Standard Life Investments

Market funds report - MyFolio

Risk Levels I to V

Environment

Global equities delivered another quarter of positive performance, driven by encouraging economic news world-wide. Corporate earnings growth continued upwards, while consumers in the US and Europe remained upbeat. Central banks indicated their intention to slowly reduce the level of monetary stimulus currently deployed. This would mean raising interest rates (in the US and, potentially, the UK) and reducing quantitative easing (in the US and, perhaps, Europe). Meanwhile, emerging market equities were once again the standout performer, lifted by a weak US dollar, improving economic growth and recovering earnings.

Government bonds ended the quarter where they began. In the US, lower-than-expected inflation, Korean tensions and damaging hurricanes all encouraged risk-aversion, before vague plans around tax reform managed to unsettle US Treasury markets. The most extreme turnaround in interest rate expectations was in the UK gilt market, resulting in a sharp underperformance against other markets. As government bond yields rose (prices fell) in September, corporate bond markets lost some of the performance generated in the first two months, though overall returns were positive for the quarter.

UK commercial real estate delivered positive performance during the third quarter. In keeping with recent trends, rental income was marginally ahead of capital growth in terms of returns. Industrials were the strongest performers, supported by favourable supply/demand dynamics, as well as the structural shift to online retailing. There was some improvement in sentiment towards the retail sector. However, the bankruptcy of Toys R Us served as a reminder of the threat to traditional ‘bricks & mortar’ retailers from internet shopping.

Activity

We review the Strategic Asset Allocation (SAA) for each of the MyFolio funds every quarter, with the aim of ensuring that we continue to meet investors’ long-term interests. Following the most recent review, we made no changes to the SAA model.

In terms of our Tactical Asset Allocation (TAA), we retained an overweight position in equities (versus the SAA) and an underweight allocation to bonds. We expect the positive economic growth environment and a gradual tightening of monetary policy to benefit equities over the next six to 12 months. Over the same period, we expect developed bond markets to offer only flat to negative returns. We made the following TAA changes over the period.

  • Increased our allocation to Asia Pacific equities – to reflect positive economic growth data coming from China, where GDP growth has been moving back up towards 7%. Commodity prices have also picked up.
  • Reduced the allocation to US equities – the reflationary backdrop remains positive albeit President Trump’s policies are proving harder to implement than expected. The potential for further upside is therefore somewhat limited. We remain overweight versus the SAA.

In addition, we have listed below some of the main TAA positions held during the period.

  • Underweight allocation to global index-linked bonds – we prefer to allocate to equities, which should benefit from a positive economic growth environment and only gradual tightening of monetary policy over the next six to 12 months.
  • Underweight position in UK equities – the UK economy has been surprisingly resilient and the UK consumer has kept spending, despite negative wage growth when inflation is taken into account. However, we retain a cautious outlook on the UK economy going forward. We are mindful of supply side constraints to growth as well as the structural shift of Brexit.
  • Overweight exposure to European equities – GDP growth expectations for 2017 have increased, Eurozone unemployment continued to fall, inflation has picked up beyond expectations while business and consumer sentiment reached new highs. Meanwhile, political risks have somewhat diminished, although we are cognisant of the recent Catalonian dispute and upcoming Italian elections early next year.
  • Overweight position in emerging markets, both in equities and bonds – we have a positive stance on global growth, as well as seeing support from improving commodity prices and strength in the Chinese economy.
  • Overweight position in Japanese equities – we see falling unemployment levels but little wage pressure. Much of the improved profitability is stemming from firms’ increase in technology investment. Japan is set for its longest continuous run of economic growth since 2001, a sign that the reforms implemented by President Abe may be coming to fruition.

Any changes to the weightings of the underlying funds were as a result of the changes in TAA carried out over the review period.

Performance

3 months to 30/09/17 (%) 1 year to 30/09/17 (%) 2 years to 30/09/17 (%) 3 years to 30/09/17 (%) Since launch to 30/09/17 (%)
MyFolio Market I Inst 0.03 2.36 13.25 15.38 41.36
MyFolio Market II Inst 0.16 4.82 20.15 21.46 57.90
MyFolio Market III Inst 0.40 7.79 26.93 26.93 69.96
MyFolio Market IV Inst 0.45 10.28 34.15 32.63 80.46
MyFolio Market V Inst 0.37 12.17 40.54 38.09 92.94

Source: Financial Express, based on Institutional share class in GBP

Overall, the strategic allocations to UK equities, European equities and US equities were the strongest contributors to returns over the period. At the TAA level, which was modestly positive overall, the overweight position in European equities was beneficial in performance terms, with no significant detractors.

At a range level, the performance of the tracker funds over the quarter was in line with expectations. The returns matched their equivalent indices and timing differences, fees and slight variations between the asset classes and the underlying fund benchmarks could explain tracking errors. Within the active funds, the Standard Life Investments UK Real Estate Fund outperformed its relative benchmark as did the Fidelity Global Inflation-Linked Bond Fund. There were no standout underperformers within the active funds.

Outlook

We are relatively positive about the prospects for global equities. The economic backdrop remains supportive, while business sentiment is fairly sanguine. Meanwhile, the withdrawal of monetary stimulus is likely to be a slow and measured process. For many, this is an indication that the global economy is on a sound footing. There will be challenges – notably around the path of US politics (including whether President Trump can get his agenda back on track), potential monetary policy missteps and geopolitics (such as those related to North Korea). However, the overall outlook remains positive.

We continue to view bond markets with caution and believe that the road to higher yields (and lower prices) is likely to be difficult. Central banks have made it clear that they believe economic growth and employment levels now argue for an unwinding of emergency monetary policies, despite consistently low inflation. As a result, they are steering towards a tighter monetary policy stance. We believe the current ‘goldilocks’ environment for corporate bonds - of low-but-positive growth and low inflation - can continue in the short term, although valuations are not cheap.

UK real estate dynamics remain supportive, although we expect market returns to moderate as the economy experiences a period of weaker growth towards the end of this year and into 2018. In the short term, sentiment around the UK’s withdrawal from the European Union and its economic impact will drive the market.