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June Comment: Will freedom day dawn?

As the developed world continues to ease lockdown restrictions, here in the UK we wait to see whether ‘freedom day’ will come to pass on 21st June. Typically, Boris Johnson is holding back from a decision until the 11th hour in the hope that vaccination rates can outstrip the progress of the Indian or ‘Delta’ variant.

Against a backdrop of re-opening, markets have made lacklustre progress, stopped in their tracks by a higher than anticipated US inflation reading of 4.2%. The question which every economist and central banker is attempting to answer at the moment is whether this is the short term ‘transitory’ by product of a post- pandemic recovery or the arbiter of a long-term trend. For the moment the jury is out, whilst central bankers remain optimistic, the veterans of investment management such as our very own Clive Hale who vividly remember the double-digit inflation of the 1970s are less convinced.

It is hoped that that a benign inflationary environment of around 2% can be achieved. The monetary policy committee and Federal Reserve have more tools at their disposal this time round and to add to this the backdrop of advanced technology and globalisation are better placed to meet pent up demand. But the reality is that none of us has lived through a year like 2020 before and if anyone thinks they really know what’s coming next, no matter how logical their arguments, it will be mostly guesswork. Which is why, at times like these, we have a strategic asset allocation which centres around the long- term economic data rather than conjecture and adapts the course when the data changes.

At this moment in time it is understandable for investors to look at their portfolios and wonder why on earth some of it is invested in bonds, which are doing very little and in inflationary environment, will perform disappointingly relative to equities and other risk assets.

We continue to hold bonds to diversify portfolios. Diversification is essential in not exposing an investor to extreme market volatility- in both the upside and down-side of market events. It would be great to have all the “eggs” in our basket going up at the same time, but practically bonds provide a ballast and shock absorber to a portfolio when things go wrong.

Nobody, knows what will happen next, whether a new variant will suddenly arrive which evades vaccines or even a climate disaster, at which point bonds will be the safest place to be. What we know, from history and recent events, is that we don’t know and cannot predict the future and must continue to insure portfolios for such events.

If inflation is transitory which is our current stance, then the upward pressure on yields would be alleviated. There is also talk of the Federal Reserve capping bond yields which would have a similar effect. The jury is still out but we will be watching the data and pronouncements from central banks and the Fed in particular at their conference at Jackson Hole in the last week of August and will adjust our positioning accordingly. By then the prognosis for bonds should be clearer but in the meantime, we will continue to have exposure to this asset class.


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