Return of Inflation Boosts Financials: The Funds Well Positioned To Ride The Recovery


The rebound in global equity markets since the successful introduction of vaccines in developed countries has favored some sectors over others.

Financial stocks and funds they hold – which were among the hardest hit equity holdings at the start of the pandemic – have rallied sharply since November. And many private investors want to build additional exposure in this sector in their portfolios.

As investors stared in the face of a sharp global recession last March, cyclical and so-called value stocks – styles that financial stocks typically fall into – suffered a significant slump. Post-pandemic market narratives strongly favored growth stocks.

Now financials are benefiting not only from the rebound in value and cyclical stocks trading, but also from the return of inflation.

Financial stocks favored: Banks and insurance companies benefit from rising inflation and value rotation

Having suffered from low interest rates and tight monetary policy since 2009, banks and other financial services companies are now looking forward to a rejuvenated economy and the possibility of rising interest rates.

For banks, low interest rates reduce lending margins and uncertain labor markets mean that bad loans will be written off. When it comes to financial services, customers who have confidence in their finances are more likely to buy savings, investment, and insurance products.

In the UK, the Prudential Regulation Authority’s decision last year to ask banks to stop paying dividends also did little to improve their share prices.

Sentiment for stocks is generally bullish on the launch of the vaccine and the potential for economies to re-open and consumer spending to pick up. However, since November the financial sector has outperformed the broader market as vaccine optimism took hold.

The MSCI World Financial Index has risen 23.6 percent since the beginning of the year, outperforming the MSCI World Index’s return of 13.4 percent over the same period. Tech stocks, some of the runaway winners of the 2020 post-pandemic, have returned 9.9 percent this year by comparison.

‘The global recovery will die [financials] Sector, “said Thomas Moore, fund manager, Aberdeen Standard Equity Income.

“Specialized lenders should benefit directly from increased credit demand and lower depreciation, while asset management companies are likely to benefit from increased cash flows and higher market levels.”

Inflation Resurfaces: The ONS announced this week that the CPI inflation reading had bumped above the BoE target of 2% in May.  In July it was close to zero.

Inflation resurfaces: The ONS announced this week that the CPI inflation reading had bumped above the BoE target of 2% in May. In July it was close to zero.

Inflation signals come strong and fast, both domestically and globally, as businesses reopen and the economy warms. The latest UK consumer price index shows inflation rose to 2.1 percent in May, up from 1.5 percent in April.

Driven by the rising cost of clothing, fuel, food and drink, it is the first time in two years that inflation has jumped above the Bank of England‘s 2 percent target.

The Federal Reserve responded to signs of inflation in the US this week by warning that two rate hikes will likely be required in 2023. That’s two more than previously planned, but the new outlook matches the money market projections for US rates.

Fears that inflation shocks and their impact on bond yields will trigger a taper tantrum have yet to be justified. At the moment, the price pressure is ensuring that the rotation of funds in previously unpopular stock exchange sectors and regions is increasing.

“When there is less certainty about the value of future cash due to the impact of inflation, many investors tend to shift back to the here and now and away from ‘growth’ sectors like technology companies to companies with currently attractive valuations and strong balance and the potential to pay higher dividends in the not too distant future, ‘said Jason Hollands, Managing Director of Tilney Bestinvest.

Recovery Trade: How the FTSE 100 Index has performed over the past 12 months.

Recovery Trade: How the FTSE 100 Index has performed over the past 12 months.

Financials sit comfortably in this area, and if inflation forces central banks to raise interest rates, banks should improve their margins.

“Today banks are even more sensitive to higher interest rates than they used to be,” said Nick Brind, co-manager of finance specialist Polar Capital Global.

“This is due to actions taken by governments and central banks to cushion last year’s downturn, which resulted in tremendous growth in deposits.”

For private investors, the question arises as to how much of the expected recovery of companies in the financial sector is already factored into their stock values. Much will depend on the rate of inflation and thus interest rates.

However, many analysts expect the rebound for financial stocks and the London blue-chip indices, in which they are heavily represented, is not over yet.

Laith Khalaf, financial analyst at DIY investment platform AJ Bell, emphasized the need for investors to have some exposure to the financial sector.

“This area of ​​the market is likely to perform in line with the overall economy, but it is also an area in the UK that has been unloved for a long time, so many portfolios may have little or no exposure,” he added .

Hollands also suggested that investors heavily invested in growth stocks and funds consider adding more value-driven opportunities to their portfolios.

The UK market has a particularly high level of exposure to the financial sector, which accounts for around 23 percent of the market. Jupiter Income owns 27 percent in the financial sector, including large positions such as Aviva, Standard Chartered and Royal Bank of England. Fidelity Special Situations’ two top positions are Legal & General and Aviva.

“For those tempted by a specialized financial fund and looking to launch their net globally, Polar Capital Global Financials Trust is a UK listed mutual fund managed by a team with strong expertise that invests in the space.” adds Hollands.

The trust’s share price is up 21 percent in six months and 74.2 percent last year.

The largest holdings are mainly in large developed country companies such as JP Morgan, Bank of America and PayPal. But 28 percent of the portfolio is in emerging markets and almost 10 percent in fintechs. ‘

The Association of Investment Companies has created a useful table that shows the mutual funds that have the highest exposure to financials.

Top 20 investment companies with the highest exposure to financial services
Investment company AIC sector Portfolio in the financial services sector (% net) Data as with
Polar Capital global financial data Finances 99.7 percent April 30, 2021
Augmentum Fintech Technology and media 94 percent September 30, 2020
Chrysalis investments Growth capital 51.0 percent March 31, 2021
Aberdeen Standard Share Return UK Stock Income 38.3 percent May 31, 2021
New opportunities for Barings in the EMEA region Global emerging countries 36.3 percent April 30, 2021
Vietnam Holding Country specialist 34.9 percent April 30, 2021
JPMorgan Indian India 34.7 percent April 30, 2021
Canadian income mid-range North America 34.5 percent April 30, 2021
Vietnamese company Country specialist 34.0 percent April 30, 2021
JPMorgan European Income Pool Europe 32.0 percent March 31, 2021
JPMorgan Global Emerging Market Income Global emerging countries 32.4 percent March 31, 2021
Ashoka India stocks India 32.0 percent January 31, 2021
flat land UK equity income 32.0 percent April 30, 2021
Diverse income UK equity income 31.3 percent April 30, 2021
BMO capital & income UK Stock Income 30.4 percent April 30, 2021
Dunedin company Private equity 30.0 percent December 31, 2020
BMO UK high income UK Stock Income 29.4 percent April 30, 2021
Aberdeen New India India 27.8 percent April 30, 2021
BlackRock Income in North America North America 27.2 percent April 30, 2021
Dunedin Income Growth UK Stock Income 26.8 percent April 30, 2021
Source: Association of Investment Companies

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