The war in Ukraine entered its fourth month, with the impact on commodity prices becoming more serious. Food and energy prices are feeding inflationary pressures. The prolonged Covid lockdown in China again caused bottlenecks in supply chains. Industrial metals sold off, presumably on fears of a reduced demand caused by a global economic slowdown – copper was off 3 per cent, aluminium -9.2 per cent and nickel -11.9 per cent.
On the other hand, Brent crude was up 9.4 per cent and wheat 3 per cent. The surging natural gas price might cause a problem for the US economy (up 18 per cent in May). Exporting LNG to the more lucrative European market tightens the US demand/supply balance leading to higher prices.
In the UK, inflation hit 9 per cent. The increase in the energy price cap in October will likely push inflation into double figures. The "cost of living crisis" forced the government into helping those most impacted. It may soften the impact of recession but also lead to inflation staying higher for longer. The Chancellor partly funded this largess by a new tax (it isn't a windfall tax because it is ongoing until at least 2025) on North Sea oil and gas operators.
It was a mixed bag from equity markets. European markets, including the UK, were mildly positive, although the divergence between larger and smaller stocks continued in the UK. The FTSE 100 was up 0.8 per cent, the FTSE 250 was down 1.4 per cent, FTSE Small Cap -2.4 per cent and Aim All-Share -4.6 per cent. The DAX was up 2.1 per cent, the Italian MIB 2.5 per cent, while the CAC was off 1 per cent. Across the Atlantic, it was a different story, with the derating of "growth" stocks continuing apace. The NASDAQ was down 2.1 per cent, leaving it off 22.8 per cent this year. The S&P 500 rallied from its 23 May low to finish the month flat but still down 13.3 per cent this year. A drop in the US 10-Year Treasury yield from its four-year high of 3.12 per cent in early May to 2.85 per cent on 31 May helped equity markets rally.
Bitcoin had a dreadful May, falling 17.7 per cent to $31,770. By mid-June, it has fallen further, and its 56 per cent fall this year must be testing the strength of conviction of even the most ardent supporters. Gold fell 3.8 per cent in May. It is up 1 per cent this year, although, in sterling terms, it has gained 12.1 per cent to 16 June.
The bad news has continued into June. Higher than expected US inflation in May disappointed those who thought it might have peaked and prompted the Federal Reserve to increase interest rates by 0.75 per cent at last week's meeting. Investors are getting the message that if the Federal Reserve must trash the economy to beat inflation, it will. Equity and bond markets don't like it.
May proves tough
May proved the eleventh worst month out of 125 months for the JIC Portfolio. It was down 4.3 per cent during the month, leaving it down 7.1 per cent in 2022. The FTSE All-Share (TR) Index is up 1.5 per cent this year, while the FTSE All-World (GBP, TR) is off 5.9 per cent. Since its inception in January 2012, the JIC Portfolio is up 320.2 per cent (14.8 per cent annualised), comparing favourably with the +113.8 per cent (7.6 per cent annualised) from the All-Share and +248.8 per cent (12.7 per cent annualised) from the All-World.
My underexposure to large-cap continues to impact my returns, with the Aim market down 19.8 per cent this year, the FTSE 250 -13 per cent and Small Cap -10.4 per cent. Smaller companies continue to suffer as liquidity dries up.
My significant position in Serica Energy (SQZ) caused much of the damage. It had already fallen before the Rishi Sunak announced his windfall tax. It ended the month down 25.7 per cent and 38 per cent from April's high. The selloff has been overdone, allowing me to add back, having trimmed at higher prices. The price has since rallied off the lows in response to yesterday's update from Serica Energy. We know that AXA has been a big seller of shares, coming down from near 10 per cent to under 5 per cent. I have no idea their intentions with the remainder of their position, but if they sell out, it will be good to see the overhang cleared.
Supreme (SUP) was another big faller, down 22 per cent despite a reassuring update on 10 May. It is not immune from cost pressures, especially regarding transportation and employment. Analysts have trimmed earnings forecasts for 31 March 2023 by around 6 per cent to 13.6p. The drop in the share price seems overdone to the extent that one wonders what one might be missing. It is on less than 10.0x earnings. At 4.1 per cent, I am under my target position of 5 per cent but have decided to wait until the dust settles before adding to what is now my most significant losing position.
