Investec's Stopford: QE could be switched off by end of 2013

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Investec GSF Global Bond fund manager John Stopford believes conditions may be in place to persuade US policy makers to turn off the quantitative easing taps by the end of this year.

With many predicting that QE will continue into 2015, Stopford argues that the main factors that would bring about its end, the return of inflation and a fall in US unemployment, could come around quicker than anticipated.

Stopford, who also runs the Investec GSF Global Strategic Income  fund also warns that corporate bonds may be ‘entering bear market conditions’ and he expects credit to 'perform badly’ this year.

Stopford told Citywire Global  that he believed US unemployment could be down to the targeted level of 6.5% within months, bringing forward the likelihood of a subsequent rise in interest rates.

He is positioning the fund to deal with the scenario by cutting duration on his government bonds, and adding to his inflation–linked exposure.

He said: ‘It is hard to be a dollar bull but the US does appear to be having a normal cycle again. The housing market has picked up, consumers are starting to spend and banks are lending again so we could get much faster to the point where the Fed has to change fiscal policy. We expect QE to finish by the end of 2013.

‘The [Federal Reserve] has said it would like to start reining back on QE so if we see an improvement in the labour market the QE argument becomes less powerful.’

Despite acknowledging concerns among some Federal Reserve members over the $3 trillion of debt on the US balance sheet, Stopford concedes that the US is ‘further through the private sector deleveraging cycle and reassuring manufacturing and employment data is making it more competitive than for some time’.

The fund is 60% weighted to developed market sovereign debt with its largest positions in US 2014 and 2012 - dated treasuries while investment grade corporates, primarily in AAA rated companies, make up 17% of the fund. Cash accounts for almost 8%.

Reducing credit

Stopford is seeing signs of tension in credit markets with weaker companies coming to market and more speculative borrowing.

He has been gradually decreasing his overall credit exposure from its historic peak in 2009, and has reduced bonds in cyclical companies including financials further this year, taking the fund underweight credit for the first time in three and a half years.

‘We are seeing weaker borrowers and bonds displaying less bond-like but more equity-like characteristics. All of that makes us quite cautious.’

Another strand of the duo’s cautious stance has been to reduce duration since the start of the year.  

The fund’s average duration has come down to 4.5 years against the benchmark’s six years, with developed world bonds at around four years’ duration, and the emerging market average duration just six months.

‘We won’t be more aggressive because we think risk assets have run away with themselves.’

Yen to fall further

Stopford has also removed the short he has had on the Japanese currency for some time, as he expects a more focused fiscal easing policy under returning prime minister Abe to continue to cause the currency to fall further.

The fund is currently neutral on the euro and exposure to sterling has been removed as Stopford sees the UK’s currency weakening further, while he remains modestly overweight on the dollar.

‘We expect the dollar to be stronger by the end of this year but we think the yen has a further 5-10% to fall and think it to be closer to 100 [yen to the dollar] this year.’

He added: ‘The dollar is following previous patterns. It has been weak for a decade but we expect it to remain stronger on a two to three year view with most of that probably this year.

As befits his cautious mind set, Stopford thinks the big opportunity in the asset class this year will be ‘not losing money in the second half of the year’.

While he expects credit to break even, he thinks corporate bonds will have a difficult year with emerging market corporates outperforming their developed world peers, although he queries the classification distinction between the two.

‘I don’t think the term developed or developing means anything now. It is all about context and labels are changing. On the fringes of developed market debt you have a risk asset like Spain, which should be compared more to Brazil or South Africa.’

Over five years to the end of December the fund has returned 70.1% compared to the Citigroup WGBI TR USD return of 58.3%.