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Higher yields tempt investors back into bonds

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UK-focused funds continued to suffer outflows while investors plumped for global funds as fixed income funds saw their second highest inflow on record in January.

Investors withdrew a net £868m from their UK-focused equity funds in January at a time when the FTSE 100 reached an all-time high.

According to data from global fund network Calastone, they suffered their third-worst month of outflows, despite the strong market performance.

Further, this latest reading means UK-focused funds have endured 20 consecutive months of outflows.

Calastone noted that for every £1 of sell orders of UK-focused funds, just 59p of buy orders went through in January.

“No other fund sector saw a mismatch this large, and not a single trading day saw net buying,” said Edward Glyn, head of global markets.

Indeed, since 2015, investors have sold £7.3bn of UK-focused funds as they ploughed £58bn into international funds.

Glyn said: “UK shares have now seemingly lost their allure for domestic savers. The combination of January’s near record high for the UK market with near-record outflows smacks of opportunistic selling against a backdrop of chronic pessimism, exploiting a moment of higher prices to head for the exits.

“Weightings to UK equity funds are coming from a high base, so even relatively attractive valuations may not be enough to persuade domestic savers to add more cash to their home market.”

Global markets rebound

While investors continue to shun the UK, the big winners in January were global funds as they recorded their second-best January in three decades, “continuing the recovery that began in October 2022”, Calastone noted.

The MSCI World had risen 18% from its October low by the end of last month, with investors buying into the rally. They added a net £969m to global equity funds since the New Year.

Global funds with no ESG mandate received just under half the overall net inflow, one of only two months out of the last twelve where they held up so well relative to ESG funds.

“This reinforces the notion that the net buying in January reflected optimism on global equities, rather than simply the material preference for ESG strategies that has been a feature of the funds industry since 2019”, Glyn said.

Meanwhile, the reopening of the Chinese economy sparked January inflows to equity funds focused on Asia-Pacific and emerging markets.

Glyn said that 2022 “was a good year to hide in UK equities” so there is some rotation as UK investors switch to global funds “that are more likely to benefit from a return to bull-market conditions”.

He added: “We have seen selling of UK funds ramp up at the same pace as buying of global ones. This confidence may be premature, however, as although interest rates globally are still on the up and corporate earnings are coming under pressure, this is not yet fully reflected in global markets.”

Fixed income back in demand

Fixed income funds saw their second highest inflow on record in January, with investors adding £1.23bn to their holdings, compared to the £3.84bn over the whole 12 month period.

Bond funds most in favour in January were tilted to the higher quality end of the market – sovereign or investment grade corporate debt “suggesting investors are content to sidestep riskier high-yield corporate bonds at present,” Calastone suggested.

Glyn said that fixed income “certainly looks much more attractive today”, as bonds are now offering the best yields in over a decade which is “clearly tempting investors keen to lock them in”.

“Central banks are still raising policy rates, though dovish comments from the governor of the Bank of England have also raised hopes that the UK’s rate-tightening cycle is at or near its peak. The developing slowdown in the economy and moderating inflation are also likely to push market interest rates lower in the months ahead. All this could signal capital gains to bondholders over time too,” he added.

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