As the third quarter began, investors were concerned that inflation was even more deeply embedded than originally thought, and at one point some commentators were predicting peak interest rates of 6.5%. We did not agree with that narrative. We were proved right in August, when presented with a smaller 0.25% hike. The following month, a very minor 0.1% fall in manufacturing revival gave the Bank of England (BoE) enough cause to keep rates as they were. This brought an end to 14 straight months of rate hikes and signalled the end of this cycle.
A lot of market commentators had been expecting further action from the BoE to dampen inflation and calm the spending profile of the UK. The resilience of both the economy and the labour market had supported this consensus. We were already aware of how strong the UK economy is, given how well it has held up since the pandemic and the fact inflation has not yet fallen meaningfully this year.
Over the quarter, the Sterling Liquidity Fund produced a positive return and slightly outperformed the benchmark.
The fund grew steadily over the quarter, so we took the opportunity to add some one-year assets to the portfolio, particularly at the beginning of the quarter when yields were elevated.
Simultaneously, we boosted the short-dated maturity ladder with some rolling one-week commercial paper positions issued by the Canadian government-backed pension scheme OMERS and the UK government-backed Transport for London (TfL). We would have previously used major banks such as Barclays for this, but TfL and OMERS were offering higher yields for one-week commercial paper while also being better-rated than the bank and falling under our government-backed debt exposure mandate. This allowed us to improve returns whilst increasing the overall portfolio quality.
We expect the BoE to hold rates where they are, based on the underlying inflation picture. Food inflation figures are down considerably in 2023, which suggest core inflation may fall over the next quarter. If the BoE recognises it is only making gradual progress with inflation, it may be more likely keep rates high to stay the course. Given the upheaval of 14 straight hikes, it is likely that the BoE will want to stabilise the situation and provide some security to households, businesses and the markets. We believe that only when inflation is under control and forecast to stay in the target 2% region will the bank have the best opportunity and justification to start cutting rates. The last thing it will want is to give mixed signals to the market, and inadvertently cause inflation to pick up again.
In terms of our positioning, we will selectively add longer-dated positions to the fund, with the expectation that they are likely to benefit from interest rate cuts over the medium term, rather than immediately. We intend to stay focused on relatively high-quality debt and maintain our short-dated positions.
The value of investments may fall as well as rise and investors may not get back the amount invested.
The views expressed in this document are those of the fund manager at the time of publication and should not be taken as advice, a forecast or a recommendation to buy or sell securities. These views are subject to change at any time without notice.
The WS Canlife Sterling Liquidity Fund is a UCITS scheme and a standard variable net asset value (VNAV) money market fund (MMF). The MMF is not a guaranteed investment, nor does it receive external support to guarantee its liquidity. Unlike bank deposits, investment in MMFs can fluctuate and investors’ capital is at risk.
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Promotion approved 19/10/23