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  • ChetwoodWM

Client Update - 21st May 2021

Last week US inflation for April came out as a shock, with both headline and core indices surprising to the upside. What we had been bracing for is materializing: consumer prices are moving significantly up, however much of the acceleration in core inflation could be traced to a few components standing for less than 5% of the index. Yes, bottlenecks are pushing prices up – and by a lot – in sectors such as motor vehicles, but these supply issues (e.g. the global shortage in microchips) do not reflect total overheating (at least not yet). Wages surprised to the upside as well, but there again, the signal is polluted by statistical artefacts.

The picture is too blurry to sway the US Federal Reserve (FED) away from its dovish message. The surge in inflation needs to be put in perspective. The “price gap”, i.e. the difference between the actual price level of goods today and where they should be if inflation had been in line with the FED target, is large after almost 10 years of sub-par inflation. Maybe the ongoing pick-up is precisely what is needed to finally “re-set” long-term inflation expectations to a pace consistent with the FED’s target. The risk of course is that this goes too far. The FED is going to be under a lot of pressure this summer as price rises are likely to continue.

The pressure on yields have certainly been affecting tech heavy Environmental, Social and Governance (ESG) portfolios that have struggled a little year to date after an outstanding 2020. We remain firmly in favour that investors should consider ESG for at least part of their investment portfolio. Whether choosing a “Responsible Investment” strategy involves giving up potential financial return is a question that many investors and commentators still ask. It pre-supposes that there is some linear trade-off between good environmental, social and governance credentials and higher financial returns. Of course, we would completely disagree with that supposition. Over the long-term, the best performing assets will be the ones that have more sustainable business models. Sustainability means reducing risks that could become material drags on financial performance. It also means a focus on businesses that grow in areas that either do not create negative environmental and social impact or contribute to positive environmental and social outcomes.

It has been noted in some literature that the best ESG companies have been the best stock market performers, but surely this is because they are the best companies. There is nothing wrong with that. If company management did not take care of how their operating model impacts on the environment and on society, and if it does not have transparency in its supply chain or its management of human capital, then the likelihood is that it will not be one of the “best” companies. In the end, management wants customers to buy its products and investors to provide it with capital and funding. It makes no sense not to take care of ESG if they want to optimise the business model and future investment. We remain excited about investment in this area.

Unfortunately, even if progress on vaccination is undeniable, the short term COVID news remains uncertain, with countries such as Japan and Singapore extending their restriction measures, and the British Prime Minister mentioning the possibility to revise the country’s reopening timeline because of the “Indian variant”. In Japan over 80% of the population apparently would prefer the Olympics this summer to be delayed again or cancelled. The latest opinion polls are the clearest sign yet that the public has turned resolutely against the summer games. This is an election year – Suga’s first since taking over from predecessor Shinzō Abe – and there is no doubt that these polls are bad news for both the prime minister and his ruling Liberal Democratic Party (LDP). The summer will indeed be an interesting one. I for one would like to see the end of all this rain. Do have a good weekend.

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