The challenges of investing in raw materials

As well as the portfolio diversification benefits that commodities can add to holdings of traditional stocks and bonds, they can also have speculative appeal. In general, commodity prices rise in an inflationary environment, which is why this asset class has been receiving more attention recently. China avoided a hard landing last year and the ‘animal spirits’ have awoken in the US, causing the Fed to raise interest rates.

In the aftermath of the financial crisis, the so-called ‘commodities supercycle’ that was driven by the huge growth in the Chinese economy meant that an investment in a diversified basket of commodities would have delivered excellent returns. However, this long-term performance includes periods of extreme short-term volatility that can affect individual commodities.

Investors should be cautious of investing in individual commodities, particularly on a short-term basis. It can be tempting to buy an exchange-traded product that offers exposure to, say, copper prices because you’ve heard that demand may be increasing. But be prepared for a volatile ride.

ChocfingerIn 2002, a London-based hedge fund manager earned the nickname ‘Chocfinger’ after stockpiling 15% of the

world's cocoa supply and generating a huge profit (figure 3). He tried again in 2010 using the same approach and the fundamentals were on his side — recent harvests had suffered from poor weather and global stockpiles were running low. Yet it is believed this seasoned soft commodities trader may have lost money the second time due to technical market factors and the reaction of other investors.

While extreme, this story highlights the challenges of investing in commodity markets. This is further complicated by the fact that unless you have access to storage facilities and can accept physical delivery, the most straightforward way to gain exposure is through an investment vehicle, such as an exchange-traded product or structured note. Many are cheap and liquid, but it’s important to understand what you are buying.

For example, some gold exchange-traded funds track the spot price closely because they are backed by actual bullion, which is stored in secure vaults. Other products use synthetic derivatives, such as futures contracts. However, because commodity markets are complicated, your investment can fall in value even if the price of the underlying commodity has risen.

For example, a problem can occur if there is a large difference between

spot prices and the futures price when it is time to roll forward the derivatives contract. That is because commodity markets tend to exist in one of two states. They are said to be in contango when the forward price of a futures contract is above the expected future spot price or backwardation, which is essentially the opposite.

Commodity companies are also riskyThe mainstream route to gain exposure to commodities is through the stock market by buying the shares of mining or energy companies. However, there can be problems with corporate governance and unstable political regimes in the countries in which many of these firms operate. Single commodity companies can generate huge returns, but more often lead to spectacular losses — it's the nature of the industry.

Even with the global diversified mining companies, your investment can be undermined by an unforeseen problem in a particular mine or commodity market as well as more general risks, such as management quality and underlying equity market conditions.

Private investors should also think carefully about the tax treatment of any commodity funds. For example, investing through an offshore vehicle is likely to result in an income tax liability on any profits, which would be as much as 40% or 45% for higher rate taxpayers, and is therefore inefficient.

With interest rates in the UK firmly anchored below 1% and unlikely to rise higher any time soon, attention has turned to finding ways to beat inflation. Speculative investments in commodity markets can sound appealing, but we believe a patient multi-asset approach is the best way to grow and protect wealth over the long term.

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Rocking the boat

Disruptive technologies bring opportunities and risks

A range of technological developments are fast changing how we live and these changes will have profound investment implications. In the next few years, some companies will go out of business as they become obsolete; others will survive by adopting and adapting new technologies. But even for those at the forefront of this change, success is not guaranteed. It will be necessary to identify the companies that can make money from new technologies.

It is imperative that we understand how technology is changing the world and anticipate how investments may be affected, positively or negatively. To inform our investment managers, our research team has produced a report, How soon is now?, on the investment implications of disruptive technologies.

What is disruptive technology?Technological innovation is fascinating, but rather than make airy futurology-style projections, we have tried to focus on the investment implications of ‘disruptive technology’. The term — used interchangeably with disruptive innovation — was first coined in 1995 by Harvard Business School professors Clayton M Christensen and Joseph Bower1. It applies not so much to the initial invention as to the point at which it changes the market.

The invention of the motor car was not disruptive because early models were luxury items that barely affected the market for horse-drawn vehicles. It took Henry Ford’s innovative use of mass production and the launch of his affordable Model T in 1908 to cause a seismic shift in the market. Affordability is a key driver in the widespread adoption of new technology.

