JP’s Journal: Turn and face the strange

This is my final post of the year – and indeed my final one at Royal London Asset Management.

Writing these weekly reviews over the last few years has been really useful and I wish they had started earlier. It has certainly helped to reflect on political, economic and market developments and to get away from short-term noise.

So, time to reflect on lessons learned but also to guess on what the future holds. The biggest takeaway is the importance of teamwork. This may sound like a cliché but it has been the underpinning of the successes within our Fixed Income team. Fusing different temperaments and getting buy-in to the view that everyone can benefit from a collaborative approach has worked well. This has been based upon ensuring that the individual teams making up wider Fixed Income team are focused – and not too big to function effectively. The importance of team structure can be under- estimated. I’ve been asked several times over the years whether the Fixed Income team has been under resourced. This thinking is based on a fallacy. In my view, lean teams, with high degrees of trust, working together and using collective and varied experiences trumps numbers any day.

Having a clear investment philosophy is vital. Our sterling credit approach is a great illustration. In my view, it is not rocket science – just common sense – and I often thought that some gatekeepers would have preferred a more complicated process. In truth, our simple message of diversifying credit risk, embedding greater security where possible through secured debt and targeting a yield advantage over benchmarks is understandable and chimes with our clients. The consistency of our returns over long periods of time is the best testament. There have been periods of underperformance but having a roadmap, as represented by our investment philosophy, has allowed the team to navigate choppy waters. As most bond managers tend to fear the worse and overreact to events, this roadmap has been an immense help, allowing us to take advantage of opportunities when they arise.

A third lesson is about wider leadership and ownership structures. I have been incredibly fortunate to work with talented bosses. Hans Georgeson and Piers Hillier, our CEO and CIO respectively, have been great: asking questions, challenging assumptions but always supportive. This really helps, allowing strategies to develop over time. Similarly, Royal London’s mutual status has been beneficial, supporting a longer term horizon than peers – often more concerned about share prices than sustained development. The strong relationship between the various parts of Royal London – working as one business – has permitted stable evolution into newer areas and has been a core competitive advantage.

What do markets hold is store for next year and beyond? Our Market Outlook 2025 is a summary of issues across asset classes and neatly captures our key views. So, my comments will be more thematic. I am not convinced we are on the verge of a productivity renaissance brought about by AI – it will help but will not disrupt the story of subdued long-term growth in developed economies. The impact of demographic changes has been severely underestimated. The growth in the global population is slowing and will be highly skewed over the next 50 years. Established societies will see stagnation, bar the impact of net migration, and the cost of caring for the elderly will grow. Climate change, life aspirations and job opportunities in ageing societies may encourage greater migration, particularly from those regions experiencing high population growth. Africa currently has a population about twice that of Europe. According to the UN by the year 2100 that ratio will be nearer eight times.

Climate change will be a great challenge and getting a collective response is difficult. China, India, and the US have the largest carbon emissions, accounting for over 50% (in 2022). The UK, by contrast represented 0.9%. However, some of the biggest CO2 contributors are also leading the way, through technical innovation. Finding the right policy response will not be easy. At the present time the UK has expensive energy, as we transition to a renewables-focused regime. But the National Grid infrastructure is lacking and will require tremendous further investment, at a time of high government debt and rising finance costs. My feeling is that, in the longer term, the UK will benefit from lower and more stable energy costs but the pathway getting there may be more painful than expected. On a more generally theme, the greatest political challenge is coping with rising expectations – the electorate want more, for less money.

Let’s end on a market theme. One concept that I have never mastered is the appropriate rate for real yields. In my view this is the most difficult yet influential metric to establish. In the US, the current 20-year rate is 2.35% whilst in the UK the equivalent is around 1.75%; back in 2021 the UK rate was negative 2.5%. So, over a three-year period the real yield has risen by over four percentage points. My best estimate is that UK real yields should be in a range 1.5% to 2%. Add in an inflation assumption of 2.5% (Bank of England target plus an insurance premium), gives a nominal 20-year rate of 4-4.5%. The present rate nominal rate is about 5%. So, gilt investors are saying that either the inflation assumption is too low or real yields will be higher. My hunch is that nominal yields have overshot.

Finally, I would like to thank my colleagues for great support over the near 40 years of my time at Royal London Asset Management. I would also like to thank our clients having confidence in us and for giving us the opportunity to manage their money.

I had a great time. But in the words of David Bowie, "turn and face the strange…changes”. We always have to move forward.

This is a financial promotion and is not investment advice. Past performance is not a guide to future performance. The value of investments and any income from them may go down as well as up and is not guaranteed. Investors may not get back the amount invested. Portfolio characteristics and holdings are subject to change without notice. The views expressed are those of the author at the date of publication unless otherwise indicated, which are subject to change, and is not investment advice.