Commentary on March 2021
March witnessed a push higher in global stock-markets with some US and European indices going on to hit fresh highs in early April. In sterling terms, shares in the United States rose by 5.7%, the UK and Europe gained between 4 and 5% and Japanese and Asian markets edged 2-3% higher. UK government bonds were flat although the reflation narrative pushed index-linked bonds a touch higher.
Economic data continued to support the recovery theme. Fourth quarter growth in the US and UK was stronger than had been expected and this was reinforced by more up-to-date global Purchasing Managers Surveys reflecting a sharp rise in output, new orders and employment. In the UK business optimism hit a 7-year high. But notable side-effects of this surge in demand were supply bottlenecks and a sharp increase in costs. One example in the US survey was manufacturers blaming the slower rise in output on a shortage of materials.
Government bond yields rose further during the month, but when the US 10-year benchmark briefly hit 1.77% buyers stepped in, feeling that sufficient future inflation had been priced in for now. Heavy demand for US bonds gave a brief respite to the weakening dollar though this has since disappeared with the fall in yield to around 1.60%.
The monthly meeting of the US Federal Reserve Board upgraded its growth forecast for 2021 from 4.2% to 6.5%, but maintained its projection for near-zero interest rates through 2023. Despite the addition of over 900,000 jobs during the month, and annual inflation jumping to 2.6% (the Fed’s new mandate is to target an average of 2%), Chairman Powell commented that it would likely be ‘some time’ until substantial further progress toward the maximum-employment and price-stability goals would be realised.
US President Biden announced the broad outline of his $2.2Trillion infrastructure plan, including proposals for cleaner water and high-speed broadband, which will be financed by an increase in the corporate tax rate. The complexity of negotiations, and the possibility the package could be broken into several parts, means lawmakers don’t see completion until autumn this year. The programme is then expected to be rolled out over the next eight years so is more likely to have a steady, rather than parabolic, impact on growth.
Last week’s release of the US inflation number for March was the first to reflect the bounce in the price of oil from last year’s collapse; the expectation is for this to rise further during the year. However, it’s noteworthy that core inflation (excluding food and energy prices) remains subdued for now. Bond yields fell on the release because it was felt that current yield levels had already allowed for this adjustment and a bit more going forward.
But we need to be mindful that Global Purchasing Manager surveys and anecdotal evidence are consistently pointing to rising prices throughout industry. Factories are reporting higher costs, reflecting rising commodity prices and supply shortages. This increase in costs has fed through to the steepest increase in average selling prices for goods and services for over a decade. In part, company profit margins are bearing the brunt of these costs but US consumer goods producers report the largest rise of all major goods and services product sectors ever recorded!
It’s too soon to tell whether these costs will be transmitted through to consumer prices; there’s certainly an argument that a period of above-average inflation will be only temporary and tolerated by central bankers. But what concerns us is the change in the US Federal Reserve’s way of looking at things. In recent speeches, members of the Fed’ have made clear that their policy decisions will be based on outcomes rather than forecasts; that’s to say they will wait until they see that inflation is rising and the jobs market is tightening before taking action. For years, a key central bank principle has been that it takes up to two years for policy decisions to feed through to the market so, on this reckoning, by the time inflation or employment has printed at a number consistent with the Fed’s mandate, that would be too late.
It’s tricky, because central bankers, in persuading investors that they won’t allow a collapse in asset prices, have created a situation whereby they’re damned if they do and damned if they don’t (tighten policy). Hints that they may tighten policy could lead to a panic sell-off on fears that the ‘free ride’ is over, but failure to act on stronger data will raise concerns that far higher rates will eventually be required to rein in inflation.
We feel that market positioning and pricing continues to reflect a very optimistic view, punctuated by bouts of volatility as this view is called into question. With short-term interest rates likely to remain at record lows for some time we will view these setbacks as further investment opportunities.
How are we currently positioned?
Our fixed interest funds continue to have limited exposure to rising yields as we feel that current levels don’t offer sufficient reward for the potential risk of capital loss.
We are holding a mix of value and growth stocks but have sought to minimize exposure to US listed FANGS, where valuations have become excessive. Our value stocks have continued to enjoy a strong recovery so far this year. Portfolios were rebalanced last year in anticipation of a more inflationary environment so no further action has been needed in 2021.
Our portfolios diversify risk by investing in a wide range of assets using actively managed funds with sound investment processes. Some examples of these ‘alternative’ assets are funds invested in gold & silver, infrastructure, agriculture and absolute return strategies.