It seems extraordinary that the first quarter is now behind us. In the UK, we’ve seen a successful roll-out of a vaccination programme and the first steps of easing restrictions. This is a natural point to reflect on what we’ve seen and what might come next.
1. Higher government bond yields were the major investment theme of the quarter, driven by higher and steeper yield curves in the US. This reflected vaccine news, fiscal stimulus and tentative economic signs of recovery.
2. Higher implied and actual inflation were also a feature. Bottle necks in supply and stronger demand than expected has caused inflation, and implied inflation (nominal-real yields), to rise. I think this is temporary but is the big risk for 2021.
3. Globally, growth has been better than expected but remains uneven – geographically and by sector: better than expected in the US but weaker in the eurozone. A key theme is the recovery in the ‘goods’ sector and continuing struggles by services. This should not be a surprise but may unwind as lockdowns ease on the back of vaccine roll outs.
4. The pandemic has heightened geopolitical tensions. Vaccine nationalism and success rates in vaccinations, differing economic recoveries, changing leadership in the US and the rise of China, the desire to protect perceived national interests – all have contributed to a more inward-looking mindset. This may be bad for further globalisation moves.
5. Government and central bank interventions in economies continued to be supportive; this has caused government debt levels to escalate, the impact of which has been neutralised by central bank buying. Government yields remain too low in the medium term as investors will need to adjust to a situation of higher government debt and less QE. The clearing level will ultimately be higher than present yields. Real yields are just too low, especially in the UK and especially at longer maturities.
6. Credit markets have been a bit of a bystander in the quarter. Investment grade spreads are broadly unchanged while high yield markets have done a bit better. Global default rates remain surprisingly low. However, this will probably not last and I expect a pick-up from current levels.
7. Equity markets have been strong with the rise in government bond yields giving rise to a marked sector rotation – in favour of value and cyclical securities rather than the tech-led growth of recent years.
8. Environmental, social and governance (ESG) considerations continued to be of growing interest to our clients. Issuers have responded with a range of initiatives to demonstrate their ESG credentials; I must ask whether some of this is ‘greenwashing’. One of RLAM’s strongest inflows in the quarter has been into our sustainable range of funds and we now manage over £2.5bn in sustainable credit strategies where we focus ESG analysis, whether the issuer can demonstrate a net benefit to society and underlying financials.
9. Sterling appreciated over the quarter – reflecting the relative success of the vaccine roll-out. I don’t expect this strength to continue as other economies catch up with the UK.
10. For RLAM, the first quarter was one of relative outperformance in most fixed income and cash strategies, although absolute returns were impacted by the rise in government bond yields. Sterling credit strategies benefited from the exposure to secured bonds and ABS while our enhanced cash range was helped by spread compression in short-dated credit bonds. Similarly, global strategies performed well and we were pleased to launch a new global sustainable strategy in the quarter.
Past performance is not a reliable indicator of future results. The value of investments and the income from them is not guaranteed and may go down as well as up and investors may not get back the amount originally invested. Portfolio characteristics and holdings are subject to change without notice. The views expressed are the author’s own and do not constitute investment advice.