JCB ACTIVE FUND IS UP 9.83% (GROSS) OVER 18 MONTHS SINCE INCEPTION IN DECEMBER 2014, RUNNING A PORTFOLIO OF LONG ONLY AAA AND AA+ RATED, EXPLICITLY GUARANTEED GOVERNMENT BONDS.

RBA CUTS WITH MORE TO COME, FOMC SPINS 180 DEGREES PLAYING CHICKEN WITH MARKETS, RISK LURED IN LOW VOLATILITY FATAL ATTRACTION?

The RBA cut rates in May and will deliver another 25 bps cut by August, taking the cash rate to 1.50%. This has been JCB core thesis for some time, however, we would caution investors about getting overly excited about further rate cuts given the data at hand. Many market commentators who did not forecast these moves are now calling for 1.00% RBA rates by year end. This looks excessive in our opinion. Whilst RBA Governor Stevens stridently defended inflation targeting this month, calling it the ‘’best policy framework we’ve ever had,’’ a period of pause and access is warranted from the RBA after providing the economy with additional stimulus via lower rates and currency.

The AUD closed over 5% lower vs USD over the month and looks set to test the 70 cent level in coming weeks. We had expected more support in the currency around the 200 day moving average of 72.50 area, however, weaker domestic data during the month of May has kept pressure on the currency. Employment remains tepid at best (having lost more than 50,000 full time jobs in 2016 whilst creating more part time work), CAPEX data remains weak at -5.2% and company operating profits declined at -4.7%.

The release of April’s FOMC minutes in late May has recalibrated rate hiking expectations in the United States. After being as dovish (supportive of low interest rates) as possible in March, this move to hawkish commentary (supportive of higher rates) is a huge turn in a short time. The FOMC need to be careful treating the market in this way, as they risk a loss of credibility in changing the messaging so deliberately to drive market outcomes (clearly the dovish Yellen press conference of March was to lower the USD and ease financial conditions). We remain of the view that additional rate hikes in the US will be extremely gradual. The FOMC will pass in June (meeting date 15th) as macro markets have significant event risk later in the month with Bank of Japan meeting on the 16th, BREXIT 23rd, ECB TLTRO allotments 24th and Spanish general elections 26th. July is a possible month to hike, however, markets are only currently priced 50/50 at this stage with near term expectation’s being driven by a clear passage of the above global macro market risks. Markets traditionally get volatile in Northern summer trading, hence clearing this list without some hiccups seems unlikely to us.

We wrote in our April monthly that ‘’well diversified portfolios will continue to perform in all scenarios. If you don’t have a balance of growth, income, defensives and liquidity then you could be in for a bumpy ride.’’ So far there have been very few bumps along the road. As financial market volatility drops, risk levels are increased and times are good. The main narrative for the risk market bulls has remained that declining market breadth, deteriorating high yield debt and lower oil prices would not matter (noted these 3 measures have all improved over the last few months), and the bull market will rage on driven by extraordinary Central Bank policy intervention. This may very well be the case, however, the problem as we see it is the lack of corporate earnings. According to FactSet 72% of S&P 500 companies reporting so far have issued negative guidance for Q2 on top of declining earnings for Q1, and yet US equities remain very close to recent highs. Well played Ms Yellen, you certainly have the market snookered for now. However, without a base in US earnings, markets will remain susceptible to bouts of volatility. Either earnings improve to justify valuations or the attraction of performance in lower volatility could prove fatal when the winds change. But it may not. Investing in a policy driven environment is very difficult as policy can trump fundamentals for long periods. Is it better to risk the loss of opportunity or the loss of capital? As conservatives investors we have strong views on this question.

Jamieson Coote Bonds Active Fund has performed at a monthly run rate of +54.6 bps (gross) since inception for a return of 9.83% (gross) running a portfolio of AAA and AA rated Government Bonds. The largest draw down in any month has been -62bps.