Investment Committee Update: Reducing Risk

Economic Commentary

Last month we ran through some of the rationale for including US Treasuries into our portfolios. The position was taken both as means to enhance returns but also reduce risk.

A second and perhaps more significant move we have made in our portfolios this year is to reduce the overall equity exposure. The reduction was not large, amounting to around 3-5% across the portfolios and will help protect investors capital in the event of further falls in markets.

We believe the reduction in risk is warranted for three key reasons.

Firstly, the easy monetary conditions that began in the months after the global financial crisis are coming to an end. The American and British central banks have raised interest rates in recent months, and quantitative easing – the central bank policy that has helped keep bond yields so low – is slowing in Europe and Japan. These easy monetary policies have been a key factor in keeping both bond yields low and fuelling the decade long equity bull rally.

Secondly, economic momentum is showing signs of slowing. The signals are early stage; most forward-looking surveys indicate future growth and we are still a long way from recession. But the signs are there. The US yield curve is flattening – historically a good indicator of tougher times ahead.

Finally, we believe valuations are looking stretched across many equity markets. At 22.7x price to earnings multiple, the US equity market in particular is trading at above fair value levels, and some Asian markets are also frothy. This warrants some caution in our portfolio positioning.

At Flying Colours, we do not attempt to time markets and believe that making short-term predictions are for speculators, not investors. However, for the reasons outlined above we believe taking some risk off the table is a prudent move for our investors.

Guy Myles
Chairman, Flying Colours Investment Committee

We hope you find the education zone interesting and useful, but please remember it shouldn’t be viewed as financial advice.