There was no surprise for the UK interest rate rise of 0.25% yesterday, though the vote (8-1) was a cautious one given the difficulty of reading the economic situation. However, it is still expected to see this trajectory continue with rates of 1+% for the first time since 2009, later this year. The focus for next week is for the Chancellor’s budget statement on Wednesday, which the markets will have a certain amount of interest in. This is all in the light of the ongoing war in Ukraine and the potential economic impact this may have long term. One of these has been the price of oil, which has rallied again to over £100 a barrel. This Is not surprising and that along with the commodity prices rocketing, may make this a tough time for many industry sectors and could see a reduction in short-term profitability for some companies. These inflationary pressures are not welcome, but then do have a way of flattening themselves out eventually. If nothing else, businesses in general have been far more cautious since the credit crisis of 2008 and so stronger balance sheets tend to underpin short term issues.
When looking at companies, we have always talked about strong balance sheets and also the amount of positive free cash flow a company has. The former aspect is reinforced by the fact that companies we invest in have no or very little debt, and so are able to weather using cash reserves and not borrowing more. With the cost of borrowing increasing in line with interest rate rises, this means those companies not needing to borrow, are stronger in supporting their business. Free cash flow is also important, as this identifies how much money a company has got left after paying for items like payroll, rent and taxes. This money can be used as the company wishes and is often accrued to help with development and growth. It also identifies whether they will be able to provide a growing dividend now or at some point in the future. Having a negative one is not necessarily bad, as it may be they are investing much of this cash into operations to grow the profitability, however, it is a marker for us to monitor going forwards.
There is no doubt that we are seeing loads of uncertainty in the wider global economy, with the events as they unfold in Ukraine. However, it is important to see this on the backdrop of strong economic recovery following the Covid pandemic, and although volatile and rather speculative at the moment, the markets are still offering a focus on growth for the next year or two. We have always addressed situations like this by making sure we diversify clients investments across several asset classes, including sukuk, equities, commodities and infrastructure. By managing the balance and reinvesting income where we can, the compound growth over time of a portfolio will actually benefit from fall in market prices.
The rhetoric of ‘staying as you are’ is well backed up by the statistical fact that 80% of market gains are made in just 10% of the time. This means that returns in equities are rarely linear, but made of market falls and strong recoveries. Trying to time the market wholesale is virtually impossible as any share price’s value is at any one time a sum of all investors knowledge, hopes and fears, and trying to second guess them is impossible. Whilst there are rare occasions where extreme events mean holding cash if not yet invested is a sensible approach, it is about “time in the market” as opposed to “timing the market”, this makes sure you do not miss those strong recovery days when they suddenly do come.