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Multi-manager’s view: QE weighs on investors’ minds

The impact of macroeconomic trends, political intervention and sector themes are all leading to rising uncertainty for investors and wealth managers. The days when bond investors’ main concerns were the relative simplicities of maturity, coupon and yield curves appear to be gone.

Instead, markets are being swayed by short-term swings in sentiment and focus. With low historical yields, this means there is little room for investors to shelter behind coupon payments.

Looking at the key macro influences, the continuance of quantitative easing on a massive scale weighs on investors’ minds.

The distortion to base rates and yield curves has been a strong dynamic and a key force behind the decision of many investors to chase higher yielding investments outside cash and sovereign debt.

The ending of QE remains an uncertainty, although some central banks are starting to indicate key trigger points, such as the Federal Reserve’s plans to target the level of jobless in the US economy, as well as inflation. But a cessation of QE would not likely create an immediate reversal in demand for bonds. Investors will continue to seek fixed income investments at least until cash deposit rates start going back up and offer real returns again.

Most likely the wave of Asian money flowing into the market will continue to sustain low bond returns for a long time after QE is phased out.

This is because of the lack of real alternative sources of yield elsewhere. Therefore, the likelihood of a “great rotation” out of bonds into equities seems unlikely for now.

Even if the more Anglo Saxon risk-taking investors do return to equities in a strong way, there are sufficient numbers of cautious investors and an ageing global population that will result in ongoing demand for the asset class.

One of the main concerns about previous bouts of QE, coupled with demographic and economic demand for basic resources, is that it will lead to a resurgence in global inflation.

While this is happening in commodities, energy and food costs, there has been little evidence of wage inflation yet.

Factors such as job insecurity, personal deleveraging and the squeezing of corporate margins are all dampening this trend. In such an environment, investors should rightly be wary of sovereign yield curves as the removal of the dampening effect of QE and inflation gaining traction will cause a price correction.

Investors who are currently diversified across the traditional layers of sovereign, corporate bond, high yield and emerging market debt may well need to re-think their asset allocation positioning.

Instead a barbell approach between absolute return and real return, higher-yielding assets appears a more appropriate way of preserving and growing clients’ capital as we move from a low interest rate, low growth environment towards one of higher inflation and rising interest rates over the next three years.

Simon Wood is investment director in the multi-manager team at SWIP


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