Three other stocks were down more than 10 per cent. Anglo Pacific (APF) was down 13.9 per cent despite a very positive update at the end of April. I guess worries about economic growth caused some selling. SigmaRoc (SRC) was down 13.3 per cent, with sellers presumably motivated by concerns that it might see some slowdown in demand and that it might not be able to pass on all the cost increases impacting it. Those concerns led to me reducing my position on 5 May at 72p. While on SigmaRoc, a presentation by chief executive Max Vermorken at Mello 2022 was reassuring. I think the long-term story is excellent, and I will be hanging on to my 2.5 per cent position. At some stage over the next year, I hope to add at lower prices as the European economy slows down. Somero Enterprises (SOM) was down 10.3 per cent on no news. Concerns about the US economy are causing the weakness here.
Now to the positives. K3 Capital (K3C) was up 16.3 per cent following a positive trading update on 9 May. Since its last update on 7 February, it said that trading had continued to be positive. The board remains very confident in its outlook for the year, with all three divisions showing solid activity levels. There will be a more detailed year-end update this month. My newest position, Gulf Keystone (GKP), was up 14.3 per cent, but I only captured half of that, having bought on 4th and 5th of May. SDI Group (SDI) was up 9.7 per cent following a super year-end update on 6 May. May 2023 forecast earnings per share were increased by 10 per cent. That means, since December, forecasts for the year we have just entered have increased by more than 50 per cent!
The Funds' Portfolio fared better than the JIC Portfolio. It was down just 0.1 per cent, marginally better than the 0.2 per cent drop in the FTSE All-World. Year to the end of May, the Funds' Portfolio is down 6.0 per cent, a little behind the -5.9 per cent return of the FTSE All-World GBP Index. The All-World $US Index was off 12.4 per cent in the first five months. Blackrock Energy & Resources Income was the most significant positive contributor, gaining 9.2 per cent. The worst was L&G Gold Mining ETF, down 11.6 per cent.
Tactical adjustments in commodities exposure
It was quite an active month. Having sold my Lundin Energy in April, I added a new oil stock, Gulf Keystone, on the 4th and 5th of May at an average price of 258p. Given its sensitivity to oil prices and reliance on its excellent relationship with the Kurdistan Regional government, it is at the riskier end of the spectrum. I think it is worth taking the risk at current high oil prices. It generates vast amounts of free cash, returning it through ordinary and special dividends. The forecast yield on the shares is over 20 per cent, but payments to shareholders could exceed this at its current rate. After I bought, it announced an additional special dividend to be paid in July of $50mn and the $25mn already planned. The total $75mn amounts to nearly 10 per cent yield.
Gulf Keystone was the only new position, but I added to existing positions on weakness: on 12 May to Biotech Growth Trust (BIOG) at 735p, Lloyds Banking Group (LLOY) at 42.4p and SDI Group at 162p. On three occasions, I added to Serica Energy at prices between 310p and 260p, taking the position back up to 7.5 per cent – it's pleasing to see it back above 310p.
As mentioned earlier, I halved my position in SigmaRoc at 72p. I also halved Renew Holdings (RNWH) to 2.5 per cent at 680p. Perhaps I was trying to be too clever in reducing Renew ahead of results. As it happened, half-year results published on 17 May showed solid revenue growth, margin expansion and a 17.4 per cent increase in the interim dividend. The outlook statement was optimistic. Renew is another position I will be looking to increase on weakness. Fingers crossed.
In previous monthly reviews, I have foreshadowed that I would be looking to reduce my high weighting to commodity stocks after a solid seasonal run since last autumn. I'm still optimistic about commodities, hence my overweight position. Just tactically, I think taking some profits makes sense. If the global economy slows substantially, it could lead to short-term weakness in many metals, even if the longer-term story remains intact. On 5 May, I trimmed Blackrock World Mining Trust (BRWM) at 725p before reducing it more substantially to 7.5 per cent on 30 May at 722p. It stood at a small premium to NAV, a rare event for this trust. I sold my position in the Global X Copper Miners ETF completely, realising a small profit. On 31 May, my exposure to commodity stocks stood at 33 per cent, of which oil and gas was 13.2 per cent.
I was also active in the Funds' Portfolio. I reduced my exposure to commodity stocks and UK smaller companies. I added to three existing positions and introduced a new position in an absolute return fund. Full details can be found at www.jicuk.com.