While innovation is a facet of such disruption, they’re not the same thing. Market leaders can innovate and introduce new technology, but the existing model survives. While nearly all sectors of the economy will experience change, we have focused on four

areas where there is a real prospect of disruption to the status quo:— alternative energy: we consider the

potential impact of solar and wind energy generation and energy storage technology on the utilities sectors, and the outlook for electric and driverless vehicles.

— automation and the impact on labour markets: we look at the threat to jobs from intelligent robots. Will capitalism self-destruct as swathes of white collar jobs are lost to machines?

— personalised medicine: how vulnerable is the healthcare sector to the widely predicted shift to designer drugs?

— blockchain: ignoring the over-hyped Bitcoin, we consider the technologies that underpin much of the financial system to see how much impact blockchain could have on transactions and the current financial ecosystem.

In thinking through the primary and secondary effects of disruption, we have encountered questions that cannot be answered definitively at present. Given the scale of the potential technological changes, being alive to the risks and open-minded about the potential outcomes is the best way to protect our clients.

Beware the hypeTechnology is fascinating, but experience shows it can be a sure-fire way to destroy wealth. While you may be right about the potential of a particular technology (although many do not work out as predicted and are quickly superseded by even better — or cheaper — technology), you also need to identify how it will be adopted and which companies will profit.

The dotcom crash of 2000 serves as an enduring reminder of the risks of believing the hype without appreciating how to extract value from the business model. From 1997, analysts and investors became increasingly credulous about the impact that the internet would have and how companies might make money from it. Many were start-ups and years from making profits; in some cases, they didn’t yet have any revenues.

The ability to value a company properly was superseded by the ability

Source: Hewlett-Packard and Rathbones.

Figure 4: The ages of the internetHewlett-Packard describes the development of the internet in terms of progressive stages. This model suggests the “sensor” stage is the next development but it is likely to take a few years to achieve its true potential and global reach.

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It is imperative that we understand how technology is changing the world and anticipate how investments may be affected, positively or negatively.


Rocking the boat

to imagine a future in which a company used technology to create a new market or displace existing providers. When the stock market fell, many of these start-ups went bust as their capital was used up in development or through costly advertising campaigns — that is to say, by normal costs of doing business.

Today there is so much hype about developments like the ‘internet of things’ and big data that it can be difficult to identify if, when and how they will actually happen, and how best to invest in their potential. The challenge is that technological shifts may not be obvious for years and often depend on marketing and adaption to reach a critical tipping point.

How to invest?Notwithstanding these challenges, the opportunity cost of not investing in technology could be huge. But is it better to invest directly in smaller technology companies by trying to spot the next Amazon or Google? Or do technology funds, managed by specialists, offer diversification against the inevitable business failures in such a high-risk area?

Alternatively, the current tech giants could be the answer. This may seem surprising given their exponential growth to date, but companies such as Google and Amazon are using the huge cash flow from their current businesses to buy up smaller companies to augment their offering (and, arguably, to neuter the threat from rival technologies).

Or could the forthcoming developments be so far-reaching that companies in every sector will benefit from falling costs as technology ‘commoditises’ the world? The financial benefits may accrue to the consumers rather than the innovators — the winners may be retailers, insurance or engineering companies, while the

Today there is so much hype about developments like the ‘internet of things’ and big data that it can be difficult to identify if, when and how they will actually happen, and how best to invest in their potential.

technology companies may destroy shareholder value through price wars or other bad financial decisions.

Whichever approach investors take, disruptive technologies could have a disastrous effect on investment portfolios as whole sectors are at risk of obsolescence. Active investing is arguably better suited to this challenge as technologically vulnerable behemoths can be avoided in favour of smaller ‘new tech’ companies. Active investors can more easily invest in the leaders of tomorrow, while avoiding the companies that will be disrupted.

To read our report How soon is now? The investment impact of disruptive technologies (which will be published on 18 April), please speak to your contact at Rathbones or visit rathbones.com

What are disruptive technologies?

— They tend to be developed by outsiders and entrepreneurs rather than market leaders as they are not sufficiently profitable at first and could detract from sustaining innovation: as a result, disruptive technologies can take longer to develop and be higher risk, yet achieve much faster penetration when they finally impact on the market.

— Large companies know their markets, stay close to their customers and develop existing technology — in contrast, they often fail to capitalise on disruptive technology, which can initially lack refinement or have performance problems.

