Market review
December was a good month for financials as although the cut in US interest rates by the Federal Reserve had been expected, the announcement of $40bn per month purchase of Treasury bills, to ease strains in short-term funding markets, was taken positively. Nevertheless, the release of Federal Open Market Committee (FOMC) minutes later in the month showed that despite a significant majority of voting members supporting the cut, the decision was more finely balanced, with several participants questioning whether inflation progress was sufficiently durable to justify further rate cuts. Against that background the Trust’s net asset value rose 3.2% compared with the benchmark, the MSCI All Country World Financials Index, which rose 2.7%
In 2025 global financials rose 19.7% outperforming the technology sector and wider equity markets. Consequently, the sector has now outperformed wider equity markets in four of the past five calendar years. Its outperformance last year we believe reflected a combination of attractive fundamentals and positive earnings revisions. Furthermore, with less than 50% of the sector comprising US-listed companies, versus 65% for global equities, it benefited relatively from the underperformance of the US against non-US equity markets with the standout performance of UK and European financials being a key driver of that outperformance.
The background has improved markedly for the sector but, as importantly, so has the perception that it is an attractive area of the market to allocate capital, where it offers greater diversification in equity markets that are highly concentrated around US equity markets, in particular the technology sector. Also, not only does the fundamental outlook remain constructive for the sector, offering exposure to a number of exciting themes, but it continues to benefit from its attractive valuations relative to wider equity markets with it trading on the lowest price-to-earnings ratios1, or similar metrics versus other sectors.
Regulation
Regulation has been a headwind for almost all of the past 15 years, with the exception of the US during the first Trump administration. The US president has deployed the same playbook this time, appointing new heads to a number of regulatory agencies with the aim of making more significant changes. As Michelle Bowman, the newly appointed Vice Chair for Supervision at the Federal Reserve, noted in April 2025 at the Senate Committee on Banking to review her nomination that: “The US regulatory framework has grown expansively to become overly complicated and redundant, with conflicting and overlapping requirements. The growth has imposed unnecessary and significant costs on banks and their customers.”
The US continues to be home to great companies, many of which are benefiting from strong tailwinds, and has huge advantages over the rest of the world
US Treasury Secretary Scott Besset also took to X, in December, to lambast Democrat Senator Elizabeth Warren, who is the ranking Democrat member on the Senate Banking Committee in relation to the impact of “the Senator’s beloved and ill-conceived regulatory straitjacket as enforced by the Biden Administration” on the banking sector. While in the US proposals to reduce capital requirements for banks are expected to come into effect in 2026, in the UK and Europe, policymakers are belatedly waking up to the realisation that the answer to growth cannot be more regulation, more capital and yet more acronyms.
Last year, the House of Lords produced a report stating that the UK’s two main regulators, the Prudential Regulatory Authority and the Financial Conduct Authority’s “international competitiveness and growth objective is being held back by pervasive risk aversion, regulatory uncertainty and inefficiency in the regulatory system.” The UK Chancellor stated in her Mansion House speech, that she will be “rolling back regulation that had gone too far in seeking to eliminate risk".These belated efforts include making the UK equity market more attractive for new issues and making changes to capital requirements. In the UK, claims management companies are now having to pay towards the cost of frivolous claims. It is a start. In Europe, regulatory change will move even more slowly but either way we see the steps being taken as positive for the sector
Europe overweight and US underweight
Against this background, the portfolio positioning has not dramatically changed in recent months with an overweight position in Europe set against a small underweight to the US and underweight positioning to Australia and China while continuing to be selective on what we hold in emerging markets. The underweight position in the US reflected in part increasing concerns that erratic US policy and fiscal largesse will act as an overhang on sentiment and anecdotal stories of investors looking to reallocate away from the US. Nevertheless, the US continues to be home to great companies, many of which are benefiting from strong tailwinds, and has huge advantages over the rest of the world, all of which tempers the underweight position. We are overweight US banks but underweight US insurance and diversified financials.
Europe remains the largest overweight in the portfolio as we believe the risk/reward continues to look more favourable reflecting sentiment having recovered from a very low base with valuations still attractive relative to history. We continue to like the outlook for the banking sector, which has outperformed the Magnificent Seven over the past five years with a combination of high levels of capital return and supported by a favourable environment for M&A. Furthermore, the potential for the EU Savings and Investments Union initiative to unlock the huge amount of deposits currently sat in low yield deposit accounts for investment would be hugely beneficial to a number of our holdings including FlatexDEGIRO and DWS Group.
1. A way to estimate the future earnings potential of a particular company or investment trust. It is calculated by taking the current share price and dividing it by the earnings per share (EPS).
