SMF monthly update

Welcome to your July 2024 update from the Aviva Investors' Multi Asset Team.

How did SMF perform?

Growth assets

Most equity markets struggled this month as expectations for rate cuts, as well as political concerns, caused a rotation away from megacap stocks. Smaller companies outperformed as their greater reliance on bank debt, relative to bigger companies, positions them to benefit more from future rate cuts. Japanese and UK equities were the exceptions, posting positive returns in July for GBP investors which was reflected in the portfolios. Japanese equities performed well in Sterling terms as a product of the recent rally in the Yen. In the UK, equities benefitted from a sense of newfound political and economic stability post the election. In terms of tactical positions, our overweight position in Japanese equities was a positive contributor in July due to the strong Yen, whilst our overweight positions in North American and European equities detracted from returns.

Defensive assets

July marked signs of a recovery for fixed income markets, with the majority ending in positive territory for the month. This was driven by reignited hopes for rate cuts this year by key central banks, with the Bank of England delivering its first rate cut since 2020 in July. Additional cuts are forecast for September, particularly from the Fed and the ECB. Our tactical fixed income positions both contributed positively to performance as our overweight to Gilts was boosted by the BOE rate cut, whilst our underweight position in Japanese government bonds benefitted from a rate hike by the Bank of Japan. Our Global Sovereign Bond fund was the best performing individual fund within the Defensive sleeve.

Alternative assets

Alternative assets continued to perform strongly in July, delivering positive performance driven by our property holding. This helped to offset losses within the Growth sleeve.

Key active management themes in July 2024

1. Tactical equity positions

• Reduced our overweight positions in European, US and Japanese equities
  • Given recent market volatility, which follows strong equity market performance in the first half of the year, we have trimmed our overweight position to equities within Europe, the US and Japan.
• Opened an overweight US equity v EM equity position (relative value)
  • Given China’s weak macro outlook, and limited government stimulus, we expect Emerging Market equities to underperform relative to the US equity market.

2. Increased our overweight in Gilts  

• Evidence of slowing activity in the UK, which has prompted the first rate cut by the BoE, is expected to encourage more rate cuts this year relative to other central banks.  

Top 10 Equity holdings

Source: Aladdin, as at 29 July 2024.The reference fund is SMF.

SMF & SMF 2 Fund Price Adjustments (FPA)

There were no fund price adjustments in July 2024.

Market outlook and positioning: what do we believe happens next?

From an active asset allocation perspective, we continue to prefer equities as they have the potential to perform well in a disinflationary macro environment wherein interest rate cuts by developed market central banks are expected this year (with the exception of Japan). We remain overweight US, European and Japanese equities, whilst having an underweight in Emerging Market equities. Despite recent volatility, US equities have maintained their strong valuations as companies have continued to deliver robust earnings, albeit slightly below market expectations. We also expect US equities to continue outperforming EM equities, given the economic slowdown in China. In Europe, company valuations remain attractive and expectations for a rate cut by the ECB in September could provide a further boost to the equity market. In terms of Japan, we expect Japanese equities to benefit from stock market reforms aimed at increasing efficiency and profitability.

Regarding our fixed-income allocation, we have two key tactical asset allocation positions: short Japanese government bonds and overweight UK Gilts. Essentially, we believe that Japan is at the start of its hiking cycle given increasing inflationary pressures, with another rate hike delivered by the Bank of Japan in July. In the UK, inflation is falling and whilst growth has started to recover, it is still relatively weak compared to other developed economies. Given this, we believe our Gilt position could benefit from the potential for more rate cuts from the BoE, with the first rate cut since 2020 delivered last month.

Top 3 investment trends – July 2024

1. Politics takes centre stage

July kicked off with Labour winning the UK snap election with a huge parliamentary majority, as was widely anticipated by investors. In contrast, markets were wrong-footed by political developments in France and the US. Second-round voting within the French parliamentary elections saw a stark reversal of the far-right’s success in the first round. Support surged for the left alliance and centrist parties, resulting in a hung parliament. In terms of the US election, headlines were dominated by the assassination attempt on Donald Trump and President Biden’s resignation from the presidential race, and subsequent endorsement of his former VP Kamala Harris as the Democratic candidate. As it stands (6 August), betting odds position Trump as the likely winner, although Harris has significantly narrowed the gap between the Republican and Democratic parties.

2. Small-cap companies beat the Mag-7

At the start of the month, slowing macro data sparked hopes for rate cuts, providing a boost to global equity markets with the S&P 500 reaching yet another new record high. However, by mid-month, investors began to rotate away from large-cap - particularly mega-cap - tech stocks, into small-cap stocks. This was driven by several factors, including profit-taking by investors in the Magnificent 7 and the anticipation of rate cuts, which may be beneficial to smaller companies that are more reliant on borrowing. Big tech companies also suffered due to markets contemplating whether a Trump win would produce a tougher stance on big tech, following criticisms of offshore supply chains by his VP JD Vance. Consequently, the Russell 2000 (a US small cap index) finished the month up 10.2%, whereas the Magnificent-7 stocks were down -0.6%.

