Inflation is a complicated matter with very polarizing views on what could happen.
Chris Fleming – Investment Services Director
What has been happening in the wider economy recently?
This quarter was all about the significant labels of stimulus applied. In the US Biden’s 1.9 trillion American rescue plan gained approval by Congress clearing the path to future spending on infrastructure projects. This was in addition to the two fiscal boosts totalling 2.3 trillion in 2020 of which 900 billion was only delivered in December.
Closer to home we saw Chancellor Sunak’s March budget, take a similarly expansive approach with a further 65 billion of support announced on top of the 270 billion that had already been announced. Although slightly behind 2020 this amounts to another record year of stimulus in the UK. However, to fund all of this UK corporate taxes look likely to rise to 25% from April 2023, and up to 27% in the US although this is still below where Trump had cut taxes from initially, it really is a spend now, pay later set of policies, and this is currently something we’re mindful of.
What does the levels of stimulus mean for inflation?
Inflation is a complicated matter with very polarizing views on what could happen. For example, does the stimulus applied, override the structural deflationary challenges that technology and ageing populations bring. Time will indeed tell for sure. However, due to the levels of stimulus applied, it is highly likely that inflation will move higher in the upcoming months.
Nevertheless, it’s important to note that today’s levels of inflation are still incredibly low by historical standards, but also against central bank targets. Our view is that central banks will let economies run a little hotter than usual and that a moderate amount of inflation will actually be a good thing for the economy.
However, as always anything unexpected and beyond average levels could have some severe implications for the wider economy as controlling it via the usual interest rate mechanisms will need very careful balancing.
What’s happened in the bond markets over the quarter?
Predominantly on the back of increased inflation expectations yields on 10 year US treasuries and UK gilts increased beta levels, not seen since the arrival of the virus in the first quarter of 2020. This equated to a fall in value as prices fall when yields rise and we saw gilts fall by close to 7% and treasuries by approximately 4% over the quarter.
Many other parts of the fixed income market also fell. But interestingly, lower-quality corporate bonds given their more equity-like characteristics actually continue to increase in value as they benefited from the anticipated economic recovery and rising stock markets.
What does the stimulus mean for equity markets?
Well, it’s been a good thing, well, at least for now. Most markets have continued to press forward following the strong returns that we saw in the last quarter of 2020. However, it has been the US and the UK that have risen the most, this year returning about 5% each in Sterling terms. Some of that has to do with stimulus packages announced, but it’s all to do with their more progressive approaches taken to the vaccine roll-outs.
This quarter was also notable for a continued rotation and investor preferences from high price, growth stocks and into cheaper value stocks. And this was a trend we saw start in Q4 last year. Longer-term, we are mindful that the levels of stimulus applied will need to be recovered at some point, which may lead to further challenges further down the line.
How have the portfolios faired over the quarter?
The portfolio is currently positioned to be less sensitive, to changes in government bond yields and this helped protect capital over the quarter, given the falls that we saw within government bond prices. Furthermore, many of the non-government bond holdings also fared better falling less than the broader losses experienced in the wider market.
The equity part of the portfolio has also performed well with a more balanced approach they were able to cope well with the rotation, seen in the markets. A number of new positions introduced or added to earlier in the year, also help performance, especially those exposed to a more recovery type theme.
The portfolios remain appropriately positioned to capture current market trends. However, we are mindful that volatility remains elevated and that further opportunities may present themselves.
Park Hall Financial Services Limited is authorised and regulated by the Financial Conduct Authority.
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