Equities were mixed during February. Markets bounced early in the month as concerns over new virus variants and their potential to reduce vaccine efficacy eased. Improving vaccine sentiment and generally better than expected economic data led to a sell-off in government bonds. The increase in yields accelerated into month-end as Fed Chairman Powell testified that he remained unconcerned about the inflation outlook and US jobs data came in ahead of expectations. The volatility in the bond market led to a pullback in equities. The fund returned 4.2% for the month versus 0.6% for the MSCI Europe index.

The increase in bond yields was particularly pronounced in the US where investors have become concerned that President Biden’s stimulus package will result in an increase in inflation. This has led to a spirited debate between economists about the potential for inflationary pressures to become entrenched and potentially choke off the economic recovery. The debate has not just been confined to the US. Bank of England chief economist, Andy Haldane, warned that central banks ran the risk of becoming complacent on inflation as the economy recovers from the coronavirus pandemic.

Outside of a resurgence in the virus, the potential for significantly higher bond yields is the biggest risk facing equity markets. Every strategist/economist/fund manager has offered their view on what rising yields mean for equities. The honest answer is that no-one really knows. Economists still can’t even agree what the primary determinant of long-term interest rates are. The best guess, somewhat counterintuitively, is short-term rates. Markets are complex, adaptive systems where relatively small changes in inputs can result in significant changes to outcomes. We believe that a rise in yields is more likely to result in changing relative valuations within markets, rather than the catalyst for a sustained market reversal. Volatility, however, will remain higher than usual.

At a stock level the fund benefitted from its exposure to some of the more economically sensitive sectors of the market. Financials gained as the yield curve steepened further. The sector was also buoyed by a generally supportive earnings season. Lloyds results came in ahead of expectations with the closely watched net interest margin proving resilient. Prudential bounced following last month’s overreaction to the announcement that it was going to ‘spin-out’ Jackson, its US life business, as opposed to an IPO. Reopening plays, Barco and John Menzies, rose as virus optimism increased. Industrial distributor, Rexel, jumped as results came in ahead of expectations and it raised its medium-term margin targets. Investor’s responded positively to CapGemini’s results announcement. The company is an attractive play on the ongoing digitalisation of the global economy.

M&A activity was again a feature of the market. The fund’s largest holding, specialty chemical maker, Synthomer, was speculated to have been approached by private equity firm, CVC Capital. Pointedly, Synthomer announced that it was not currently in takeover discussions, but never stated that it had not been approached. Takeover rumours swirled around a number of other mid-cap companies. Corporate financiers are busy and we would expect to see more bids over the next few weeks and months. Such an environment is generally positive for the fund’s performance.

New holding Nordic Entertainment declined as sentiment towards ‘stay at home’ beneficiaries turned negative. Alpha FMC drifted on a lack of news.

Equities were mixed during February. Markets bounced early in the month as concerns over new virus variants and their potential to reduce vaccine efficacy eased. Improving vaccine sentiment and generally better than expected economic data led to a sell-off in government bonds. The increase in yields accelerated into month-end as Fed Chairman Powell testified that he remained unconcerned about the inflation outlook and US jobs data came in ahead of expectations. The volatility in the bond market led to a pullback in equities. The fund returned 4.2% for the month versus 0.6% for the MSCI Europe index.

The increase in bond yields was particularly pronounced in the US where investors have become concerned that President Biden’s stimulus package will result in an increase in inflation. This has led to a spirited debate between economists about the potential for inflationary pressures to become entrenched and potentially choke off the economic recovery. The debate has not just been confined to the US. Bank of England chief economist, Andy Haldane, warned that central banks ran the risk of becoming complacent on inflation as the economy recovers from the coronavirus pandemic.

Outside of a resurgence in the virus, the potential for significantly higher bond yields is the biggest risk facing equity markets. Every strategist/economist/fund manager has offered their view on what rising yields mean for equities. The honest answer is that no-one really knows. Economists still can’t even agree what the primary determinant of long-term interest rates are. The best guess, somewhat counterintuitively, is short-term rates. Markets are complex, adaptive systems where relatively small changes in inputs can result in significant changes to outcomes. We believe that a rise in yields is more likely to result in changing relative valuations within markets, rather than the catalyst for a sustained market reversal. Volatility, however, will remain higher than usual.

At a stock level the fund benefitted from its exposure to some of the more economically sensitive sectors of the market. Financials gained as the yield curve steepened further. The sector was also buoyed by a generally supportive earnings season. Lloyds results came in ahead of expectations with the closely watched net interest margin proving resilient. Prudential bounced following last month’s overreaction to the announcement that it was going to ‘spin-out’ Jackson, its US life business, as opposed to an IPO. Reopening plays, Barco and John Menzies, rose as virus optimism increased. Industrial distributor, Rexel, jumped as results came in ahead of expectations and it raised its medium-term margin targets. Investor’s responded positively to CapGemini’s results announcement. The company is an attractive play on the ongoing digitalisation of the global economy.

M&A activity was again a feature of the market. The fund’s largest holding, specialty chemical maker, Synthomer, was speculated to have been approached by private equity firm, CVC Capital. Pointedly, Synthomer announced that it was not currently in takeover discussions, but never stated that it had not been approached. Takeover rumours swirled around a number of other mid-cap companies. Corporate financiers are busy and we would expect to see more bids over the next few weeks and months. Such an environment is generally positive for the fund’s performance.

New holding Nordic Entertainment declined as sentiment towards ‘stay at home’ beneficiaries turned negative. Alpha FMC drifted on a lack of news.