Global Short Duration strategy - September 2023
Mixed market performance as inflation remains elevated
- Credit spreads widened on the back of concerns about the ailing Chinese economy and still hawkish stances from central banks
- Yields on US treasuries and UK gilts rose while German bund yields fell as inflation remained stubbornly high
- The risk profile was broadly stable
Credit spreads widened on the back of concerns about the ailing Chinese economy, the downgrade of the US credit rating from AAA to AA+ by Fitch citing rising debt levels, and still hawkish stances from central banks due to stubbornly elevated inflation.
The US Federal Reserve chair Jerome Powell failed to commit to a course of action at the Jackson Hole Symposium, unnerving markets which continued to expect no further rate rises for the remainder of the year. The Bank of England increased interest rates by 0.25% to 5.25% in August as governor Andrew Bailey said policymakers needed to ensure inflation ‘falls all the way back to the 2% target’.
Yields on US treasuries and UK gilts rose while German bund yields fell. US inflation rose for the first time in a year in July, ticking up to 3.2% from 3% in June, but remained below forecasts of 3.3%, while eurozone inflation was unchanged at 5.3% in August, defying expectations for a drop to 5.1%. As expected, UK inflation fell sharply in July to 6.8% from 7.9% due the drop in energy prices.
Portfolio positioning and performance
- Sovereign: Our exposure to sovereign bonds was stable at 16% as we remained invested in US treasuries, German bunds, UK gilts, and government guaranteed debt. We kept the duration towards the top of our range during the period as US treasury and UK gilt yields rose.
- Investment Grade: Our exposure to investment grade markets increased by 2% to 62% as we were very active in the sterling primary market, focusing on A-rated or better names.
- High-Yield and Emerging Markets: Our exposure to high-yield and emerging markets was unchanged at 22% as we retained a lower exposure due to expensive valuations.
The macroeconomic outlook remains very uncertain given high (but falling) inflation, rising (but peaking) interest rates, slowing (but resilient so far) growth and tighter lending conditions. As such, we expect market conditions to remain very volatile with an increased likelihood of a global recession early next year as central banks’ ability to cut interest rates to support growth is curtailed by still elevated inflation.
With valuations looking fair to expensive, we plan to continue gradually reducing the level of credit risk so that we could benefit from a potential widening in credit spreads late this year or early next year by re-risking the portfolio at much better levels.
No assurance can be given that the Global Short Duration strategy will be successful. Investors can lose some or all of their capital invested. The Global Short Duration strategy is subject to risks including credit risk, liquidity risk and interest rate risk and counterparty risk. The strategy is also subject to derivatives and leverage, emerging markets and global investment risks.