Market update and investment risks

The following reflects the general views of Prudential Portfolio Management Group Ltd and should not be taken as recommendation or advice as how any specific market is likely to perform.

These views are as at the end of September 2017.

The value of investments can go down as well as up. Investors could get back less than they put in.

Please remember that past performance is not a reliable indication of the future performance.

Overview

Although the negotiations over the UK's withdrawal from the European Union continue to drag on, policymakers at the Bank of England have raised the prospect of higher interest rates, encouraged by the slow but steady improvement in the economy and a pick-up in inflation.

US stockmarkets continued to rally despite President Trump engaging in several bouts of warlike rhetoric with the leader of North Korea, and southern states being hit by severe weather. By the end of the quarter, the broad S&P 500 Index stood at a record high, having enjoyed an eighth successive quarter of gains.

Stronger-than-expected growth in the European economy underpinned the returns from the region's stockmarkets. The persistent rise of the euro against other currencies led some investors to question whether exports may come under pressure. A stronger euro boosted the returns from eurozone assets to UK investors.

Economic data released during the quarter seemed to signal a continuation of economic growth in almost all regions. This is being witnessed in the readings of economic activity, unemployment and company profits. This improvement in the economic outlook has prompted central bankers to consider the withdrawal of emergency measures, such as record low interest rates and asset purchases to curb any increase in inflation. For example, the US is widely expected to hike interest rates again in December.

Equities (or shares)

Better economic data and robust company earnings were reflected in higher demand for company shares (equities), and many stockmarkets finished the quarter at their highest levels for several years.

UK stockmarket indicators touched record highs during the quarter. The general economic improvement boosted basic materials companies, while the higher oil price supported the share prices of oil & gas producers. By the end of the quarter, the broad S&P 500 Index stood at a record high, having enjoyed an eighth successive quarter of gains.

In Europe the stronger performers included Italy, while Switzerland and Spain lagged. Oil & gas was the best performing sector, with consumer services the weakest. The Japanese stockmarket declined in the first two months of the quarter, as rising geopolitical tension led investors to buy the country’s currency, which is seen as a safe haven. However this was reversed in September.

An increase in investors’ appetite for risk led to strong performance in a number of emerging markets.

What do you mean by Equities?

  • Equities are commonly known as "shares". When a fund buys a company share, it is investing in a company and, in exchange, receives a share of the ownership of that company. Shares give two potential investment benefits:
    • share prices may increase as the value of the company increases.
    • companies may pay dividends - regular payments made to shareholders based on how well the company is doing.

What are the general risks of this type of asset?

  • Over the longer-term, equities are considered to offer greater growth potential than many other asset types. However, the value of any investment can go down as well as up, either over the short or longer term and so there is a higher risk of losing your original capital than investing in fixed interest securities (see below).
  • The financial results of other companies and general stock market and economic conditions can all affect a company's share price, and consequently the value of any fund investing in that company.

Fixed interest

UK government bond (gilt) prices fell during the quarter, although short-dated bonds performed slightly better than those with a longer time until final repayment. The synchronised improvement in global economic data has encouraged the world's central bankers to consider withdrawing the emergency policy measures that were introduced to boost economic activity.

The anticipation of higher interest rates around the world led to declines in most developed countries' government bond markets. During the quarter, bonds issued by companies performed better than those issued by governments, supported by investors' desire for income.

What do you mean by Fixed Interest?

  • Fixed interest securities, more commonly known as "bonds", are loans issued by companies or by governments in order to raise money.
  • Bonds issued by companies are called Corporate Bonds, those issued by the UK government are often called Gilts or UK Government bonds and those issued by the US government are called Treasury Bonds.
  • In effect all bonds are IOUs that promise to pay you a sum on a specified date and pay a fixed rate of interest along the way.
  • Index-linked securities are similar but the interest payments and redemption value are normally increased by a price index e.g. for UK government index-linked securities, interest payments and redemption value are increased in line with the UK Retail Price Index.

What are the general risks of this type of asset

  • On the whole, investing in Government or Corporate Bonds is seen as lower-risk than investing in equities. To date, no UK government has ever failed to pay back money owed to investors. But with Corporate Bonds there is a risk that the company may not be able to repay its loan or that it may default on its interest payments.
  • Corporate and Government bonds are sensitive to interest rate trends. An increase in interest rates is likely to reduce their value, and hence the value of any fund investing in them.

Property

Despite the outcome of the June general election and the ongoing uncertainty surrounding 'Brexit', UK commercial property capital values continued to grow in the third quarter. Total returns from the asset class are being driven by both growth in capital values and stable rental income. The overall resilience of UK commercial property is encouraging, and is due in part to buying by overseas investors following the decline in sterling.

Across the different sectors, capital growth is currently strongest within industrials, with values in the South East increasing the fastest. In Offices, capital growth is strongest outside Central London. Meanwhile, in the Retail sector, capital value growth is still behind the other two sectors, although it has picked up of late.

What do you mean by Property?

  • For our funds we would mean commercial property investment. This generally means the fund is sharing in the returns from the ownership of some buildings (for example, offices and shopping centres).
  • The value of the property may increase and tenants may pay rent to the owners of the building.

What are the general risks of this type of asset

  • Property can be difficult to buy and sell quickly. Fund managers may have to delay withdrawal of money by customers from a property fund until they can sell some of the buildings the fund invests in.
  • The actual value of a property is what someone is prepared to pay for it - an actual sale value. As sales are infrequent, interim valuations are based on a valuer's opinion and may be revised up or down from time to time. This can affect the value of a fund invested in commercial property, with the value possibly fluctuating significantly and could result in an investor not getting back the amount they originally invested.
  • This leads to a number of risks for funds investing in property:
    • Cash could remain uninvested as property assets can be difficult to buy, leading to lower returns than expected.
    • The value of the fund may be reduced if a large number of withdrawals are requested and it is necessary for properties to be sold at reduced prices.
    • There may be delays removing your money from the fund if property cannot be sold.
    • Property fund valuations may be revised periodically, upwards or downwards.
    • Rental income is not guaranteed. Defaulted rent and unoccupied properties could reduce returns.
    • If the size of the fund falls significantly, the fund may have to hold fewer properties, and this reduced diversification may lead to an increase in risk.

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