In the current marketplace, it’s more important than ever to stay up to date with economies, markets, bonds etc. RLAM’s Head of Fixed Income, Jonathan Platt, starts a new series of regular updates looking at markets from an RLAM perspective.
These will be easily digestible with some reflection on current thoughts, what our teams have been looking at and our take on key topics. Sometimes there may be not much to say – but it will usually be no more than a ten minute read.
Economic and markets
November’s UK GDP figures showed that the economy shrank by 2.6% m/m, less negative than expected, with GDP now estimated to be about 10% below its pre-crisis peak. The data confirms that the November lockdown was much less damaging to the economy in the short term than the March/April lockdown.
With the inauguration of President Biden this week we see a renewed focus on US fiscal policy. The bottom line is that Covid support will last longer and that fiscal policies, globally, will remain accommodative.
European politics came to the fore with the usual Italian political “crisis” (not really a crisis just normal Italian politics) and the resignation of the Dutch Cabinet following a Benefits scandal that wrongly accused recipients of fraud.
China demonstrated the resilience of its economy with positive growth being recorded for 2020. The role of China in global economic activity and geopolitics will continue to be one of the dominating themes of 2021.
On the trade front - Scottish fishermen are unhappy with the bureaucracy associated with the new EU trading arrangements and it may take time for the new rules to bed down. However, it remains a big challenge for the UK government to come up with the areas where red tape can be cut – we await developments.
Cash, currencies and government bonds
There was little change on the week with 3 Month GBP LIBOR unchanged and just positive. Currencies similarly showed no big moves. A key question is whether USD weakness will continue.
10-year gilts are now at 0.28%, unchanged on the week with 50 years at 0.77%. This remains an amazing level and one that we believe cannot represent long-term value. Similarly, long-term real yields at -2% are too low but the catalysts for a change in valuation are not clear.
European government bond yields continue to reflect investors’ lack of confidence in the long-term growth of the region. Whilst this may be correct I continue to struggle with negative ten year yields in Germany and France. Euro government markets are really controlled by the ECB – so that has to remain the focus of attention. The most attractive large government market remains the US – where yields are more ‘normal’ and yield curves offer some opportunities.
There has been some back up in sterling credit spreads over the week with BBB widening by 4bps. Nevertheless, spreads look less attractive now than they have for a long time. I think there are pockets of value outside those areas distorted by the Bank of England buying programme – particularly in the ABS area. Liquidity remains decent with a consistent demand across the curve. New issue activity picked up and we participated in several new issues including Motability and Blend Funding. We are still overweight BBB and underweight AAA / AA with our biggest overweights generally in social housing, insurance and ABS.
We’re seeing similar themes in global investment grade credit to sterling but new issuance is certainly a drag in Europe. I remain of the view that investment grade credit will outperform governments over the medium term but the magnitude of expected excess return has contracted. We see high yield as still attractive – but the fall in spread from the 10% “wides” seen in March has been significant.
Our focus in 2021
It has generally been a good start to the year – building on the momentum of Q4 2020. I continue to think that cash and short duration strategies remain attractive against a background of modestly higher government bond yields we expect in 2021. In addition, income will remain difficult to source through the year and a number of our strategies all offer the prospect of good income generation – albeit with a higher risk profile than investment grade funds.
RLAM will be launching a Global Sustainable Credit fund in Q1. This emphasises how important we see ESG and sustainability for our clients. Covid, and the responses by governments and individuals, will lead to greater emphasis on good corporate behaviors. Companies that are seen to take advantage of the current crisis to reduce workers’ rights, to profiteer from unscrupulous practices or damage the environment will be punished by consumers and, potentially, governments. It is likely that we are seeing significant shifts in the way investors perceive risk and that the best corporates will respond with improved practices that will strengthen their competitive positions.
For professional clients only, not suitable for retail investors.
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. The views expressed are the author’s own and do not constitute investment advice.