Market review
At the end of last year, there was a sharp drop in yields as markets accelerated their expectations for central bank rate cuts in the year ahead. Early in January, it became clear that this was inconsistent with real world data and markets accepted that it was unlikely the Bank of England (BoE) would be cutting the base rate by 250bps in 2024. The question in the first three months therefore became more focussed on when interest rates would start moving.
Whilst inflation continued to fall in the first quarter, market participants have been concentrating on wage data, which has proven to be relatively stubborn. Although food prices and fuel prices are coming down, the data on wages remains sticky, meaning that the BoE has had little choice but to maintain interest rates during the quarter, saying that there will be no rate cut until inflation is sustained at or below, its target level.
Fund activity
The fund’s return was slightly below its benchmark in the first quarter. During the period we bought newly issued five-year covered bonds, issued at 45 to 67bps above Sterling Overnight Index Average (SONIA). This strategy allows us to pick up an attractive spread on day one and hold that in the fund for the entirety of the bond.
As markets have tightened this year, we have added several AAA floating rate notes, including Leeds April 2029 (SONIA + 48bps) and NatWest March 2029 (SONIA + 45bps), Fédération des caisses Desjardins du Québec, October 2027 (SONIA +60bps) and three-year Toronto Dominion (SONIA + 67bps).
In other, shorter-dated positions, we bought an issuance from the Financial Market Stabilisation Fund (FMS), a German government-guaranteed one-year bond to shore up the short end and to ensure we have an even flow of maturities coming through in future.
Outlook
We continue to believe that the BoE will likely cut rates by around 75bps in 2024, a view we have held since October 2023. We do not believe that it would make sense for the Monetary Policy Committee (MPC) to cut rates earlier than needed, as an earlier-than-necessary rate cut could lead to inflation rising once more.
We also believe that there is more evidence required before an initial rate cut will be approved. Lower food and fuel inflation, alone, will be insufficient to counter current wage and services inflation. The headline numbers point to wages staying higher for longer and, perhaps, will prove to be a drag on the speed that inflation reduces. The MPC will also have a close eye on the impact of the near 10% increase in the National Minimum Wage.
As such, we do not believe that the initial cut will take place in the first half of the year, more likely August at the earliest.
Important information
The value of investments may fall as well as rise and investors may not get back the amount invested.
The views expressed in this document are those of the fund manager at the time of publication and should not be taken as advice, a forecast or a recommendation to buy or sell securities. These views are subject to change at any time without notice.
This document is issued for information only by Canada Life Asset Management. This document does not constitute a direct offer to anyone, or a solicitation by anyone, to subscribe for shares or buy units in fund(s). Subscription for shares and buying units in the fund(s) must only be made on the basis of the latest Prospectus and the Key Investor Information Document (KIID) available in the literature section.
Promotion approved 24/04/24
