While short-term volatility in markets is not uncommon, we are currently facing an unprecedented set of circumstances

Concerns about the ongoing Coronavirus pandemic in the UK have been tempered of late by a successful domestic vaccine rollout, allowing the government to now remove the last of its social distancing measures. However, the return to normality has led to increased demand around the world at a time when global supply chains are still facing bottlenecks and constraints, especially in the energy sector, leading to much stronger inflation numbers than previously anticipated.

Such supply bottlenecks and constraints have been compounded further by the Chinese Government’s “Zero Covid” Policy, enforcing some level of lockdown in up to 45 cities, including Shanghai and Shenzen. Across China, some 373 million people, a quarter of the population, are facing movement restrictions as authorities move aggressively to contain the highest rise in cases for 2 years.

Such controls have had profound impacts on consumption, industrial output and supply chains, all taking their toll on the world’s second largest economy. Despite the hardships faced and protests by the Chinese people, Chinese President, Xi Jinping, is adamant these restrictions will stay in place as the damage inflicted should be less what a full scale outbreak could have.

Perhaps the most pertinent recent development has been increased central bank hawkishness in response to these escalating levels of inflation. With inflation having reached its highest in the UK for 30 years (7%) and predictions that it could hit 10% by the end of the year, has forced central banks to increase base rates at a sharper trajectory than initially anticipated.

The US Federal Reserve now look as if they will be forced to raise rates at an accelerated rate, whilst simultaneously tapering their stimulus package including the huge asset purchasing programme that was introduced in the wake of the Covid pandemic. With the economic recovery still fragile, added pressure has been applied to already severely disrupted corporate infrastructure and supply chains.

With rates rising at a potentially quicker pace, this has put those growth companies that borrow to fund their expansion under the spotlight. Technology companies especially have borne the brunt of selling, as investors have re-examined the case for more heavily indebted stocks that will have to borrow at a more unattractive levels going forward. This is apparent from the sharp falls the technology heavy NASDAQ has endured since the start of the year, falling past a technical correction (a 10% drop from its record closing level).

Russia’s full scale invasion of Ukraine has also served to unsettle markets since the beginning of the year. This news not only has potentially disastrous implications from a humanitarian point of view, but also from a stock market angle, with both hard and soft commodity prices soaring. With increased western sanctions placed on Russia, a nation that is responsible for over every 1 in 10 barrels of oil in the world and a major supplier of natural gas to Europe, it is no surprise that commodity prices have spiked further. With no end in sight to the war, we can expect both prices and geopolitical tensions to remain elevated for the foreseeable.

We have moved to reduce risk in the portfolios against an uncertain market backdrop, increasing our fixed income exposure and our weighting to infrastructure, a possible beneficiary from inflation with much of the sectors cash flows index linked in nature. With bond yields having risen significantly so far this year, and although inflation is a major issue for global economies, there are some areas of the market which now offer a more attractive yields.

Recent Changes

Portfolios 1-2

We have added to gilts, reducing the current level of underweight and have added to our UK corporate bond holdings, taking them from neutral to a small overweight. The UK corporate bond allocation has been financed through removing the overweight to global high yield bonds.

The overweight to Emerging Market equities has been reduced to neutral as we continue to believe that the Chinese economy will suffer due to the enforcement of their zero Covid policy and the ongoing impact that this will have on their economy.

We have implemented an underweight to European equities as the slow down in global growth and the consequences of the conflict between Russia and Ukraine weigh heavily on this geography.

Portfolio 3

We have moved from underweight to neutral in our Global ex UK Inflation Linked Government Bonds

The overweight to Emerging Market equities has been reduced to neutral as we continue to believe that the Chinese economy will suffer due to the enforcement of their zero Covid policy and the ongoing impact that this will have on their economy.

We have implemented an underweight to European equities as the slow down in global growth and the consequences of the conflict between Russia and Ukraine weigh heavily on this geography.

Portfolios 4-5

We have added to infrastructure, reducing the level of underweight within this asset class, while reducing the overweight to Emerging Market equities to neutral and implementing an underweight to European equities.

The information in this blog or any response to comments should not be regarded as financial advice. If you are unsure of any of the terminology used you should seek financial advice. Remember that the value of investments can go down as well as up, and could be worth less than what was paid in. The information is based on our understanding as at 27 May 2022.