The value of investments can fall as well as rise and you may not get back what you put in. Past performance should not be taken as a guide to future performance. You should continue to hold cash for your short-term needs.
Central banks manage expectations
Financial markets finished off last year on a high and much of the momentum carried on into the first month of 2024 – just about. There was a bit of turbulence in the first couple of weeks, but investors then saw more positive data from the US and markets picked up again.
Inflation in the US has been edging closer to the US Federal Reserve’s (Fed’s) target of 2%, while the country’s economy has been going from strength to strength. This made investors hopeful that we could see an interest rate cut quite soon – a positive development for markets.
In December, more jobs in the US were filled, although the unemployment rate remained the same as the previous month. Also, core inflation – the price of goods minus volatile food and energy – and the Personal Consumption Expenditures Price Index – the price of goods bought by a typical household – continued to fall. These were all positive moves from an investor’s perspective.
But despite the promising news, the Fed held interest rates where they were at the end of January. In fact, Chairman Jerome Powell tried to manage investors’ expectations of when rates might start coming down. The market was forecasting the first rate cut in March, but Powell said that wasn’t the bank’s ‘base case’, and now markets think an interest rate drop is more likely in May.
Increasing our exposure to global equities
Looking at the wider world, the global macroeconomic environment looks increasingly more appealing for investors. With expectations of resilient growth, easing inflation and potential rate cuts this year – albeit starting a little later than expected – the Coutts team that manages the NatWest Invest funds bought more global equities.
They also sold some of their investment in US government bonds, taking profit from their strong performance over the last few months. They saw this as a good time to reduce these holdings as their analysis shows stronger growth could limit the number of rate cuts delivered by the Fed this year.
Meanwhile, the team added to its position in high yield corporate bonds in December, which tend to do well when an economy is growing. And in case you don’t know what those bonds are…
What are high yield bonds?
When a corporation needs to raise some money, they can issue a corporate bond for investors to buy. This is another way of getting a loan. A high yield bond is a form of corporate bond but is considered riskier because the corporation has a lower credit rating, which means they’re more likely to miss a repayment – also known as defaulting.
These corporations then have to make larger repayments (yields) to attract investors to buy the bonds because of the greater level of risk that comes with them.
But because these bonds are issued by corporations, they can perform more like a stock and less like other bonds. This makes them more sensitive to good or bad news but less sensitive to what happens with interest rates.
The Coutts team believes there’s a lot to like about high yield bonds in the current environment. High yield bonds typically perform well when an economy is growing because there’s less risk of corporations missing their repayments. With the US economy doing well at the moment, this could put high yield bonds in a good position to perform well.