— Disruption affects processes as well as products — in other words, changing how we do something is just as important as the new technology that enables us to do it. It is rare that a technology is inherently disruptive — disruption usually occurs when a low-margin technology (or combination of technologies) is applied to a new market at a lower price.

— There can be multiple disruptive technologies across an industry, some of which are competing.

— Despite the apparent chaotic nature of change, some developments are to some extent predictable — this is particularly the case where technological progress is contingent on a previous development (figure 4).

1. Bower, Joseph L. & Christensen, Clayton M. (1995) “Disruptive Technologies: Catching The Wave”, Harvard Business Review, January—February 1995


Who sells to whom?


Figure 5: Regional equity markets and their geographic revenue exposuresUK equities have the most geographically diversified revenue streams.

Exploring the geographic sales exposure of equity indices

We all know the geographic domicile of an equity index bears little resemblance to the geographic spread of its underlying revenues. If you invest 100% of your portfolio in the FTSE 100 that does not mean you are investing in 100 companies that sell 100% of their wares to UK firms and households. It is for this reason that UK GDP growth has little correlation to FTSE 100 earnings, let alone FTSE 100 stock prices.

This poses problems for asset allocation and portfolio construction. Too often, investors conflate the macro and the revenue outlook in a manner that doesn’t quite reflect reality. You might be very bearish on the prospects for the eurozone economy, but if 50% of earnings come from outside the region, eurozone equities might, on a revenue basis alone, still be an optimal addition to multi-asset portfolios.

Contrary to popular — or at least some professional — wisdom, there is actually quite a strong correlation between GDP growth and sales or EPS growth at the global level. At a country or index level, it’s a matter of aggregation.

To help us solve the problem, we have made use of a new database from MSCI via Thomson Reuters and estimated how the revenues underlying the six major regional equity indices (UK, North America, Japan, Europe ex UK, Asia ex Japan and Latin America) are actually spread around those same six regions.

The database holds the revenues earned by thousands of companies around the world, split by the countries in which those revenues originate. There is no global standard for reporting the geographic split of company sales, so compiling such a database is a rather monumental task. That said, the data still requires sense checking and translating into common currencies for aggregation purposes. As such, we estimate the revenue exposure of an index from its 200 largest firms (300 in the US), which actually represent around 90% of the market cap.

As figure 5 shows, UK equities have the most geographically diversified revenue streams. Of the four developed markets, it is the most exposed to emerging markets, with approximately a quarter of all sales originating in Asia ex Japan and Latin America. European equities are also quite diversified, with only 50% of revenues stemming from the continent.

A useful starting pointWith this information, we can observe a far stronger relationship between GDP and company revenues. A composite of global GDP weighted by the sales exposure of the respective regions explains between 60% and 80% of the variation in sales over the past 12 years (which is as far back as the revenue data extend). Discrepancies still remain, largely because the sectoral breakdown of the GDP composites won’t match perfectly with the sectoral breakdown of the indices, but the two are now much better aligned.

With the connection re-established, we can employ projections of potential GDP growth (based on stable trends in the workforce, the stock of capital and productivity) to serve as a guide to the revenue growth of regional equities

over the long term. Of course, this is going to be a very rough guide, and it abstracts from the business cycle too (as we should when thinking about the long term). Revenue growth is only one component of equity returns, but it is a useful starting point when setting strategic asset allocations with time horizons of more than 10 years.

The domicile of an equity index can bear little resemblance to where the underlying companies actually generate sales

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What does political risk in the eurozone really mean?

Over the past few decades, general elections have rarely made a discernible impact on European financial markets. We all know investors who get animated about politics at the bar after work but who are far more concerned about company profits and the rate at which they should discount them into today’s price when at their desks. Left, right or centrist, European political victories have rarely presented a game-changing force to the direction of either.

So why are investors reading the political pages of De Telegraaf and chasing their French colleagues for information on the Parti Républicain? They care for one reason only — the existential threat these elections now pose to the European Monetary Union. When we hear eurozone political risk, it’s just short-hand for the possibility that the euro breaks apart.

The disintegration of the eurozone would be one of the largest financial shocks in modern history. Currency unions have broken apart before, but none in recent decades compare with the size, global significance and level of cross-border financial integration of the eurozone. Firms and financial institutions have transacted trillions of euros on the assumption of zero exchange-rate risk. The dislocation that would ensue if this risk needed to be re-priced would swiftly give way to a sclerosis of the real economy.

