Mutual Daily Mutterings
Quote of the day…
“Expecting the world to treat you fairly because you are a good person is a little like expecting the bull not to attack you because you are a vegetarian” – Dennis Wholely
“Bubble, bubble, toil and trouble…”
“Risk back in vogue…”
- Overview – risk’s not dead baby, not for now at least, perhaps it’s a final rally before it slips into the long goodnight? Too morbid? Anyway, a solid and broad-based rally across stocks globally, kicked off by our own time zone, and then extending into the Northern Hemisphere trading day. There was no discernible catalyst for the about face in risk sentiment, not that I can see anyway. But, as I opined last week, possibly here, possibly just in my head, bonds, credit and stocks were all sold last week. The cash had to go somewhere as it wasn’t being drained from the system, and realistically it was only going to stay on the sidelines for so long. Some fighting words from the Fed All-Stars (aka board members), was enough to shake some cash loose and get it back in the game. Somewhat strangely, in my head at least, the offshore narrative latched onto the strength of the recovery as the catalyst for the gains on the day. Last week that strong growth was cause for inflationary concern and ergo the cause of bond yields spiking, in turn “jeopardising” the recovery. US treasury yields continued to rise overnight, but with little apparent concern from risk markets, or Fed members with this from Barkin, “we obviously have control of the yield curve at the short end. And at the longer end when it moves it depends a lot on the driver…if the driver is – as it seems to be – news about vaccines, or news about health of the economy, or news about fiscal stimulus, then I think it’s a natural reaction” – European yields on the other hand legged it lower despite the ECB moderating the rate of bond-buying. ECB officials did however express some dovish views, specifically concern on the impact of rising bond yields on the recovery…an oldy but a goody.
- Offshore Stocks – broad based and aggressive, that was the rally last night across US and European markets. Within the S&P 500 94% of stocks closed sporting a very fashionable shade of green with Financials leading the charge, +3.6% and accounting for 15% of the daily gains in the index, although it was Tech (+3.2%) that had the biggest impact, accounting for a third of gains. Industrials (+3.1%) and Telcos (+2.5%) played their part also. No sector was left behind, with REITS at the bottom of the tables, still sporting a +1.2% gain on the day. Companies tied to economic reopenings and faster growth led the gains on Monday amid a broad-based rally.
- Local Stocks – a solid and broad-based rally on the day, with 80% of stocks strutting their stuff (up). Financials dominated form an index impact perspective, up +2.0% and accounting for around a third of the ASX 200 gains. Healthcare followed, +2.7% and around 14% of index gains. REITS rose most on a standalone basis, up +3.2%, aided no doubt by falling bond yields, accounting for roughly 10% of the index’s gains. Materials was bottom of the tables, up just +0.3%, but still accounting for 10% of index gains.
- Offshore Credit – solid start to the week in US IG primary with 12 new deals and $23.5bn printed. EU IG saw a more modest start to the week, just €2bn priced. Deal metrics were solid. In secondary, spreads bounced back from last week’s widening pressure, with spreads -2 – 3 bps over the session, but still +1 – 2 bps wider over the week. Similar moves in CDS with both the MAIN (EU) and CDX (US) -3 bps tighter at 48 bps and 53 bps respectively, and both around the mid-points of their three-month trading range.
- Local Credit – I’m gaining a sense that perhaps spreads are approaching ‘support-ish’ levels following the RBA stepping up to the plate and flexing their brawn over the last few sessions. I say approaching because the pace of widening has slowed, it hasn’t ceased widening completely. We need a couple of sessions, or acts of market support from global central banks to stabilise sentiment. In the major bank seniors yesterday, +1.5 bps wider in the Jan-25’s (to +33.5 bps) and +1.0 bps in the three-years to +27 bps. From the traders yesterday…”better selling in the longer end of the curve from ETF providers, modest volumes, but persistent. Curve steeper with the likelihood that it steepens yet further (we think 2yrs is the pivot point) in the absence of any material buying. It should be reiterated that volumes are light and ongoing spread widening will be viewed by some as an attractive entry point”. Stability in the tier 2 space, no further widening with the WBC Jan-26 calls at +144 bps and the Nov-26 NAB calls are at +144 bps, both around +20 bps wider to their recent tights (give or take a basis point). Traders noted…”nascent buying after the correction of recent days. Pleasingly the buying came from a broad base of accounts, including the Asian PB network. It feels that the street still has inventory to go, however, the aggression is coming out of the offer and in the absence of domestic supply we see some consolidation as maturities draw near”.
