Fixed IncomeFeb 3 2015

Liontrust duo: US is ‘close to a recession’

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Liontrust duo: US is ‘close to a recession’

The Liontrust credit duo of Felix Martin and Michael Mabbutt has issued a stark warning that the US economy is “close to a recession”.

Investors have piled into US equities, government bonds and the dollar in recent months as the world’s largest economy has been seen as a safe haven amid global volatile markets.

But the Liontrust managers said they had been studying the US government bond market and said it was sending out a warning that the US economy might not be in as good shape as recent data suggested.

Mr Martin has tracked the steepness of the US Treasury yield curve and how it corresponds to entering a time of recession.

The historical trend indicates that as the difference between the 10-year yields and five-year yields heads towards 0 per cent the country goes into recession.

The difference between the yields is falling and is currently close to 0.4 per cent.

Mr Mabbutt similarly warned that the money piling into longer-dated US debt had led to the yield on the 30-year government bonds to be the same now as it had been before the so-called ‘taper tantrum’ of May 2013.

He noted that this was consistent with over-optimistic economic growth expectations.

“The activity of the US Treasury market is a warning that we are close to a recession,” he said.

The duo backed up its bearish view on the US in its Liontrust Global Strategic Bond fund by betting that US government bonds would fall in value from their current position.

The managers have increased their short exposure to longer-term US Treasuries – a bet that would gain money if the bonds fell in value – even though the position has hurt the fund’s performance as the bonds continued to rally.

Mr Martin said the defining feature of the recent macroeconomic environment had been the two-speed world, where the US was running at its own pace ahead of the rest.

This made the most important question of 2015 come down to what would happen in the US and what happened if the dollar became more expensive.

He thought that the scenario would be a bit like US billionaire investor Warren Buffett’s saying: “It is only when the tide goes out do you discover who’s been swimming naked.”

In Mr Martin’s view, as the dollar gets more expensive those who have been living on cheap money will be found out.

US government bonds weren’t the only thing on the duo’s mind as the dollar weakened.

Mr Martin was also concerned about Asian countries such as China, Singapore and the Philippines, which still pegged their currencies to the US dollar.

If the dollar became more expensive, the gap between the Chinese exchange rate and the Japanese exchange rate – which is not pegged to the US dollar – would become too large and therefore become unsustainable.