3. Rising hopes for rate cuts (again)

July saw signs of a recovery for fixed income markets, as softer macro and inflation data reignited hopes for rate cuts by key central banks. Notably, US treasuries posted their strongest monthly performance this year triggered by a higher-than-expected unemployment rate of 4.1% and lower inflation, with the annual headline rate decelerating to +3%. Whilst both the Fed and ECB kept rates unchanged in July, dovish remarks by Fed chair Jerome Powell and weaker Euro Area PMIs have raised expectations for a September rate cut in both cases. Within the UK, the Bank of England voted by a narrow margin to cut rates by 0.25% on 1^st August; the first cut in four years.

Key risks

• Investment not guaranteed: The value of an investment is not guaranteed and can go down as well as up. You could get back less than you’ve paid in.
• Specialist funds : Some funds invest only in a specific or limited range of sectors. This will be set out in the fund’s aim. These funds may be riskier than funds that invest across a broader range of sectors.
• Suspend trading : Fund managers are often able to stop any trading in their funds in certain circumstances for as long as necessary. When this happens, cashing in or switching your investment in the fund will be delayed. You may not be able to access your money during this period.
• Derivatives: Derivatives are financial contracts whose value is based on the prices of other assets. Most funds can invest partly in derivatives so that the fund can be managed more efficiently or to reduce risk, but there’s a risk that the company that issues the derivative may default on its commitments, which could lead to losses. Some funds also use derivatives to increase potential returns – this is known as ‘speculation’ – and an additional risk warning applies to those funds.
• Foreign exchange risk: When a fund invests substantially in overseas assets, its value will go up and down in line with movements in exchange rates as well as the changes in value of the fund’s investments.
• Emerging Markets: Where a fund invests substantially in emerging markets, its value is more likely to move up and down by large amounts and more frequently than a fund that invests in developed markets. Emerging markets may not be as strictly regulated, and investments may be harder to buy and sell than in developed markets. Emerging markets may also be politically unstable which can make these funds riskier.
• Smaller Companies: Where a fund invests in substantially the shares of smaller companies, it’s more likely to move up and down by large amounts and more frequently than a fund that invests in the shares of larger companies. The shares can also be more difficult to buy and sell, so smaller-companies funds can be riskier.
• Fixed Interest: Where a fund invests substantially in fixed-interest assets, such as corporate or government bonds, changes in interest rates or inflation can contribute to the value of the fund going up or down. For example, if interest rates rise, the fund’s value is likely to fall.
• Derivatives: Some funds also invest in derivatives as part of their investment strategy, not just for managing the fund more efficiently. Under certain circumstances, derivatives can cause large movements up or down in the value of the fund, making it riskier compared with funds that only invest in, for example, company shares. There’s also a risk that the company that issues the derivative may default on its commitments, which could lead to losses.
• Cash/Money Market funds : These are different to cash deposit accounts, such as those held with high-street banks, and their value can fall. Also, when interest rates are low, the fund’s charges could be higher than the return from the investment, so you could get back less than you’ve paid in.
• Property Funds: When a fund invests substantially in property funds, property shares or directly in property, you should bear in mind that: · Property isn’t always easy to sell, so at times the fund may not be able to cash-in or switch part or all of its holdings. You may not be able to access your money during this time. Property valuations are made by independent valuers, but effectively they remain a matter of judgement and opinion. Property transaction costs are high due to legal costs, valuation costs and stamp duty, all of which affect the value of a fund.
• High Yield Bonds: These are issued by companies and governments that have a lower credit rating. When a fund invests substantially in high yield bonds, there’s a higher risk that the bond issuer might not be able to pay interest or return the capital that was invested. The value of these bonds is also more greatly affected by economic conditions and interest rate movements. There may be times when it’s not easy to buy or sell these bonds, so cashing-in or switching your investment in the fund may be delayed. You may not be able to access your money during this period.
• Reinsured Funds: Where a fund invests in a fund that’s operated by another insurance company, you could lose some or all of the value of your investment in the fund if the other insurance company became insolvent.
• Long-Term Asset Funds: The fund invests partly in one or more long-term asset funds (LTAFs), giving access to sectors such as infrastructure, venture capital, private equity and debt investments. LTAFs add diversity to the fund, but it takes longer to move money out of them than from many types of asset. This could mean that in exceptional circumstances cashing-in or switching your investment in the fund may need to be delayed. To reduce this risk, we set strict limits on how much of the fund can be invested in LTAFs and monitor this closely.

Important information

Except where stated as otherwise, the source of all information is Aviva Investors Global Services Limited ("Aviva Investors"). Unless stated otherwise any opinions expressed are those of Aviva Investors. They should not be viewed as indicating any guarantee of return from an investment managed by Aviva Investors nor as advice of any nature. The value of an investment and any income from it can go down as well as up. Investors may not get back the original amount invested.

Issued by Aviva Investors UK Fund Services Limited. Registered in England No 1973412. Authorised and regulated by the Financial Conduct Authority. Firm Reference No. 119310. Registered address: 80 Fenchurch Street, London, EC3M 4AE. An Aviva company.