Personal Assets cautious allocation has not been rewarded

Personal Assets (PNL) has published its annual results for the year ended 30 April 2024, during which it provided NAV and share price total returns of 1.3% and 1.2%, respectively. In comparison, it says that the All-Share Index returned 3.4% and RPI was 3.3%. PNL’s manager, Sebastian Lyon, says that PNL’s “cautious asset allocation has not rewarded shareholders over the last year”, but thinks that its ample liquidity and the portfolio’s defensive positioning provide a solid platform if we enter more challenging times.

During the year, PNL continued to maintain a high level of liquidity and, at 30 April 2024, liquidity was 72.5%. This included 11.8% in UK Gilts, UK index-linked bonds, UK cash, overseas cash, and net current assets and 60.6% in various classes of non-equity risk assets: 36.5% in US TIPS, 11.6% in US Treasuries and 12.5% in Gold Bullion. This compared to holdings as at 30 April 2023 of 17.7% in UK Gilts, UK cash, overseas cash, and net current liabilities and 58.2% in various classes of non-equity risk assets: 33.9% in US TIPS, 14.8% in US Treasuries and 9.5% in Gold Bullion.

Bond markets have continued to disappoint

Lyon says that, despite renewed speculation in some parts of the equity market, bond markets have continued to disappoint. The secular bear market in bonds, which began in 2020 when yields troughed during the pandemic, has continued with rising yields (and falling prices). Lyon says that it is becoming clear that we have entered a new era of upward yield pressure and a commensurate rising cost of capital. While western bond markets have performed poorly, this may take time to be reflected in equity valuations, which remain high by historic levels. Lyon adds that this new regime is the reverse of the 2010s, when benign inflation and low growth meant rate hike expectations were continuously dashed and bond yields ground ever lower.

At the beginning of 2024, the consensus forecast was for no less than six interest rate cuts over the coming year from the US Federal Reserve and the Bank of England. Yet four months on, interest rate cuts have not been forthcoming. Lyon thinks that fewer cuts, when they eventually arrive, may imply interest rates bottom at a higher level than many expect, with further implications for long-dated bonds and equities. As a result, he is continuing to keep duration risk low, citing that it served PNL well during 2022 where it avoided material drawdowns from rising yields. Lyon says that he suspects there is a need to acclimatise to this new environment and that, despite easy comparisons from price levels of a year ago, inflation has remained stickier than expected with core levels still stubbornly above targets in the US and the UK. He adds that this plays into PNL’s preference for holding inflation-linked bonds, which offer positive real yields.

Equities made a positive contribution

PNL’s equity selection made a positive contribution to returns despite its modest exposure. Alphabet, American Express, Microsoft and Visa performed well. In contrast, consumer staples Diageo and Nestlé detracted. Lyon says that he continues to have confidence in the long-term prospects for these companies, which have a track record of providing strong returns to their shareholders over time. As would be expected, portfolio activity was relatively modest, although Diageo was added to following its profit warning in November.

Getting some Heineken in

During the year, PNL initiated a new holding in Heineken. Lyon says that Heineken’s shares have been weak, and the valuation now sits around the same level as its 2020 low, which he says follows difficult macroeconomic conditions in some of the company’s emerging markets, particularly Vietnam. Lyon has been following Heineken for several years and is enthusiastic about its prospects. Lyon comments that Heineken operates in the growing premium segment of the attractive beer category, with a strong portfolio of brands distributed over a diversified range of geographic exposures. Around 70% of its profits come from fast-growing emerging markets. Current management are still in the early stages of their tenure and are bringing renewed dynamism to the company’s productivity, pricing and digitisation efforts, in his view. This combines with the company’s long-term approach to capital allocation, supported by an ongoing history of family ownership, and should lead to attractive value creation over the long run, Lyon adds.

Cashed out from Franco-Nevada

Since 2017, PNL has been invested in Franco-Nevada, a gold-focused royalty and streaming company. Lyon says that Franco-Nevada had an excellent track record in allocating capital to mining projects without the complexity, or capital, required to run the mining operation, providing its shareholders with geared exposure to the price of gold. However, while this model worked well when Franco-Nevada was smaller, Lyon says that it has become harder to find investments that ‘move the needle’ as the company has grown. This has resulted in increased concentration across a handful of larger investments, most notably in the Panamanian gold and copper mine Cobre Panama, which comprises just under 20% of Franco-Nevada’s assets. Growing social pressures in Panama led the government to question the constitutionality of the mine’s concession agreement and to suspend its operations. PNL’s holding was reduced in December 2022 when these pressures first reared their head. After an apparent resolution in early 2023, the issue resurfaced, and the remainder of the position was sold in November 2023.

Gold strength has caught many investors by surprise

Lyon says that, despite the sale of Franco-Nevada, gold remains essential portfolio insurance and provides diversification for the company. During the financial year, the price of gold rose by +15% to $2,295oz. (+16% in Sterling). Lyon thinks that this strength has caught many investors by surprise as higher interest rates implied a higher opportunity cost for holding a zero-yielding asset like gold. However, he notes that gold has outperformed the S&P 500 US equity index this century, demonstrating its substance and scarcity in an increasingly febrile and financialised world in his view. He says that heightened geopolitical tensions and the gradual reversal of globalisation explain the continued attraction of an asset that is no one’s liability, as well as sustained demand from central banks seeking to diversify their reserve assets away from western currencies, a process described as ‘de-dollarisation’. He also thinks that savers may also be seeking protection from sticky and stubborn inflation.

Grounds for caution remain

Lyon thinks that grounds for caution remain. There is evidence of retail investor speculation including participation in cryptocurrencies and ‘meme’ stocks. Meanwhile the most recent Bank of America global fund manager survey highlights that fund managers are at their most bullish since the last equity market peak in November 2021. He thinks that “this is a time for patience and prudence, not ebullience”.