- Bonds & Rates – to paraphrase that great literary giant, Homer (J. Simpson), “yields go up, yields go down, yields go up…” you get the point. After a +20 bps spike in local bond yields (10 year) on Friday, the RBA stepped up and hit the market in force, splashing $4bn of flash money around to remind the market that they’re a player, and to respect their “authorita!” – this is on top of the $3bn splurge last Thursday and Friday (collectively). This doubling of the bank’s normal purchases in secondary markets seemed to do the job with the 10’s plunging, yes that’s the word, plunging, some -30 bps at one point, before closing -25 bps lower at 1.689% (vs 1.917% on Friday). Overnight US treasuries sold off with the 10’s +4 bps to 1.446%, so a rising lead for local markets, but it is the first Tuesday of the month, which means the RBA will be meeting with more weightier decisions to make than whether to have the pinot with the duck, or go for something a little bolder. Gut feel, the RBA wants the market to fear it (respect perhaps a better word?), to know it can and will step in to exert their influence if financial conditions tighten too much, if for no other reason than to underpin the credibility of their policy framework. Suspect markets will be muted until the statement release at 2:30pm…and one question to ponder is whether this buying relates to purchases under the existing program being pulled forward, or is it expansion of the existing program? Join the dots and form your own picture, it’s as likely to resemble mine as not.
- Macro – pilfering some commentary from elsewhere again, this from CBA…” the US ISM manufacturing survey for February was strong. The headline index increased by 1.9pts to 60.8pts, the highest since February 2018. The prices paid index surged to 86 points, the highest since July 2008. The pipeline price pressures reflect higher commodity prices, parts shortages and freight costs. But remember, the goods part of the US economy is small; services industries are dominant. Employment costs are the largest costs for services industries. Employment is growing modestly”
- Warning, some blatant chest beating and trumpet blowing to follow…over the next few days I’ll be touching on performance across Mutual’s funds through the recent periods of bond yield volatility, and will especially promote the role of floating rate notes (‘FRN’) over ‘traditional’ fixed income products.
- First, some impartial performance data to set the scene. Over the past month bond yields have risen some +20 – 50 bps across the 4 year through to 10 year part of the government curve. For those not overly familiar with bond pricing, some “interest rate risk 101” – the relationship between bond yields and bond prices is inverse, as one rises (yields) the other (price) falls, and vice versa. The longer the tenor of the bond, or bond index, the greater the price reaction to any given move in underlying yield, this is called duration. Floating rate notes have very short duration, and as such are much less exposed to yield volatility.
- An example using recent performance data…if an investor bought, say $1m of the AusBond Credit (Fixed Rate) index at the beginning of February, today that $1m would now be worth $0.989m, or a capital loss of -1.09%. If instead, the investor put that $1m into the AusBond Credit (FRN) index, they would have $0.999m, only a -0.03% capital loss. Alternatively, and here’s the gloating part, if the investor put that $1m into one of our flagship funds, say the Mutual Income Fund (aka ‘MIF’), their $1m would be worth $1.002m today for a capital gain (gross) of 0.25%. Over the past 12 months this fund has generated a total return of +2.50% vs target return of +1.20%. The fund invests in ADI FRN’s, across senior and subordinated paper, with min 60% exposure to the ‘Big Four’.
- With the outlook for underlying yields likely higher, risk to capital within fixed rate portfolio’s is elevated, which puts FRN’s squarely into focus as a viable alternative.
Click here to find the full PDF from our Chief Investment Officer’s daily market update.
Scott Rundell, Chief Investment Officer
T: +61 3 8681 1907