Absolute return shows signs of a renaissance; US bonds display their relative resilience

The bond barometer

Most of the analysis of the latest retail fund sales data has focused on the increasing likelihood that 2021 will prove the best year ever for fund flows.

Another £5.3bn in net sales in August – a month not known for its business success – adds weight to that theory. But the month’s data also contained a few warning signs for allocators.

Because while flows into equity funds remained at elevated levels, interest in fixed income strategies fell to its lowest level since December 2019. A net £575m inflow marks the first time in 18 months that sales have fallen meaningfully below the £900m mark.

This outcome is arguably all the more surprising considering bond yields remained fairly anchored on the month – indeed, at the start of August all of the talk was of the significant price rally that had just taken place.

This then, looks like a relatively judicious moment of pause, given what was to follow in September.

If last month’s market sentiment persists it will seriously dent the prospects of a record year for fund flows. More importantly, it could also do damage to year-to-date returns, given the way both bonds and equities have slipped lately.

But as we discussed last week, there’s more than one way to protect portfolios. And here too it looks like retail fund buyers were slightly ahead of the curve this summer. Inflows into the Targeted Absolute Return sector in August amounted to around £200m – only the second time in the past three years that such a figure’s been reached.

The other such peak was amid the bond sell-off seen this March. On that occasion, investors were reacting to price moves. This time, they appear to have got in ahead of them.

Familiar FX

In the meantime, bond yields still look more likely to head higher than lower. Or so the thinking goes after US payrolls data on Friday which disappointed but nonetheless failed to reverse any of the recent spike in Treasury yields.

In the UK, attention is back on the Bank of England following comments from two monetary policy committee members over the weekend. Rate hikes in both December and next March are now being priced in, with a couple more for good measure later in 2022.

That shift in mindset has had an obvious impact on gilt yields. But as the FT points out, the prospect of higher rates hasn’t done anything to help sterling.

The currency has continued to weaken – as we noted last Monday, that’s not necessarily a bad thing for wealth managers, even if it does little to inspire confidence in the outlook for the economy as a whole.

There’s already some evidence of this in the fund performance tables.

Despite the Treasury sell-off, the US government bond sector is the 10th best performer of the 57 Investment Association sectors since the start of September. As that implies, a further strengthening of the dollar gives added incentive for allocators to look to US-based investment options.

Private passion

There’s been some talk of late of private investors scooping up the assets deemed unsustainable by ESG-conscious public institutions. That makes intuitive sense, if the thinking is that ESG investing is raising the cost of capital for these businesses. That implies they will offer higher rates of return in future – providing they're still in existence.

Research from PwC challenges this idea to an extent. It says that even private investors – in theory relatively unencumbered by ESG considerations – are increasingly going green, in Europe at least.

The impact of the likes of Europe’s Sustainable Finance Disclosure Regulation means ESG assets could constitute as much as 42 per cent of Europe’s private market asset base within four years, according to the firm. That’s up from just under 15 per cent last year.

Whether or not this forecast is realistic, it does emphasise the opportunities perceived to be on offer for those shifting to sustainable investing – and, perhaps, for those who choose to be left behind.