Steve Clayton 25 July 2018
Donald Trump is a President with an unyielding America First policy. He’ll cut a trade deal with anyone, so long as America wins most from the deal. And if he doesn’t like a deal he’s already got, he seems prepared to rip it up and impose tariffs on goods coming into the States, with no need to negotiate first.
You can see why markets have their concerns. It’s the very large businesses that grew big by serving customers at home and abroad who hold most of the value in global stock markets. Big companies need trade to flow freely.
Each and every day, we buy goods that have travelled across the world. So trade wars, where nations put tariffs on the movement of each other’s goods, are bad news for global business.
China feels the heat
China’s historic trade success has caused a huge burst of building and infrastructure development, as Chinese cities have grown to cope with increasing growth. There are now more than one hundred Chinese cities of over a million people – Shanghai alone has a population of over 22m people.
As a result, China’s become far and away the biggest consumer of traded commodities. Building roads and railways, vast cities, and the power plants to light them takes huge amounts of iron, copper and energy.
According to Australia’s Reserve Bank, China’s been accounting for 40% or more of the value of world trade in commodities. If trade wars get worse, Chinese industrial demand could be hit and with it, Chinese demand for commodities.
Markets are starting to fret about these risks and commodity prices have been tumbling. Copper’s fallen by 20% in recent weeks, and zinc recently hit its low for the year.
At the same time, Saudi Arabia has reportedly been cosying up to the US president and is said to be offering more supplies of crude oil to the market.
That’s seen the price of crude oil come rattling back from $80 a barrel to $73.
Price takers vs. price makers
These price falls directly affect how much some companies can charge for commodities. Yet the companies producing energy, minerals and metals have no control over the process. The market price simply happens to them, rather than being something of their own making. That’s why the HL Select funds invest very little in commodity producers.
In our funds, we look for businesses that have more control over their own destiny. The funds are concentrated with a small number of investments, and invest in some smaller companies. This increases the performance potential, but is a higher-risk approach.
Take Rightmove which is held in both the HL Select UK Growth Shares and HL Select UK Income Shares funds. If an estate agent wants to get their properties seen by the maximum number of potential buyers, a Rightmove subscription is a must. No surprise then that the company has been able to hold or raise its prices through thick and thin.
Other great examples include Sanne Group, a specialist fund administrator, whose clients need them each and every day and where switching supplier is rare indeed. Or BCA Marketplace – their car auction services are vital to the motor trade and with the auction fees just a tiny percentage of a car’s value, pricing can be strong.
Control over price offers options
Companies with products that their customers can’t live without, and which sell on the quality and uniqueness of their offering, are in a better position to earn strong and predictable profit margins.
High margins mean that every sale makes a lot of cash, which can help the business keep borrowings under control. That keeps the banks off their backs when times get tough and should mean there’s money available both to reinvest back into the business and to pay dividends to investors.
That’s why we run the HL Select funds without buying in too much to commodity producers. There are attractions for sure, but they’re not always in control of their own destiny.
We’re in a world where digitalisation and decarbonisation are becoming more and more important. By making sure there’s not too much invested in commodities companies in your portfolio, you can free up funds to back digital winners in other industries.
These funds can fall as well as rise in value so you could get back less than you invest, especially over the short term. Information provided about individual companies is our view as managers of the fund. It is not a personal recommendation to invest. If you are at all unsure of an investment’s suitability for you please seek personal advice. The HL Select funds are managed by our sister company HL Fund Managers Ltd.
This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.