Consider the great financial crisis of 2008: this was a crisis induced by a mispricing of risk first in the US mortgage markets and then international bank financing markets. It caused a great economic recession because of the dislocation to bank, corporate, household and government funding that the subsequent repricing of risk imparted.

The 2011—12 eurozone debt crisis provided a taster of what a break-up might be like for investors. As they realised some government finances and banking systems were shakier than others — and so probably didn’t deserve

the ultra-low borrowing costs assigned to them since the creation of the euro — financing markets seized up and economies ground to a halt as the market scrambled to re-price the evident risks. Indeed, it would have been far worse if the European Central Bank hadn’t eventually pledged to doing “whatever it takes” to prevent investors — via the debt markets — from forcing the break up. But while the ECB can combat market forces, it can’t resist the will of the people.

The anti-EU Geert Wilders won only 13% of the vote in the recent Dutch elections. The spotlight is now on France but its two-stage presidential election process gives voters the opportunity to rally against an extremist candidate — as they did with Jean-Marie Le Pen in 2002. The core pillars of the EU are also popular in France: 80% of people view the free movement of EU citizens positively, while 68% support the euro and the monetary union. That said, we are concerned that in the Eurobarometer survey — one of the few polls to suggest the UK would vote for Brexit — the number of French respondents for whom the EU ‘conjures up a positive image’ has dipped below those with a negative impression for the first time.

We are keeping a close eye on market-based indications that political uncertainty is starting to spill over into

any contagious, dislocating scramble to re-price risk. We start with government spreads — the borrowing costs French, Italian and Spanish governments have to pay relative to Germany. They have increased notably since last summer, but remain well below the eurozone debt crisis levels of 2011—12.

We then look at bank financing — the costs banks pay to fund their activities, as well as what holders of bank bonds pay to insure against default. The cost of insurance has been falling since November and is now 25—30% of the costs commanded in 2011. The cost of bank borrowing itself has fallen even further and is now just 20% of the maximum borrowing cost in 2011 and less than 10% of the costs in 2008—09 (figure 6).

We also look at the cost of ‘basis swaps’ — short-term, supposedly low-cost funding agreements in which one institution that requires dollars matches with an institution that requires euros. These are a particularly good indicator of systemic stress. Again they remain a long way below crisis levels, but have been trending higher over the past two years and perhaps signal more cause for concern than other measures.

In aggregate, the financial markets that really matter are rather cool on the political risk that really matters. Investors should be reassured by this.


Figure 6: Europe's financial markets appear relaxedThe cost of borrowing for European banks has fallen dramatically since the financial crisis.

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Financial markets

Despite ongoing concerns about political uncertainty associated with the new US administration, Brexit and elections in Europe, financial markets were buoyant in the first quarter of 2017. Optimism that President Trump’s economic policies will boost his country’s economy fuelled a rise in US stock markets, sending the Dow Jones Industrial Average through 21000 for the first time. The S&P 500 and Nasdaq indices also scaled new heights.

Building on gains from 2016, the FTSE 100 reached an all-time high during the quarter. The pound’s fall since the EU referendum has benefited the many globally-active and export-oriented companies in the index. Government bond markets were volatile, with benchmark 10-year gilt yields rising above 1.5% in January before falling back towards 1.2% by the end of the quarter.

Upbeat earningsQuarterly earnings reports were generally upbeat. Mining companies reported healthy profits, helped by a rebound in commodity prices. Profits in the technology sector were also encouraging for both traditional firms and newer companies that conduct most of their business online. The results were more mixed in the financial sector, where some banks are still struggling with large fines imposed by regulators for mis-selling.

Oil prices were volatile over the quarter. Brent crude rose above $55 in January in response to a production cut agreed by the Organization of the Petroleum Exporting Countries (OPEC). Prices then plunged in March on fears of oversupply and news of an increase in the amount of oil in storage. Inventories are near record levels in the US, which is weighing on prices and frustrating attempts by OPEC to prop up the market.

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Important information

This document and the information within it does not constitute investment research or a research recommendation. Forecasts of future performance are not a reliable indicator of future performance.