Sylvania Platinum (SLP) commenced a buyback of its shares on 10 May. It intends to buy $8.5mn worth of shares by 30 June. That amounts to about 3.5 per cent of its share capital. It enhances the value per share for those who do not sell, including me. NextEnergy Solar Fund (NESF) announced a significant uplift to its NAV. On 31 March, it said its NAV was 113.5p, 8.7 per cent up on 31 December. It also indicated a 7.52p dividend for 2022, up 5 per cent on 2021's pay-out. That gives a prospective dividend yield of 6.9 per cent at the current price of 109p. Now, all we must wait for is to see if the chancellor hits them with a windfall tax! Circassia (CIR) announced that trading had been firm with EBITDA for the whole year likely to be materially ahead of expectations. NIOX clinical reviews for Asthma are up 17 per cent year-on-year. CentralNic (CNIC) presented robust Q1 results in which it said organic growth was running at 53 per cent, and operating cash conversion stood at 128 per cent. The outlook statement was confident, with the following news being an H1 trading update on 18 July.
A testing time ahead
As of 16 June, equity indices are hitting new lows. The S&P 500 is down 23 per cent this year, NASDAQ, 32 per cent and the FTSE All-Share, -6 per cent. Valuations have come back to more reasonable levels, but are still elevated compared to history. We have not yet had much in the way of earnings disappointments, but given slowing economic growth and rising costs, they are likely on the way. Even if the Federal Reserve engineers a soft landing, and inflation drops, corporate profits will be under pressure. I think holding 10 per cent or so in cash at least gives me the flexibility to add on weakness, should I be correct. Many believed that the 3.12 per cent yield seen on the US Treasury 10-year bond in early May was the peak for this cycle. May's disappointing inflation numbers put paid to that – it spiked to 3.5 per cent on 14 June (its highest since 2011). We've had several bear market rallies' this year, and there will be more before this current bear is over. It will be a testing time for equity markets over the summer. The most optimistic case is that the pain is quick and that by the autumn, there is enough evidence that inflation is heading lower that the Federal Reserve can shift policy.
I believe timing the markets is challenging and that time in the markets is most important; let those returns compound over time. However, we are juggling challenging issues with inflation at levels last seen in the 70s and 80s, yet interest rates and bond yields are still low despite recent increases. To be 100 per cent committed to equities, one must be seeing everything through rose-tinted glasses. As someone typically very optimistic, it makes sense to keep some cash for better opportunities ahead and have exposure to more defensive type investments. Cash in the JIC Portfolio currently stands at 10.1 per cent and in the Funds' Portfolio at 12.9 per cent.
|Name||EPIC||Mkt. Cap (£m)||Risk Low, Med, High||Reward Low, Med, High||% of Port.||My target %||Total return so far %|
|NextEnergy Solar Fund Ltd||NESF||636||L||M||7.7||7.50||1|
|Serica Energy PLC||SQZ||709||L||H||7.7||7.50||82|
|BlackRock World Mining Trust PLC||BRWM||1346||L||H||7.5||5.00||99|
|Sylvania Platinum Ltd||SLP||243||M||H||6.2||5.00||88|
|Anglo Pacific Group PLC||APF||333||M||H||6.1||5.00||24|
|CentralNic Group PLC||CNIC||359||M||H||5.7||5.00||14|
|K3 Capital Group PLC||K3C||209||M||H||5.7||5.00||30|
|Gulf Keystone Petroleum Ltd||GKP||600||M||H||5.5||5.00||7|
|Lloyds Banking Group PLC||LLOY||31021||M||H||5.4||5.00||-13|
|Circassia Group PLC||CIR||150||M||H||4.4||5.00||-18|
|Somero Enterprises Inc||SOM||218||M||H||3.9||5.00||-23|
|Biotech Growth Trust (The) PLC||BIOG||331||M||H||3.7||3.50||37|
|Worldwide Healthcare Trust PLC||WWH||1986||M||H||3.6||3.50||16|
|SDI Group PLC||SDI||167||M||M||2.5||2.50||139|
|Renew Holdings PLC||RNWH||546||M||H||2.5||2.50||44|
|Baillie Gifford Shin Nippon PLC||BGS||459||M||M||1.8||2.50||70|