Hunt for yield sends DFMs in opposite directions; Allocators face up to Vile outcome

Split income

We’ve tracked the long, slow descent of wealth portfolio yields for a couple of years now. That’s an inevitable consequence of a market in which almost all asset prices have risen considerably – the blip of the last few days still barely registers on long-term charts.

This decline and fall is also partly to do with the dividend cuts of 2020, plus DFMs’ occasional difficulty at incorporating higher yielding assets into daily dealing portfolios. But there's something else going on beneath the surface this year.

As it stands, the typical balanced portfolio yielded 1.3 per cent as of the start of this month, according to our analysis. The average balanced income portfolio now throws off an average of 2.6 per cent (these are trailing yields, so they look backwards not forward).

There’s a growing disconnect in these figures – and it’s not just the gap between the payouts on offer from balanced and income strategies. More significant is the increasing dispersion between different firms’ income strategies.

Because while balanced yields tend to sit fairly tightly around the 1.3 per cent average, income portfolios vary much more.

Some 30 per cent of firms in our sample run moderate income portfolios with yields of less than 2 per cent, for instance. But another 30 per cent are still producing yields in excess of 3 per cent.

As that implies, some wealth managers are managing to source plenty of high yielding assets, often in the alternatives space. Those with lower yields are typically more reliant on equity and bond strategies.

What makes all this particularly notable is the fact that many of these portfolios are ostensibly taking the same level of risk: most are risk-rated by external providers, and income funds offering 1.8 per cent or 3.2 per cent sit side-by-side in the same risk band. Whether that’s an appropriate state of affairs is an open question.

From Nice to Vile

For an insight as to why some are starting to get more concerned about inflation, this thread from TS Lombard’s Dario Perkins is an apt summary.

As we noted yesterday, it’s becoming apparent that the supply chain woes emerging across the world might not fade away that quickly. Add in lingering pandemic concerns, and the misallocation of resources that Covid leaves behind, and it’s clear why those on “team transitory” are pausing for thought.

But as Perkins notes, this combination of issues doesn’t have to resolve in stagflation. Instead, he outlines the potential for a ‘Vile’ scenario – volatile inflation and limited expansion.

This is a phrase that’s been used by Andy Haldane – now no longer on the Bank of England’s Monetary Policy Committee – of late. Those well-versed in the world of asset management might recall the term was favoured by Ignis back in 2011 – the fund house believing it would accurately characterise the years ahead.

In the event, of course, the price growth seen back then truly was transitory. UK CPI inflation reached 5.2 per cent in September 2011 and struggled to reach 3 per cent for the rest of the decade. Asset prices continued their upwards path in the meantime.

Now, in 2021, the macroeconomic backdrop is much more unusual. Perkins thinks the implications for risk assets could be different, too. It’s these considerations that will be playing on allocators’ minds at the moment.

More time needed

Many issues similar to those discussed above were addressed by BoE governor Andrew Bailey in a speech yesterday evening. He too thinks that purchasing decisions will start to shift back from goods to services, though he seemingly remains in the optimists’ camp when it comes to the transitory nature of inflationary pressures and supply shortages.

That stance would reinforce last week’s suspicion that the central bank could yet hike rates this year – and Bailey acknowledged such a move was possible. 

But he did concede the UK economy is not yet strong enough for an immediate hike, and described the current situation as “truly hard yards”. That suggests an even hand on the tiller for now – and implies better news will be required before the BoE is prepared to act.