The above information represents the current and historic views of Rathbones’ strategic asset allocation committee in terms of weighting of asset classes, and should not be classed as research, a prediction or projection of market conditions or returns, or of guidance to investors on structuring their investments.

The opinions expressed and models provided within this document and the statements made are, due to the dynamic nature of the items discussed, valid only at the point of being published and are subject to change without notice, and their accuracy and completeness cannot be guaranteed.

Figures shown above may be subject to rounding for illustrative purposes, and such rounding could have a material effect on asset weightings in the event that the proportions above were replicated by a potential investor.

Nothing in this document should be construed as a recommendation to purchase any product or service from any provider, shares or funds in any particular asset class or weighting, and you should always take appropriate independent advice from a professional, who has made an evaluation, at the point of investing.

The value of investments and the income generated by them can go down as well as up, as can the relative value and yields of different asset classes. Emerging or less mature markets or regimes may be volatile and subject to significant political and economic change. Hedge funds and other investment classes may not be subject to regulation or the protections afforded by the Financial Conduct Authority (FCA) or the Prudential Regulation Authority (PRA) regulatory regimes.

The asset allocation strategies included are provided as an indication of the benefits of strategic asset allocation and diversification in constructing a portfolio of investments, without provision of any views in terms of stock selection or fund selection.

Changes to the basis of taxation or currency exchange rates, and the effects they may have on investments are not taken into account. The process of strategic asset allocation should underpin a subsequent stock selection process. Rathbones produces these strategies as guidance to its investment managers in the construction of client portfolios, which the investment managers combine with the specific circumstances, needs and objectives of their client, and will vary the asset allocation accordingly to provide a bespoke asset allocation for that client.

The asset allocation strategies included should not be regarded as a benchmark or measure of performance for any client portfolio. Rathbones will not, by virtue of distribution of this document, be responsible to any person for providing the protections afforded to clients for advising on any investment, strategy or scheme of investments. Neither Rathbones nor any associated company, director, representative or employee accepts any liability whatsoever for errors of fact, errors or differences of opinion or for forecasts or estimates or for any direct or consequential loss arising from the use of or reliance on information contained in this document, provided that nothing in this document shall exclude or restrict any duty or liability which Rathbones may have to its clients under the rules of the FCA or the PRA.

We are covered by the Financial Services Compensation Scheme (FSCS). The FSCS can pay compensation to investors if a bank is unable to meet its financial obligations. For further information (including the amounts covered and the eligibility to

claim) please refer to the FSCS website fscs.org.uk or call 020 7892 7300 or 0800 678 1100.

Rathbone Investment Management International is the Registered Business Name of Rathbone Investment Management International Limited which is regulated by the Jersey Financial Services Commission. Registered office: 26 Esplanade, St. Helier, Jersey JE1 2RB. Company Registration No. 50503. Rathbone Investment Management International Limited is not authorised or regulated by the PRA or the FCA in the UK.

Rathbone Investment Management International Limited is not subject to the provisions of the UK Financial Services and Markets Act 2000 and the Financial Services Act 2012; and, investors entering into investment agreements with Rathbone Investment Management International Limited will not have the protections afforded by those Acts or the rules and regulations made under them, including the UK FSCS. This document is not intended as an offer or solicitation for the purchase or sale of any financial instrument by Rathbone Investment Management International Limited.

Not for distribution in the United States. Copyright ©2017 Rathbone Brothers Plc. All rights reserved. No part of this document may be reproduced in whole or in part without express prior permission. Rathbones and Rathbone Greenbank Investments are trading names of Rathbone Investment Management Limited, which is authorised by the PRA and regulated by the FCA and the PRA. Registered Office: Port of Liverpool Building, Pier Head, Liverpool L3 1NW. Registered in England No. 01448919. Rathbone Investment Management Limited is a wholly owned subsidiary of Rathbone Brothers Plc.

Our logo and logo symbol are registered trademarks of Rathbone Brothers Plc.

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Contact us

If you would like further information or to arrange an initial meeting, please contact us on 020 7399 0000 or email [email protected]

Head office 8 Finsbury Circus, London EC2M 7AZ 020 7399 0000

We also have offices at the following locations:

For ethical investment services:Rathbone Greenbank Investments0117 930 3000rathbonegreenbank.com

For offshore investment management services:Rathbone Investment Management International01534 740 500rathboneimi.com

@Rathbones1742

Rathbone Brothers PLC

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