Other concerns weight down expected ECB rally

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Finally. Draghi ran up the stairs as the ECB’s lift stopped working, perhaps one final Bundesbank ploy to stop the announcement, and pulled the ECB trigger on sovereign QE. They even decided to give the market more that it had been expecting: 60bn euros a month or about 1.1trn euros in total. Cue market rally in European and Eastern European stocks and a collapse of EUR/USD. As expected. Now what?

Well let’s see where we are in 2015 with nearly one month gone. Oil is still hovering around $45-50/barrel and Draghi gave us sugar. I would say those events are both generally positive for financial assets…and yet MSCI World is down -0.64%, Fixed income (JGAGGUSD) down -0.29% and MSCI EM, after collapsing 10%, is up +2.8%. Those are not the returns that one might expect. Something else is still weighing the markets down.

Before I postulate what and how the markets will move, let me just point out that OPUS Cautious strategy is UP +2% on the week and +0.71% on the month. This is +74bps more than our benchmark, which is down -3bps. Remember that we are long only and not supposed to be up when our benchmark is down. And it is not just YTD that we are beating it we are +0.54% better since inception. This return has been achieved whilst still maintaining the 20% cash balance that was a hedge against the ECB surprising on the negative side.

Attribution is also pleasing equity winners to losers is nearly 6:1 and fixed income is 1:1.  I talked of the portfolio being positioned to perform well with a turn in asset prices. This is what happened, and it is from the sectors we previous called, namely European stocks (hedged into USD so you didn’t lose all you investment gains to FX losses), EM debt and Asian opportunities. Themes we are playing well.

The QE headline numbers were super, but the devil is in the detail and the fine print will have many market participants wondering if all will be as sugary as expected. Points such as:

Risk sharing there really isn’t, which is a nod to the Bundesbank

Not really open ended in that September 2016 is the desired end date

These could well mean Euro “Disney” Land (excepting surplus countries) will still see a slumber that generates sub par absolute and relative performance to the rest of the world. Germany still runs a trade surplus of some 8% of GDP and doesn’t look set to cast off this exporter of note image and morph into the profligate spending habits of its southern European peers. No, the German saver is still alive and well even with negative yields and takes some perverse satisfaction in this.

There are still serious roadblocks to European recovery and they come in the name of Greece and the Ukraine and, the same old, little to no structural reform.

As I write this, Greek elections see a winner in Syriza, the anti austerity party, this will probably see a re-organisation of debt terms (no one really wants to leave a club that pays them to be a member and the eurocrats cannot have “Grexit”; their shiny euro fortress would become slightly rusty and certainly less impregnable). Who pays for this, well it will be all those hard working northern European countries, the surplus ones, obviously.

Next Ukraine, and with new battles now underway, surprisingly both sides are again blaming each other for the mess. Add to this that obviously Russia has no involvement in the fighting other than providing baby milk and water. The US not involved because they never use BlackOps now do they? But the issue for Europe is whether Ukraine will be able to keep its economy afloat, meet its debt obligations and whether 2015 will finally see an end to sanctions as fighting abates. The answer, I believe, to all those is a strong ‘no’. Russia serves notice of debt repayment, Ukrainian default by reorganisation and a real economy that will shrink another 5 to 7% after last years c8% according to the World Bank. Sanctions continue if not increased, no joy at all.

Eastern Ukraine now so obliterated that the “winner”, for want of a better word, will think twice about the spoils that came with it. Children, I think its time we came inside and stopped playing with guns. The only thing the world has learned from this situation is that Russia has lied and that the West are hypocrites. Sanctions are a serious hardship and pushing Russia far more inward. This isn’t good, and certainly nobody wins.

My scenario for Russia is bleaker than the Davos panel (http://www.bloomberg.com/video/kudrin-kostin-shuvalov-on-russia-panel-in-davos-8BYbYIzcQbCktlLPXWPKOQ.html) that was likewise bleaker than even the film Leviathan that I talked about last week. I spent 8 years in Russia and want it to be both successful and open. I am not optimistic.

The best trades are still to be massively overweight USD and to play Asian and the US economy as first order themes. Emerging markets starting to come into “not insane to buy” levels as second order trades along with energy sector/companies behind that.  What is really shocking is that, with 25% of market capitalised S&P companies reporting, the results are OK; delivering >3% earnings growth, >2% sales growth vs. the same period last year and c75% beating estimates, we are not talking of the fundamentals but still the macro and big picture. The one thing is certain; we really are in a global allocation moment. It makes sense to be investing along themes and not necessarily specifics or with a total bottom up approach, I am happy that OPUS Cautious is delivering on its raison d’être


Simon Fentham-fletcher is chief investment officer at Freedom Asset Management

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