Discretionaries dampen down Q1 volatility; Tech stocks' correlation game splits opinion
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Unfazed
The end of the first quarter approaches, and it’s felt like another dramatic period for DFMs. The rebound for cyclical stocks that began in earnest towards the end of last year has continued, this time with a government bond sell-off on top.
After the ups and downs of 2020, allocators may feel they’re due a break from all this activity. In performance terms, however, that pause for breath has already arrived. We noted yesterday that DFM portfolios had taken their own breather in February; one reason for that relative stasis may be that 2021 return profiles look pretty conventional on the surface.
Both Pimfa and Arc’s private client indices continue to show an orderly state of affairs so far this year. Global growth portfolios are out in front, conservative portfolios bring up the rear, and everything in between is distributed fairly evenly along the risk spectrum.
Nor is there any sign of more cautious benchmarks being unduly affected by the bond blip: Arc’s cautious private client index is flat on the quarter, as is Pimfa’s conversative benchmark.
Compare that to last year, when wealth managers got more than their fair share of volatility. Analysis published earlier this year by Arc showed the first quarter of 2020 was the worst since at least 2004 for steady growth portfolios. Yet Q2 was the second strongest quarter over the same period, and Q4 the fourth strongest.
The equity market rotation and back-up in bond yields has certainly felt significant this year – and in time, they move prove more important for DFM portfolios than the market moves of 2020. But at a portfolio level, there’s little yet that compares to the drama of last year.
Relationship issues
There’s been some respite for both US government bond yields and tech stocks this week, as the rotation out of both assets starts to slow down.
That provides a good opportunity to emphasise that tech shares’ struggles aren’t quite as severe as headlines may suggest. The Nasdaq remains higher year-to-date, even from the perspective of a sterling-based investor. And it’s now recovered half of the 10 per cent drawdown sustained over the three weeks to March 8.
The perceived connection between Treasury prices and tech stocks means many equity investors continue to fret over the medium-term outlook for this part of the market.
Analysis from SocGen has found that the majority of MSCI World constituents have a positive correlation with rising bond yields; the bond sell-off isn’t inherently bad news for most companies. For tech, this correlation is either non-existent or inverse.
But opinion’s divided on how close this relationship really is. Research from the likes of Deutsche Bank and Goldman Sachs has questioned he idea that the fate of bond yields and tech stocks is negatively correlated.
In the near term, however, that relationship appears to be very much alive and well. The negative correlation between 5-year Treasury yields and the Nasdaq is now at its highest level for more than two decades. Rapid price moves have a tendency to exaggerate correlations in this way – but the nagging question for those with considerable tech exposure is just how long this connection is going to endure.
Gearing up
Inflationary concerns, insofar as they exist in the UK (as opposed to the US) at all, have to do with what price rises might look like in a few months’ time, rather than now. Nonetheless, today’s CPI print suggests the Bank of England might still have room to manoeuvre for a while yet: inflation slowed unexpectedly from 0.7 per cent last month to 0.4 per cent in March, while core inflation stood at 0.9 per cent, its lowest level in six months.
There’s still a clear lockdown effect in evidence here. But other economic measures suggest the UK economy has got better at operating in its current straitened circumstances - or else businesses are readying themselves for better times to come.
Markit’s services index PMI hit a seven-month high this morning, with the manufacturing index at a three-month high. All eyes, needless to say, remain on how swiftly, and how sustainably, reopening plans progress in the months ahead.
