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LGT Vestra US

CIO Question Time - Low yields and the impact of the US Election - Sep 2016

Jonathan Marriott – Chief Investment Officer

Are bonds still a safe haven?

The Bank of England has cut rates and is buying gilts and corporate bonds. As a result, 10 year gilt yields have fallen to 0.67% as I write. Many people argue that it is hard for yields to go lower. However Gilts held in a balanced portfolio continue to make some sense. If the economy continues to fail to grow, then yields could go as low as Japan and Germany where 10 year government yields are minus 0.1%. On a 10 year UK Gilt that represents an upside in the price of about 8% and the interest rate is still more than the Bank of England base rate. The Bank of England has indicated that it stands ready to cut interest rates further if necessary and to buy more bonds, so the market remains well supported for now. The result of the Brexit vote has been a fall in sterling and this combined with the recovery in oil price from the lows earlier this year, lead us to expect inflation to rise in the short term, making Index Linked Gilts relatively more attractive.

While in the long term the risks are that yields may rise causing a sell off in gilts, Bank of England action is likely to be supportive and some exposure to conventional and index linked Gilts, we believe, remains appropriate particularly with the risks attached to a difficult exit from the European Union.

What impact will the US Election have on investment markets?

As we approach the US Election on the 8th of November, there is an increasing focus on the differing policies of the candidates. Currently the opinion polls have the two main contenders neck and neck, and with an Electoral College system, the candidate with the most votes nationally does not necessarily win. This election is particularly unusual because, due to various controversies, both candidates of major parties have negative approval ratings. On one side, we have the maverick Donald Trump who, having made some inflammatory comments sits on the controversial half, and on the other, we have Hilary Clinton, the more conventional candidate who represents the status quo.

Markets generally do not like uncertainty and may get nervous ahead of the election. On this basis, since Trump represents the greater uncertainty of the two candidates, equity markets are likely to be more concerned if his victory looks likely. However there are many other drivers of the markets and the outcome is not at all clear; we therefore do not see the election as driving changes to high level asset allocation at this time.

International trade promotes global growth which is generally good for the global economy as a whole. Trump’s protectionist policies may pose a headwind for multinational companies but may be positive for US domestic stocks. Nevertheless, he is unpopular with his own party and may be limited in his ability to enact wider policies. Conversely, Hilary Clinton will in many ways represent a continuation of the Obama presidency, but is unlikely to have support in Congress so may also be restricted in what she can do if elected into office. Trump may encourage more spending on defence, while Clinton’s policy on drug pricing may be hard on pharmaceuticals. It is thus at the individual company level that we may see more impact as the election approaches, assuming uncertainty of the victor remains.

We will continue to monitor the market reaction and will no doubt comment further in our next quarterly report.

 

 

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